Assignment Three Research Report (Individual) On Theory, Policy and Implementation of Corporate Governance and/or Sustainability to a Business Sector
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EuropeanCorporateGovernance.pptxCHAPTER FIVE
EUROPEAN
CORPORATE GOVERNANCE
Introduction
This session explores the fascinating diversity of corporate governance forms in Europe, and the distinctive features of this relationship based approach.
The importance of bank finance and business networks are examined, which traditionally provide sources of finance and resources that in the Anglo-American system is the role of equity markets.
The different political and legal structures of Europe have produced a rich array of corporate governance codes which are outlined. The deeper transformations of the industrial and governance systems of Germany, France and Italy are examined.
Notable failures in European corporate governance are discussed as the backdrop to the sustained movement for corporate governance reform. The efforts of the European Commission to achieve a modernising of company law and enhancing of governance is considered.
Whether this amounts to a harmonisation or convergence of corporate governance in Europe is a controversial question, made sharper by the insistent impact of the Anglo-American ideology of shareholder value which is seen as an increasing threat by many, particularly with the increasing scale and activity of Anglo-American investment funds.
European Corporations
European Relationship-Based Approaches
European countries exhibit a rich institutional diversity in corporate governance practices, structures and participants that reflect differences in history, culture, financial traditions, ownership patterns and legal systems.
Nevertheless a common understanding is emerging regarding the importance of corporate governance for developing modern corporations and growing economies.
The major difference between the corporate governance systems of the US and UK, and that of European countries is that the Europeans emphasise cooperative relationships and reaching consensus, whereas the Anglo-Saxon tradition emphasises competition and market processes (Nestor and Thompson 2000).
With the move towards equity financing and broader share ownership in Europe in the 1990s, it seemed at times as if the shareholder value market based system was inexorably advancing, but elements of the European tradition have proved resilient and enduring.
European Relationship-Based Approaches
The European insider model relies on the representation of interests on the board of directors.
More diverse groups of stakeholders are actively recognised including workers, customers, banks, other companies with close ties, local communities and national government.
Stable investment and cross-shareholdings mean the discipline of management by the securities market is not strong, and similarly the market for corporate control is weak with hostile takeovers rarely occurring. That is, long-term large shareholders give the company a degree of protection from both the stock market and the threat of takeover.
This is the continental European system with a supervisory board for oversight of management, where banks play an active role, inter-corporate shareholdings are widespread between networks of companies, and often companies have close ties to political elites.
In most European countries (and indeed in most countries in the world) ownership and control is held by cohesive groups of insiders who have long-term stable relationships with the company (La Porta et al. 1999).
Bank Finance and Business Networks
Insiders exercise control of a company either by majority ownership of voting shares, or by owning significant minority holdings and employing a combination of devices to increase their control over the company. Included among the devices to redistribute control from the majority to the minority are:
■ arranging pyramid corporate structures;
■ shareholder agreements;
■ discriminatory voting rights; and
■ procedures intended to reduce the participation or influence of other minority investors.
Pyramid structures enable people to dominate a company with only a small share of the total equity of the company. Multiple share classes can enable the insider group to have increased voting power (Nestor and Thompson 2000:10).
German Corporate Structure
To take as an example of the distinctiveness of structure of European corporate governance, the largest economy Germany. As the Deutsche Bundesbank (2014) reports:
“Of the roughly 3.7 million enterprises in Germany in 2012, just over 11,000 were public limited companies (Aktiengesellschaften or Kommanditgesellschaften auf Aktien).
These public limited companies account for roughly 18% of aggregate revenues and employ just under 9% of employees subject to social security contributions. Just a fraction of Germany’s public limited companies are listed on a stock exchange.
At the end of July 2014, shares of 711 enterprises were trading at the major trading venues of Deutsche Börse AG, and they had a market capitalisation of around €1,200 billion. In market capitalisation terms, this makes the German stock market the seventh largest worldwide and number three in Europe after the United Kingdom and France.
However, Germany’s equity market capitalisation to gross domestic product (GDP) ratio is relatively meagre by international standards, at a long-run average of 40%, which is less than the figure or the euro- area countries (50%) and well below that of the Anglo- Saxon markets (UniteD States: 111%; United Kingdom: 135%).” (2014:20).
Stock Markets America, Asia Pacific, Europe 2008-2013
Table 5.1 Distribution of Share Ownership of German Listed Public Limited Companies
Siemens (Germany) AGM Shareholders
German Corporate Structure
The preference of foreign investors is for the equities of large corporations listed on DAX national index of the 30 most important public limited companies in Germany.
Enterprise size and revenues, greater presence and recognition, and more accessible information and high liquidity make the Dax companies more attractive to overseas investors.
Interestingly German households demonstrate very different preferences, and are strongly invested in smaller caps and local firms. This is not the pursuit of superior returns from local knowledge, but pronounced regionally bound investor behavior (perhaps because the household investors know the jobs and economic well-beings of their local communities are tied up in the success of these local enterprises).
Hence the Bundesbank notes foreign investors and financial investors pursuing greater momentum returns in the German equity market, households take the opposite approach of investing for the long term in local companies (2014:32).
