Corporate Governance and Politics: towards an international harmonization?
Severe economic crises have caused growing discontent in recent years. This discontent has impacted corporate governance debates and reforms. Specifically, politics has emerged as one of the strongest determinants in corporate governance. This article considers the relationship between corporate governance and politics, analyzing the initiatives in the United States, United Kingdom and European Union.
The relationship between corporate governance and politics.
Politics is one of the determinants of corporate-governance. In Unocal, the Supreme Court of Delaware defined corporate law as “not static” but rather as something that “grow[s] and develop[s] in response to, indeed in anticipation of, evolving concepts and needs”. In this evolving context, even the concepts of “value” and “profit” are not absolute concepts, but shall be defined against a well-defined alternative (see Mayer, “The Economic Analysis of Accounting Profitability”, 1987). Politics intervene in corporate governance by designing such alternative: social value for example is an alternative to shareholder value, which is the main parameter because it is measurable and precise (see Mayer, “Firm Commitment”, 2013 Chapter 8).
Many scholars have considered the importance of politics in the context of corporate governance (among others Charny, Gilson, Gordon, Hansman, Kraakman, more recently Kahan and Rock, and Meyer). Among them, Mark Roe considered that peace is a precondition for nations to prosper, and “[t]he ways in which nations achieved – and maintained – that peace were not all identical; and these differences shaped corporate governance, ownership, and power inside the firm” (Roe, Political Determinants of Corporate governance, vi). Regarding long-term value at the international, in their article “The End of History for Corporate Law”, Hansmann and Kraakman argued:
“[t]here is no longer any serious competitor to the view that corporate law should principally strive to increase long-term shareholder value. This emergent consensus has already profoundly affected corporate governance practices throughout the world. It is only a matter of time before its influence is felt in the reform of corporate law as well.”
Did politics determine the convergence of corporate governance among the different legal system, with a greater attention to long-term value and shareholder engagement?
Three texts may be helpful to answer to this question: the revised European Shareholders Rights Directive (SRD), the UK Corporate Governance Code and the Stewardship Code (elaborated by the Financial Reporting Council), and the Institutional Stewardship Group (ISG) Principles (elaborated in the US). These pieces are a reaction to the severe economic crisis in recent years. Their different nature (public regulation, best-practice code, and a private initiative) confirms the heterogeneity of three (still) distant corporate governance frameworks.
Three different models: US, EU and UK.
The European Union is one of the best examples to understand the way politics impact corporate governance. In the post-crisis era, the Alternative Investment Fund Manager Directive provided more rigid corporate governance requirements for alternative investment fund managers, which reduced their risk appetite and required independent risk-management. On the specific question of the long-term value, the reform of the SRD implemented clear political choices: long-term shareholder engagement is a key pillar of the SRD; further, the Environmental, Social, Governance (ESG) goals that are part of the Principle of Responsible Investments, open to a broader stakeholder value approach.
The UK remains rather peculiar. Unlike continental Europe and the US, where respectively concentrated ownership and anti-takeover provisions limit the exposure of companies to takeovers, British companies have experienced a higher exposure affecting both stakeholder commitments and long-term view. This difference is related to the massive privatizations implemented by Margaret Thatcher. The Stewardship Code (SC) and the UK Corporate Governance Code (CGC), both under revision process this year, try to correct this issue. The SC encourages “the long term success of companies in such a way that the ultimate providers of capital also prosper. Effective stewardship benefits companies, investors and the economy as a whole”. Consistent with this, the CGC states that “the purpose of corporate governance is to facilitate effective, entrepreneurial and prudent management that can deliver the long-term success of the company”. The long-term perspective emerges in particular at Principle A1, when considering the role of the board (“collectively responsible for the long-term success of the company”), and the remuneration, (“designed to promote the long-term success of the company … [with]… [p]erformance-related elements … transparent, stretching and rigorously applied”). The newly launched consultation on the reform of the CGC will probably contribute to further emphasize a long-term perspective.
Turning finally to the US, although this is the country where shareholder value maximization was theorized and spread, the long-term perspective is not an entirely extraneous concept. Some decisions of the Delaware courts were already conducive of a long-term horizon in managing the company. Unocal is a first example in this sense. A further example is the Fiat-Chrysler merger, a process started in 2009 and concluded in 2014: the government, a private enterprise and the trade unions could negotiate and agree to a merger, pursuing the interest of many different stakeholders.
