globalisation of corporate governance

7/29/2019 Globalisation of Corporate Governance

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Holly J. Gregory

T he global isation of

corporate governance


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Led by investor demand, the discussion as to what

constitutes effective corporate governance and why

it is important for individual companies on a

national and a global level continues to gather

momentum. In this two-part feature, Holly. J.

Gregory identifies the issues that in-house counsel

should be aware of when advising on cross-border

capital market access, M&A and JVs

This article first appeared in the September and October 2000 issues ofGlobal Counsel and is reproduced with the permission

of the publishers.

Subscription inquiries 44 (0)20 7401 78 78 or www.lawdepartment.net/global

In mid-July of this year, over 350participants from more than 25countries convened in New York

City to explore their common inter-ests in corporate governance at thesixth annual meeting of theInternational Corporate GovernanceNetwork (ICGN) (see www.icgn.org).

The gathering brought together

securities regulators, representativesof securities dealer associations,stock exchanges, the OECD and theWorld Bank, prominent accountingand legal professionals, captains ofindustry, labour leaders, and, mostnotably, investors representingUS$10 trillion (EUR10.8 trillion) ininvestment capital. These remark-ably diverse participants all share theview that corporate governance iscritical to the global economic system(see box Global Developments In

Corporate Governance on page 7).

Demand for investment capital isincreasing throughout both the devel-oped and developing world. At thesame time, governments and multilat-eral agencies are cutting back on aid.As barriers to the free flow of capitalfall, policy makers have come torecognise that the quality of corporategovernance is relevant to capital for-

mation. They also realise that weakcorporate governance systems, com-bined with corruption and cronyism:

Distort the efficient allocation ofresources.

Undermine opportunities tocompete on a level playing field.

Ultimately hinder investmentand economic development.

In a McKinsey survey issued inJune 2000, investors from all over theglobe indicated that they will pay large

premiums for companies with effec-

tive corporate governance (see boxThe McKinsey Survey and diagramsPaying For Good Governance andPremiums Investors Would Pay).

This finding is supported by arecent survey of investors in Europeand the US which found that approx-imately half of European investors,and 61% of US investors, have

decided not to invest in a company, orhave reduced their investment,because of poor governance practices(Russell Reynolds Associates, CorporateGovernance in the New Economy 2000 International Survey ofInstitutional Investors. Copies of thesurvey can be requested from www.russ-reyn.com) (see boxes Importance OfFactors Influencing InvestmentDecisions and Evaluating CorporateGovernance on pages 12 and 13).

In-house counsel, who frequently

advise both management and the


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board of their companies, can play anactive part in encouraging companiesto adopt effective governance stan-dards. They are often called on toaddress legal issues related to thegovernance of the corporation, forexample:

Companies seeking to exchangeequity for capital (whether issuingshares to the public or through aprivate placement) need guidanceon governance mechanisms favouredby the investing community (as wellas advice on relationships withshareholders). Given differencesin national legal systems and stockexchange listing requirements, thisneed is more acute where cross-border listings (and the expecta-tions of foreign investors) areinvolved.

Lawyers advising on mergers and

acquisitions and joint venturesneed a solid understanding of gov-ernance issues (as well as of the rel-evant laws, regulations, listingrules, norms of best practice andlocal governance cultures), as theparties contemplate the gover-nance structure of the emergingentity. Again, these issues aremore complex in cross-bordertransactions.

Even on a national level, counselneed to understand governance

responsibilities and best practicerecommendations and how theyimpact on the potential liability ofdirectors and officers. This is thecase both in countries where direc-tor and officer duties are heavilyregulated, and in countries such asthe US that rely heavily on privatelitigation to ensure corporate com-pliance with the law.

In-house counsel can provide sig-nificant value when they advisecompanies and their subsidiarieson the implications of following, ordeparting from, recommended bestpractices. They are also likely to beinvolved in drafting the specificguidelines to be adopted by thecompany, and otherwise ensuringthat the existing governance docu-ments are in good shape.