European Institutional Investors Table 5.2 Total Pension Fund Assets Relative to GDP in 2014
| Country | Total Assets US$ Billion | % GDP US$ Billion |
| Germany | 520 | 13.6% |
| France | 171 | 5.0% |
| Ireland | 132 | 53.7% |
| Switzerland | 823 | 121.2% |
| Netherlands | 1,457 | 165.5% |
| Hong Kong | 120 | 41.2% |
| Japan | 2,862 | 60.0% |
| South Korea | 511 | 35.3% |
| Malaysia | 205 | 60.75% |
| Brazil | 268 | 12.0% |
| Mexico | 190 | 14.6% |
| South Africa | 234 | 68.6% |
| Canada | 1,526 | 85.1% |
| Australia | 1,675 | 113.0% |
| UK | 3,309 | 116.2% |
| US | 22,117 | 127.0% |
| TOTAL | 36,119 | 84.4% |
European Pension Funds
Despite the gradual development of equity markets, financial markets, and overseas institutional investment (largely from the Anglo-American world) in German and other European economies, the economies of Europe on the whole remain less financialized than Anglo-American markets.
This is seen particularly in the slow growth of pension fund assets in many European countries (including Germany, France, Italy and Spain), where the tradition of state and company pensions survive, though the Netherlands and Switzerland are notable exceptions to this (Table 5.2).
Rather than this being an anachronism there is an argument to be made for the equity and efficiency of state provision of pensions, particularly given the extremely inequitable distribution of all financial assets revealed in the US (but also in the UK and Australia), which the private pension funds and superannuation schemes appear to have contributed to, rather than replaced (Table 4.14).
European Corporate Governance
In this context the validity of applying exclusively Anglo-American inspired corporate governance reform programs to Europe could be questioned. The agency cost reasoning of the outsider system aims to secure the accountability of corporate executives through enhancing the power of non-executive directors who it is often assumed will represent shareholder interests.
In contrast in many countries of Europe majority shareholders are often in a dominant position with strong financial incentives to monitor management closely.
Agency costs do not have the same resonance in insider systems where the danger is that majority shareholders, who may be board members will collude closely with management. In this system the priority for reform needs to be protection of minority shareholders and other stakeholders liable to be neglected by the majority shareholders and management acting in concert.
Bank Finance and Business Networks
Countries with insider systems tend not to have developed the institutionalisation of wealth of the English speaking countries, and there are few pension funds, mutual funds and insurance companies of comparable scale and significance.
In place of this, corporate finance is highly dependent upon banks with companies having high debt/equity ratios.
Banks often have complex and long standing relationships with corporations, rather than the arm’s length relations of equity markets.
Consequently displacing the emphasis upon public disclosure of market based systems, the insider system is based more on deeper but more selective exchange of information among insiders.
Regional Diversity
The continuing defining feature of European corporate governance is its institutional diversity.
However, if two broad regional variations are identified, the Latin forms of corporate governance existing in Southern Europe, and the Germanic systems predominating in Northern Europe, the fact is that in recent years both variations have come under increasing pressure to assume elements of the Anglo-American market based approach to corporate governance.
By way of contrast to the German system of corporate governance, an analysis of corporate governance in Italy reveals one of the least reconstructed systems among the advanced industrial countries.
Italian corporate governance is characterised by a weak capital market, and almost non-existent market for corporate control, with banks that have a stake in corporate financing but play a minor part in governance. This leaves the field open for major active investors or blockholders, to monitor senior management, with minority shareholders likely to be ignored. Andrea Melis (2000) suggests, unlike the US system summarised by Roe as ‘strong managers, weak owners’, that in Italy the reality is almost the reverse with ‘weak managers, strong block-holders, and unprotected minority shareholders’.
Regional
Diversity
Regional Diversity
In France the corporate governance system was dominated by cross-shareholdings – what Morin calls a ‘financial networked economy’, which inspired by the US shareholder value model is now transforming towards a ‘financial market economy’.
These changes have been hastened by the influence of the large Anglo-Saxon institutional investors in the ownership structure of the largest French firms, without any equivalent French institutional investors able to mobilise long term investment funds.
The switch from defined benefit pensions schemes where the employer bears the risk, and pensions fund trustees can follow long term and prudent investment policies, to defined contribution pensions schemes where the employee bears the risk, have changed pension fund investment strategies around the world towards higher risk strategies with more explicit attempts to target equities and portfolios that will outperform the market. In turn this more aggressive investment strategy places corporate management under growing pressure to deliver value.
Different Regulatory Structures
For some decades the European Union has moved towards common internationally recognised standards with the introduction of the common European currency, free flow of capital, goods, services and people across borders of the countries of the European Union.
Some developments in corporate governance have suggested further integration of economies including the privatisation of state owned companies that often begin to operate internationally and have an international shareholder base; the growth and diffusion of shareholding both within and between countries; the increased merger and takeover activity among large European corporations to create global players, and the increasing activity of Europe’s larger stock exchanges (Weil, Gotshal and Manges 2002:1).
However a series of important distinctions remain among the European countries, which also distinguish the European approach from other models of corporate governance policy and practice (Weil, Gotshal and Manges 2002:3–5):
Different Regulatory Structures
■ Company law: Many countries of Europe have a distinctive tradition of company law
■ Employee representation: Employee representation is embedded in law in Austria, Denmark, Germany, Luxembourg and Sweden. Employees of companies of a certain size have the right to elect some members of the supervisory board.