The ISG Corporate Governance Principles for US Listed Companies (ISG CGPs) affirm the accountability of the boards to shareholders, and take a clear position on the correspondence between voting rights and economic interests. In addition, Principle 6 explicitly refers to the long-term strategy of the companies: management incentive structures shall be aligned to a long-term strategy, that should emerge from both short and long-term performance goals. Boards have a duty to clearly communicate these drivers to shareholders and “demonstrate how they establish a clear link to the company’s long-term strategy and sustainable economic value creations”. Consistently with the ISG CGPs, the Stewardship Principles (the SPs) define good corporate governance as “essential to long-term value creation and risk mitigation by companies” (Principle B), and require an engagement on the part of institutional investors for the adoption and the disclosure of guidelines and practices to oversee the corporate governance practices of their investment portfolio companies.
How the US, EU and UK differ.
While a general convergence towards the long-term value took place, significant divergences emerge. First, the EU is the only entity that issued a formal regulation (in the form of a directive) to promote long-term value; in the US and the UK, private self-regulatory initiatives and best practices substituted public regulatory intervention. Second, further divergences emerge when taking into account the “interest of the company”, which still remains the key-pillar to interpret the role of the corporation within the society. The different political interpretations of the interest of the company (contractual v. institutional) are the theoretical foundation of the shareholder vs a stakeholder theories of the corporation. While they may be both oriented towards a long-term perspective, they strongly differ when taking into account the role of the corporation within the society, and its engagement in the creation of the social value.
The European SRD implements a more marked stakeholder value: an example is Recital 16, explicitly mentioning among others key concepts such as “future pensioners” (a pillar in the European debate on the Welfare State), “accountability to stakeholders” and “civil society”. Observing the SRD from Mark Roe’s lenses, this text may be considered a product of the “European-style social democracy”, i.e. a mixture of rules, norms or labor structures, constraining the force of capital and precluding “shareholders from rapidly laying off employees or quickly changing the nature of the work place” (Roe, quoted, 199).
On the other hand, the American model emerging from the ISG CGPs and SPs is more clearly oriented towards a shareholder value. Although the CGPs refer to the importance of independent boards also in relation to stakeholders, the board is accountable solely to shareholders. Regarding shareholders engagement and stewardship, the dominant driver in the SPs is the long-term interests of clients and beneficiaries of institutional investors and asset managers. The references to “stakeholders”, “sustainable economic value creation”, “broader US economy” are a first valuable step. However, they are not conducive of a strong stakeholder approach. Similarly, the UK CGC and SC contain the concepts of stakeholders and the long-term performance of the company, but do not explicitly establish a lien with any broader interest of the society. Therefore, these two pieces only partially address the emerging critiques in the society to the role of corporations.
Although there has been an increased attention to the long-term horizon of the corporation, an effective regulatory convergence did not take place. In addition, recent local political trends have undermined the regulatory convergence towards common social goals pursuing higher level of sustainability. However, the support of private initiatives will be determinant and already contributed to creating the basis for new practices. The document “The New Paradigm” (Lipton et al, 2017) proposes a “private-solution” oriented towards a long-term horizon, capable to preempt any nationalist and populist trend in politics as well as to establish new accepted rules. A “private-solution” emphasizing the importance of the CSR and the ESG goals would contribute to redefining the notion of “social value” as a more precise alternative when compared to the classic shareholder value. It would also contribute to redesigning a new “pactum unionis”, to rethinking the “social contract” for a sustainable capitalism, and addressing the growing dissent. The “lex mercatoria” is a great precedent in the sense of the creation of a virtuous transnational order, essentially promoted by private actors, and could prove that a “private-solution” in corporate governance is possible.
Marco Dell’Erba serves as the graduate editor of the NYU Journal of Law & Business. He is an LLM candidate in Corporation law (Hauser Global Scholar). He holds a PhD in private law and financial regulation from the University of Paris I Panthéon-Sorbonne and a PhD in corporate and securities law from the University of Rome Tor Vergata. Marco practiced law in the departments of Banking & Finance and Litigation & Dispute Resolutions at Clifford Chance LLP (Rome) and as an independent consultant (Paris). He is Research Fellow at the Groningen Center for European Financial Services (University of Groningen, Netherlands), and Research Associate at the Financial Regulation Laboratory of Excellence (Paris, France, created among four leading French institutions, including Paris I Panthéon-Sorbonne, ENA, ESCP, CNAM).