■ Stakeholder issues: Different European countries articulate the purpose of corporate governance in different ways, some put the emphasis upon a broader range of stakeholder interests
■ Shareholder rights and participation mechanics: Laws and regulations relating to the equitable treatment of shareholders, including minority rights in takeovers, and other transactions vary significantly among countries.
Different Regulatory Structures
■ Board structure, role and responsibilities: Two-tier board structures are a legal requirement for large companies in many countries in Europe, but similarities in practices between unitary and two-tier boards are significant. Both types recognise a supervisory function and a management function, although the distinction between them is more formally recognised in the two-tier board.
■ Supervisory body independence and leadership: The purpose of the supervisory board is to ensure accountability and provide strategic guidance, leaving management with the capacity to make operational decisions.
■ Board committees: Many supervisory board duties can be delegated to board committees, particularly where the interests of management and the interests of the company may be in conflict.
■ Disclosure: Variations in disclosure requirements and resulting differences in information provided to investors is a potential impediment to a single European equity market. Nevertheless the amount of disclosure is increasing, and there is more agreement about the type of information that needs to be disclosed.
Development of European Corporate Governance
A flurry of new corporate governance codes in Europe in the late 1990s and early 2000s, which has continued till the present day, was in large part determined by the intention not to be left behind in accessing new sources of investment (Figure 5.1).
“European interest in corporate governance improvement – and associated company law reform – and in the development of codes has grown… gaining considerable momentum in the late 1990s. This interest has paralleled heightened competition brought about by enhanced communication and transportation technologies, and the reduction of regulatory barriers in the European Union and internationally.
It has also paralleled growth in the importance of equity markets and a trend toward broader-based shareholding in many EU Member States. Increasing interest in corporate governance improvement and attempts to articulate generally accepted norms and best practices is the result of numerous factors.
Chief among them is the recognition that a firm’s ability to attract investment capital, which is now internationally mobile, is related to the quality of its corporate governance.” Weil, Gotshal and Manges 2002:8)
Multiple Corporate Governance Reform Processes in Europe
Review
Findings
FRANCE
ITALY
SPAIN
DENMARK
Review
Findings
GERMANY
SWITZERLAND
SWEEDEN
AUSTRIA
NETHERLANDS
EUROPEAN UNION
NORWEGIA
BELGIUM
Vienot Report
Memberships, Powers and
Operations of the Boards
1995
2nd Vienot Report
Separation of Powers of
the Chairman and CEO
And disclosure of executive
Remuneration 1999
Boards Report
Governance of the Enterprise
1998-2004
Draghi Reform
Principles of Correct
Administration
1998
The Olivencia Report
Code of Ethics
1998
UK Cadbury Report
1992
OECD Principles of
Corporate Governance
The Baums Reports
Recommendations that reflect
changes in Corporate Law
2001
Swiss Code of Best Practice
Recommendations 2002
Swedish Code of Best Practice
Report of the Code Group 2002
Norwegian Corporate Governance
Code of Practice 2004
Dutch Corporate Governance Code
Principles and Best Practice
Provision 2003
European Commission Modernising
Company Law and Enhancing
Corporate Governance 2003
Belgian Code on Corporate Governance
Principles to support long-term
value creation 2004
Preda Report
Code of Conduct
1999-2004
The Aldama Report
Transparency and Security
in the Markets 2003
Corporate Governance
Principles
International Best Practices 2004
The Norbis Committee Report
Recommendations as supplement
to existing laws 2001
Corporate Governance
Report in Denmark
1992-2002
The Cromme Code
Regulation
2002-2003
Austrian Code of Corporate
Governance
Framework on shareholder,
Board, transparency and
Auditing 2002
Source: Clarke T. (2006)
UTS Centre For Corporate Governance
24
The Transformation of Corporate Governance Systems: Germany
The German business sector is traditionally typified by a relatively strong concentration of ownership of individual enterprises; the importance of small and medium-sized unincorporated companies; a close correspondence between owners and managers; and a limited role played by the stock market.
Beyer and Hassel identify the salient features of the system at the time as: “The German corporate governance regime is not only bank based, but also has weak rights for minority shareholders, a lower rate of return for shareholders and a weakly developed market for corporate control. Moreover, it coincides with a system of co-determination and centralised wage bargaining which gives labour a prominent role in the firm’s decisions on restructuring and pursuing product market strategies’ (Beyer and Hassel 2002:310).
The central characteristics of the corporate governance of German enterprises is the insider nature in which all interested stakeholders – managers, employees, creditors, suppliers and customers are able to monitor corporate performance.
Supervisory boards
The commitment to codetermination in Germany has survived largely unscathed through the company law reforms that have so far taken place, despite the fact that Anglo-American business commentators are now so far removed from the basic tenets of social democracy that they seem to believe the supervisory board must come from another planet.
To company directors and executives from the United States and Britain it is now fundamentally inconceivable that employees could be members of the board (even a supervisory board). This hardening attitude is an illustration that the market based system has compounded social inequality as well as material inequality measurably in recent decades.
However social democracy still survives in north European countries, if not entirely intact, certainly in some fundamentals. The German industrial project, which proved highly successful for most of the second half of the twentieth century was to invest in high quality production with a highly skilled workforce.
Companies substantially invested in their employees and offered security of employment, and workers reciprocated with commitment and ingenuity. This was the social and economic basis that enabled the supervisory board to function in Germany and other countries.
The Dual System: Segregation of Duties
Board of
Management
BoM
Supervisory
Board
SB
AGM
Company Management
Joint accountability
Chair of Board coordination
Company oversight
Supervision of
BoM
Chair of Supervisory
Board coordination
CONTROL
of SB
and BoM
i.e.
Information, recommendations
to SB
Preparation of SB meetings
Corporate Governance
i.e.
Election/ remuneration of
BoM
Business monitoring/ RMS
Approval of :
1. Business plan
2.Defined transactions
3.Annual finalized statements
Proposal of auditors
Corporate Governance
i.e.
Election of S
-
R
Discharge of acts of SB and
BoM
Appointment of Auditors
Appropriation of net income
Approval of capital increase
Source: Joachim Heins-Bunde (2006)
27
The Dual system : Representation of Employees and Shareholders
Source: Joachim Heins-Bunde (2006)
Supervisory Board
Shareholder Representative
Employee Representative
Independent outside expert
Social Council
members
(blue collar)
UNION
reps
Management Rep
(white collar)
Chair of Supervisory Board with casting vote in stalemate situation
Vice Chair Supervisory Board
Elected by AGM (5 years)
Elected by Employees
( 5 years)
28
Source: Joachim Heins-Bunde (2006)
The Dual system : Representation of Employees and Shareholders
29
Activities of Supervisory Board
Audit Committee
3
-
4 times/ year
ü
Financial statements/
reporting
ü
RMS
ü
SOX
ü
Auditors:
1. Independence
2. Nomination proposals
3. Fees
Personnel Committee
3
-
4 times/ year
ü
Remuneration
ü
Contracts
ü
Nominations
Strategy Committee
1
-
2 times/ year
ü
Corporate Strategy
ü
BU strategies
ü
Key projects
Technology Committee
1
-
2 times/ year
ü
R&D priorities
ü
NBD
Internal
Auditor
External
Auditors
•
Audit program
•
Financial statements
•
SOX
•
Audit program
•
Key results
Pre meetings
With Shareholders
Representatives
Plenary Sessions
•
1 times / year
•
1 site visit
Discussion/ meetings
Chair of Supervisory Board
–
Chair Board of Management
Pre meetings
With Employee
Representatives
Source: Joachim Heins-Bunde (2006)
30
The Transformation of Corporate Governance Systems: France
France and Italy are the European countries traditionally with the smallest ownership of company shares by financial institutions. The majority of shares have been owned by non-financial enterprises, which reflects an elaborate structure of cross and circular ownership.
That is, companies own each other’s shares in a circular relationship. No external party could readily gain entry to the network, or seize control of any entity in the network, and all of the member companies supported each other against outsiders. “Cross participation among companies is an important element of French corporate governance. It shields managers from the short-term pressures of the market by making a change in corporate control more difficult – a feature that may be conducive to long-term, relation-specific investments, but one that also weakens pressures to maximize performance” (OECD 1997:111).
Another distinguishing feature of France is the concentration of ownership, which is higher than in any other G7 (Group of Seven) industrialised country with the exception of Italy. In France half the firms are controlled by one single investor owning the absolute majority of capital. On boards the role of non-executive directors is muted, as business tends to be dominated by the President Directeur General (PDG) who combines the functions of the chair and chief executive.
The Transformation of Corporate Governance Systems: France
However, France is responding to the pressure for greater transparency and accountability by foreign investors who by 2001 held 50 per cent of the equity in large public companies.
The business federation MEDEF accepted the disclosure of the remuneration of top executives, and the government proposed to separate the powers of the President Directeur General. Yet though France has among the most open capital markets in the world, the number of non-French directors appointed to French companies is extremely low.
While there are signs of a general improvement in corporate governance among some of France’s leading corporations, the dramatic losses of Vivendi in CEO inspired overseas adventures (that took a French water company to Hollywood and back), indicated the country is not immune to corporate governance failures.
Corporate governance has an essential role to play in the performance of companies, not just in securing accountability, and this includes promoting innovation and the institutions that support new industries.
The Transformation of Corporate Governance Systems: France
Corporate governance has an essential role to play in the performance of companies, not just in securing accountability, and this includes promoting innovation and the institutions that support new industries.
Goyer (2001) citing Michael Porter’s The Competitive Advantage of Nations (1990) and Hall and Soskice’s Varieties of Capitalism (2001) insists “corporate governance is a key element shaping the innovation process in advanced industrial nations.”
He charts the system of corporate governance in France that supported the strategy of innovation firstly led by the state under dirigisme, and subsequently by the large French firms since the mid-1980s.
As the innovative capacity of French firms in industries such as aircraft, electrical products, life sciences, and railway equipment developed, the system of corporate governance adapted from supporting the central role of the state, to providing autonomy for senior managers as they restructured and pursued acquisitions internationally including in the United States
The Transformation of Corporate Governance Systems: Italy
The Italian corporate governance system has a history of problems with a pyramidal structure in place in most companies. The Italian corporate governance system is characterised by ‘a high degree of direct ownership concentration, both for listed and unlisted companies’ (Bianco and Casavola 1999:1058).
“Weak managers, strong blockholders and unprotected minority shareholders” summarise the Italian corporate reality (Melis 2000:347; 2004; Becht 1997). The strong block-holders are usually families or coalitions associated with such families.
The blockholders have a strong influence over management due to their large ownership of the corporation, and also through cross-shareholdings with other groups and companies. In the great majority of companies the control structure is characterised by the dominance of the main shareholder (Biancha et al. 1997).
Corporate governance in Italy is built around family capitalism, the involvement of banks and financial institutions (although usually not directly through large ownerships), considerable state presence (although this is changing) and the widespread use of pyramidal groups.
Corporate Governance Failure in Europe
Though there was much evidence of widespread weaknesses in corporate governance in Europe, in recent times Europe did not experienced the frequency and scale of corporate failures witnessed in the United States.
However, there were sufficient accounting and corruption scandals to convince regulators that the accountability and transparency of the system was badly in need of reform. Illustrative of how badly things could go wrong in Europe was the spectacular failure at Parmalat in 2003 that brought more than a note of ridicule to the standards of European corporate governance, and the failure of Ahold, described at the time as Europe’s Enron.
Though both companies survived with a new management installed and dramatic corporate restructuring, their experience was an urgent reminder of the continuing poor state of corporate governance in Europe.
The Fall of Parmalat
The Reform of European Corporate Governance
The European Commission was committed to the continuous improvement of corporate governance in the region and in a statement on this to the European Parliament insisted:“Good company law, good corporate governance practices throughout the EU will enhance the real economy:
■ An effective approach will foster the global efficiency and competitiveness of business in the EU. Well managed companies, with strong corporate governance records and sensitive social and environmental performance, outperform their competitors. Europe needs more of them to generate employment and higher term sustainable growth.
■ An effective approach will help to strengthen shareholders’ rights and third parties’ protection. In particular, it will contribute to rebuilding European investor confidence in the wake of a wave of recent governance scandals. The livelihood of millions of Europeans, their pensions, their investments are tied up in the proper, responsible performance and governance of listed companies in which they invest” (Commission of the European Communities 2003:3).
The Reform of European Corporate Governance
In 2003 the European Commission adopted an Action Plan for Modernising Company Law and Enhancing Corporate Governance in the European Union, the main objectives of which were:
■ to foster efficiency and competitiveness of business;
■ to strengthen shareholder rights and their party protection.
On 8 October 2004 the Societas Europaea (SE) was created with the entry into force of the Statute of the European Company, this makes it possible for European companies to merge across borders, and to operate across the European Union with reduced costs and unified management. The issue was whether companies needed more flexibility to establish SE and operate on a Europe wide basis
The question of whether countries would converge towards a common corporate governance system, or sustain the present diversity of institutions was one of the key issues in the 2000s. Lower economic growth and higher unemployment in Europe compared to the Anglo-American countries since the mid-1990s, undermined some of the confidence in Europe’s social model (though by 2005 Germany had returned to its former position as the world’s largest exporter).
The Reform of European Corporate Governance
However, debates on company law harmonisation in the European Union have been held up by countries not wishing to see elements of their own systems of corporate governance disappear in the harmonisation process.
One explanation for this impasse is the institutional complementarity thesis which justifies the continuing diversity of systems, rejecting the ‘one-best-way’ strategy adopted by the ‘convergence thesis’.
Instead a plurality of models is assumed, each corresponding to local circumstances, supported by a cluster of social norms and regulation, enabling balanced economic development.
As Reberioux argues what is often presented as the practical economic inevitability of convergence, is in essence a profoundly ideological and political argument
The Impact of Shareholder Value
The sharpest point of the advance of Anglo-Saxon modes of corporate governance is the principle of shareholder value as the central objective of corporations.
Ultimately the direction of the development of corporate governance in Europe will be determined by the extent to which shareholder value orientations and their accompanying managerial practices take hold.
Jurgens, Naumann and Rupp (2000) suggest the most visible manifestation of change in the direction of a shareholder value economy in Germany are the internal changes by management introducing shareholder value oriented management control and incentive systems.
They claim that these changes have primarily affected a handful of large companies such as DaimlerChrysler and Siemens, though these flagship companies have linkages that flow through to the rest of the economy.
The Impact of Shareholder Value
Successive changes in corporate governance practices in Germany since the mid-1990s have begun to have an impact pushing towards a more market based system however including:
■ an increase in the legal protection for minority shareholders;
■ the evolution of more offensive takeover practices and regulation;
■ a changing approach by major blockholders – banks and companies – towards cross-shareholding, reducing their monitoring role.
While public policy has facilitated these changes it is corporations that have driven them, taking active steps towards disengaging in cross-shareholdings and interlocking directorships, towards more transparency and shareholder value, and towards a more active market for corporate control.
EU dominates global FDI
One reflection of the growing integration of the pan-European economy into the world economy is that it is now the largest investor of direct investment in other countries (including other European countries):
“The EU-15 is by far the largest investor ‘abroad’ (the data is not adjusted for intra-EU FDI), accounting for half of the world’s outward FDI stock. In 1980 it was 39 per cent compared to 43 per cent for North America. North America’s share has since fallen to 29 per cent.
The EU is, at 40 per cent in 2003, the largest recipient of FDI ahead of North America (22 per cent). Central and Eastern Europe, despite the progression since the early 1990s, still accounts for only 3 per cent of the global inward FDI stock. (European Commission 2005:24)
The Impact of the Global Financial Crisis in Europe
The extensive efforts made by the European Union and the constituent economies to progress the reform of corporate governance throughout the apparent prosperity of the early 2000s, and the increasing influence of Anglo-American financial institutions in the transformation of corporate governance structures, practices and relationships, were suddenly thrown into chaos by the intensity and scale of the global financial crisis in 2007/2008.
Ensuing years, as in the Anglo-American world, were spent responding to the crisis, attempting to understand its causes, and searching for serious regulatory measures that would prevent a repetition of this disastrous experience.
For decades Europe had actively sought deeper financial integration with the United States, reducing barriers to trade, and liberalizing markets, leading onwards towards globalisation.
Advocating systemic change President Nicolas Sarkozy of France proclaimed, “The world came within a whisker of catastrophe. We can’t run the risk of it happening again. Self-regulation as a way of solving all problems is finished. Laissez-faire is finished. The all-powerful market that always knows best is finished” (Washington Post 28 September 2008).
The Impact of the Global Financial Crisis in Europe
All over Europe as the contagion spread the toxic consequences of the subprime crisis were wreaking havoc in financial institutions, threatening entire financial systems, and severely undermining the fragile unity of the European Union. The scale of the crisis for European financial institutions, relative to the size of the sector, was becoming just as serious as for US financial institutions.
In other European countries the response to the crisis was largely managed on a national basis as financial institutions failed. Fortis one of the world’s largest banking, insurance and investment companies was rescued by the Netherlands Government for its Dutch operations, and France’s BNP Paribas buying its Belgian and Luxemburg operations. Dexia the Belgian financial services company was rescued by the French, Belgian, and Luxemburg governments.
At UBS in Switzerland a major effort was required to save the bank (Figure 5.10). As the entire banking system of Iceland began to fail, the government invested €600 million for a 75% stake in Glitnir, the second largest bank. Finally in Germany the second largest property lender Hypo Real Estate received a €50 billion rescue coordinated by the government, including €20 billion from the Bundesbank.
Figure 5.10 The Financial Crisis at UBS
The Impact of the Global Financial Crisis in Europe
In an unprecedented effort to provide a coordinated response, the central banks of the major industrial powers simultaneously lowered interest rates, as it became clear that a systemic response was required to a systemic crisis.
As the finance ministers of the G7 countries met in emergency session in Washington, Dominique Strauss-Kahn the head of the IMF insisted, “Intensifying solvency concerns about a number of the largest US-based and European financial institutions have pushed the global financial system to the brink of systemic meltdown.”
The G7 ministers announced a plan to free up the flow of credit, back efforts by banks to raise money and revive the mortgage market. The 15 Eurozone leaders agreed to meet again in Paris to attempt a common approach, with Angela Merkel the German Chancellor declaring “We must redirect the markets so that they serve the people, and not ruin them” (BBC, 12 October 2008).
The Impact of the Global Financial Crisis in Europe
Europe and the US had come to adopt similar strategies to address the enveloping crisis, yet with different philosophies regarding the outcome.
President Bush declared, “This is an essential short-term measure to ensure the viability of America’s banking system. This is not intended to take over the free market, but to preserve it.” The Treasury Secretary Henry Paulson said the lack of confidence in the financial system was a threat to the US economy, and argued that the government taking equity stakes was “objectionable to most Americans, including myself. We regret taking these actions, but we must to restore confidence in the financial system” (BBC 14 October 2008).
In contrast the President of the European Union Nicolas Sarkozy insisted “Cette crise est la crise de trop. Il faut refonder le système…. fonder un nouveau maximizing sur des valeurs qui mettent la finance au service des entreprises et des citoyens et non l’inverse”. (“This crisis is one too much; the system has to be re-established…a new capitalism based on values that place finance in the service of businesses and citizens, and not the reverse”) (France Info 27 October 2008).
Colliding Systems of Corporate Governance?
The international financial crisis exposed in high relief the different systems of corporate governance that exist in the United States and Europe.
Just as the 2001 Enron era corporate excesses and collapses were centred in the US, the origin of the 2008 global financial crisis was in the irresponsible extremes of the securities industry of the investment banks of Wall Street.
The US presided over the explosion of the global securities markets in the early 2000s, issuing over 75% of new securities: for example in 2006 of the world total of $4,138 billion of securitization issuance, the US contributed $3,256 billion (IFSL 2008:9) (Table 5.7).
Table 5. 7 Securities Issued Based on Originating Country or Region
| Country | 2003 | 2004 | 2005 | 2006 | 2007 |
| US | 3671 | 2649 | 3139 | 3256 | 2892 |
| Japan | 33 | 51 | 81 | 83 | 76 |
| UK | 86 | 130 | 157 | 242 | 237 |
| Germany | 8 | 10 | 19 | 47 | 26 |
| France | 9 | 10 | 9 | 10 | 5 |
| Spain | 44 | 41 | 50 | 55 | 84 |
| Italy | 38 | 43 | 41 | 38 | 36 |
| Europe Total | 248 | 303 | 407 | 604 | 681 |
European Post-Crisis Regulatory Reforms
The catharctic experience of the global financial crisis lingered for some years as the financial sector restructured and gradually stabilized around a new normal.
The efforts at reform substantionally continued internationally through the Basel III process, and efforts of the Financial Stability Board, the European Unions own sustained efforts, and the many national government initiatives to advance robust regulatory reform.
However rather than a radical attempt to create a more sustainable global financial system, the reform process seemed to drift towards strengthening the existing system. A High Level Group on Financial Supervision in the EU (2009) chaired by Jacques de Larosiere set out the agenda for reform stating that
“Financial regulation and supervision have been too weak or have provided the wrong incentives. Global markets have fanned the contagion. Opacity, complexity have made things much worse. Repair is necessary and urgent” (2009:3).
From Harmonisation to Marketisation?
Indeed the European project in recent decades may be interpreted from a more critical perspective as moving from harmonization of the corporate law of the member states to a much cruder marketization of the capital markets and corporate control of Europe as Horn argues this represents:
“The shift from a legislative programme centred on company law harmonisation towards a regulatory approach based on minimum requirements and mutual recognition, increasingly geared at adjusting the governance of corporations to the demands of liberalised capital markets” (2012:84).
Horn sees this as part of a political struggle over corporate governance, highlighted in the contention over executive compensation and risk management in the post-financial crisis period of reform when the distributional consequences of corporate governance in inducing inequality were beginning to be perceived.
From Harmonisation to Marketisation?
From this perspective the European Union as a regulatory supra-state may be more critically examined (Zumbansen 2009; Eberlein and E. Grande 2005; van Apeldoorn et al 2003; 2009).
In concentrating on developing the market for corporate control over the last two decades the European Commission was engaged in a political project since this directly market impacts directly upon who is in control of the corporation and for what purposes it is run.
The marketization of corporate control puts the corporate enterprise, its management and workers firmly under the control of the capital markets, ensuring strategic relations and decisions are mediated by the market (Horn 2011; 2012; Davies 2012).
This represents a profound shift from the rhetoric of the European Community some decades earlier where the it was dedicated to industrial democracy and stated in the 1975 Green Paper on Employee Participation and Company Structure (European Commission) that “employees are increasingly seen to have interests in the functioning of enterprises which can be as substantial as those of shareholders, and sometimes more so.”
By the early 2000s the European Commission had switched allegiances and was enveloped in the campaign for what was vainly described as ‘shareholder democracy’ (European Commission 2003).
From Harmonisation to Marketisation?
As the European Union advanced the cause of the integration of capital markets, corporate governance regulation was increasingly conceived as to subject to capital market and financial market imperatives.
In the consideration of corporate control the interests earlier recognized in company law and worker participation, corporate governance was now much more narrowly conceived as relating exclusively to the focus on the internal and external relations of companies and shareholders.
The adoption of the Anglo-American agency theory approach to corporate governance emphasizing purely the relationships between shareholders as principals and managers as agents meant the abandonment of the other stakeholders who had featured prominently in earlier European policy (Deakin 2009; Van Apeldoorn and Horn 2007).
Corporate Governance in Eastern Europe
If Western Europe experienced prolonged contention concerning the consequences of reform of its corporate governance systems, the experience of Eastern Europe in its transition from command to market economies was far more difficult.
The often painful transition of the Eastern European economies towards market systems reveals there is no ready formula to replace centrally planned economies with efficient market economies (Neumann and Egan 1999; McCarthy and Puffer 2002).
Questions of corporate governance have been at the heart of the effort at privatising major corporations in Eastern Europe, and the failure to find satisfactory answers to these fundamental questions initially left economies weak and companies disoriented.
The vacuum created by the lack of effective corporate governance mechanisms allowed managers of state enterprises to exercise insider control and strip corporate assets during the process of privatisation.
Corporate Governance in Eastern Europe
The Czech Republic was once regarded as a model for post-communist transition, yet Neumann and Egan explain how inadequate restructuring of major companies in the privatisation process, and insufficient efforts at legal and regulatory oversight have left a trail of bank failures and stock market scams.
The country is now introducing reforms in the areas of capital market supervision, banking supervision, minority shareholder rights, and stock market regulation. In a bid to reduce market failure and provide economic stability, it is adopting elements of both the German and Anglo-Saxon models.
Looking further across the East European transition economies Joseph Stiglitz (1999) surveyed the wreckage of the economies subjected to market shock therapy. Tragically many of these economies went backwards rather than forwards after years of transition to market economies, andit has taken a long time to recover.
With corporations hopelessly in arrears with creditors, and effectively bankrupt banks, Stiglitz could only offer the solution of a government takeover of large proportions of existing assets, with a subsequent process of reprivatisation paying greater attention to problems of corporate governance than the first disastrous effort.
Corporate Governance in Eastern Europe
The Eastern European countries have gradually recovered their economies and societies from the blight of Stalinism, the excesses of free market capitalism, and the pains of the transition, t
They are fashioning new entrepreneurial enterprises with dynamic cultures often around information technology services and other new industries.
Nolke and Vliegenthart (2009) have proposed that the economies of Eastern Europe now need to be considered as new extensions of the varieties of capitalism thesis (Hall and Soskice 2001).
They pose the question of whether the contemporary Eastern Europe model fits into the liberal market economies (LMEs), typically represented by the U.S., or coordinated market economies (CMEs), typically represented by Germany, or whether there is in fact emerging “the rise of a hybrid variety of capitalism that combines features of both types” in Eastern Europe.
Russian Corporate Governance: ‘Wild Capitalism’
In their account of corporate governance in Russia, McCarthy and Puffer argue that having experienced the most flagrant abuses of shareholder rights, and management enriching themselves, as in the excesses at Gazprom, the upheaval of ‘wild capitalism’ is now over and Russia is destined to apply more exacting governance standards.
The state sponsored enthusiasm for a market alternative to the vast public sector in Russia, delivered through an insider model of majority shareholder domination, has created a potent cocktail of constant intermingling of the governance of the state, financial institutions and industrial magnates, which is unstable and fractious
Viewed from any persective the Russian economy, finance and corporate governance systems appear riven with uncertainty, contradictions, and weaknesses that may take some decades to resolve.
Conclusions
The transformation of corporate governance in Europe is a fascinating but clearly unfinished portrait.
The canvas encompasses immense diversity in the institutional arrangements and practices of corporate governance (Clarke and Chanlat 2009).
Though these might be dismissed as archaic and in need of drastic reform from an Anglo-American point of view, the peculiarities of the different corporate governance systems do serve a purpose as far as their adherents are concerned.
The distinctiveness of Europe has produced some of the most valued corporations in the world, together with an exceptional quality of life in many communities.
Though Europe has embarked on a process of change in corporate governance and company law in recent years to integrate better into international financial and product markets, and the drive towards market integration by the European Union continues in which corporate governance is reduced to an exclusive concern for the interests of shareholders and markets, there are important indications that the commitment to social democracy will survive this experience.
Owners
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Residents
of which
45.5 46.4 41.2 48.4 45.4 44.9 45.8 44.6 42.8 42.9
Households
13.3 11.2 10.0 10.3 12.6 12.8 13.1 12.2 11.4 11.8
Institutional Investors
29.8 32.7 29.4 36.1 31.1 30.6 31.1 30.3 29.6 29.4
Non-Financial investors
12.7 16.1 15.8 22.9 19.4 19.2 18.7 18.3 18.9 18.3
Financial Investors
17.2 16.6 13.6 13.2 11.7 11.4 12.3 12.0 10.7 11.1
Banks
4.7 4.7 3.1 3.5 2.6 2.3 2.2 1.9 2.1 2.7
Mutual funds
8.0 7.7 5.8 5.3 5.9 6.2 6.9 6.8 6.4 6.3
Insurers
2.6 2.5 2.5 2.1 2.1 1.9 1.5 1.6 0.8 0.9
Other financial investors
1.8 1.7 2.2 2.3 1.1 1.0 1.9 1.7 1.5 1.3
Non residents
54.5 53.6 58.8 51.6 54.6 55.1 54.2 55.4 57.2 57.1
*Data for 2014: as at end-May 2014, otherwise year-end-data. Weighted by market capitalization. Deutsche Bundesbank
Source: Adapted from Deutsche Bundesbank, Monthly Report, September 2014
Supervisory Board
Shareholder Representatives Employee Representatives
Independent outside expertsSocial Council
Members
(blue collar)
Union
Reps
Mgmt rep
White collar
Elected by AGM (5 years)
Elected by employees (5 years)
Chair of Supervisory Board with casting vote in stalemate situat ion
Vice Chair Supervisory Board
GLOBAL FINANCIAL CRISIS 2008-2009
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
70
60
50
40
30
20
10
after UBS took over DRCM in May 2007, losses grew to US$124 million or 16% of the US$19 billion in losses UBS recorded
STABILIZING THE SHIP -2009
US$17.2 billion in 2008, the biggest single-year loss of any company in Swiss history. Further losses of more than US$50 billion from subprime mortgage investments and cut more than 11,000 jobs
DILLON READ CAPITAL MANAGEMENT CRISIS 2007
New restructuring and compensation plan.
GLOBAL FINANCIAL CRISIS 2008-2009
19992000
20012002
2003
200420052006
2007
2008
2009
2010
20112012
2013
20142015
2016
70
60
50
40
30
20
10
after UBS took over DRCM in May 2007,
losses grew to US$124million or 16% of
the US$19billion in losses UBS recorded
STABILIZING THE SHIP -2009
US$17.2billion in 2008, the biggest single-year loss of any company in Swiss history.
Further losses of more than US$50billion from subprime mortgage investmentsand
cut more than 11,000 jobs
DILLON READ CAPITAL MANAGEMENT CRISIS 2007
New restructuring and compensation plan.