To achieve these aims, particu-larly in a multi-jurisdictional context,

in-house counsel must have a clearunderstanding of the technical legalrules that apply, as well as a solidgrounding in governance best prac-tice and the context in which the cur-rent focus on governance arises.Specifically, in-house counsel shouldunderstand the following:

What are the driving forces behind

the heightened interest in corporategovernance and how do those forcesimpact on the company? (see TheDriving Forces below).

What exactly is corporate gover-nance and why is it important to thecompany? (see What Exactly IsCorporate Governance? below)

What are the components of a suc-cessful approach to corporate gover-nance for multi-jurisdictional busi-nesses? (see The Multi-jurisdictionalDimension below)

The Driving ForcesInterest in corporate governance

has exploded around the globe due toa host of factors:

The spread of capitalism and pri-vatisation.

The growth of corporations.

Deregulation and globalisation.

Shareholder activism.

The Asian crisis.

Capitalism And PrivatisationMarket-based economic system

(dominated by voluntary private sector activity) have replaced commanand control-based economic system

in the vast majority of nations. This most apparent in the countries thahave emerged from the former Sovieblock, but it is also happenin(although less dramatically) in Chinand elsewhere. In a related development, governments all over the worare relinquishing to the private sectotheir ownership interests in firms.

Corporate GrowthPrivate sector activity organise

through the corporate form playe

an ever-increasing role in nationaeconomies throughout the whole othe 20th century. Corporations havproved to be most efficient organiserof economic activity. This efficienchas led to the growth of large multnational companies, some of whicare perceived to have a global reacand economic and political powe

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The McKinsey Survey

In a 1996 McKinsey survey ofUS investors, two-thirds of thosesurveyed reported that they wouldpay more for a well-governedcompany (a company responsive toinvestors, with an independent

board), all other factors being equal(Robert F. Felton et al., Putting aValue on Board Governance, 4McKinsey Quarterly 170, 170-71, 174(1996)).

In June 2000, McKinsey repli-cated this survey in Asia, Europeand Latin America, and the sameresults hold. Over 200 institutionalinvestors in the US, Europe, Asiaand Latin America (representingUS $3.25 trillion (EUR3.5 trillion)in assets) were involved in the sur-

vey (McKinsey Investor OpinionSurvey, June 2000).

The size of the premium investorsare willing to pay varies by country. Itis lowest in the US and the UK, higherin Asia (Indonesia, South Korea and

Japan) and highest in Latin America(Venezuela and Colombia) (see boxes

Paying For Good Governance andPremiums Investors Would Pay onpages 4 and 5) .

This suggests that the quality ofcorporate governance at the com-pany level is perceived as most valu-able in situations where both:

Mandated disclosure and legalprotection for shareholders areweaker.

Investors believe there is themost room for improvement.

See www.mckinsey.com/features/investor_opinion/index.html


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that transcend the reach and powerof governments.

Deregulation And GlobalisationNew communication and distri-

bution technologies, and the removalof trade and investment barriers,have created truly global marketswith global competition for goods,

services and capital, and even corpo-rate control (as shown by the recentboom in cross-border mergers andacquisitions). A whole new level ofeconomic interdependence is emerg-ing, as evidenced by the EU and theNorth American Free TradeAgreement (NAFTA). Deeper andbroader cross-border business rela-tionships between nations signal sig-nificant changes to all aspects of soci-ety, from culture to labour marketsand political focus.

Shareholder ActivismEquity financing, which has long

been important in the US and UK, isbecoming a more important sourceof investment capital in many

European and Asian nations. At thesame time, capital available forequity investment in corporations hasbecome concentrated in the hands ofsophisticated financial intermedi-aries such as pension funds andmutual funds. This trend was firstapparent in the US and the UK, butis spreading with the rise of privateinvestment vehicles around theglobe.

Some of the largest and mostactivist US institutional investors,such as the Teachers Insurance &Annuity Association-College Retire-ment Equities Fund (TIAA-CREF)and California Public EmployeesRetirement System (CalPERS) regu-larly support governance initiatives inrelation to their international share-holdings. These investors, who view

themselves as corporate owners,see a link between sound corporategovernance and lowered investmentrisk. They exercise their rights asinvestors to some degree on the basisof governance quality. TIAA-CREF,a private pension fund, is the largestpension fund (public or private) inthe US, with assets of more thanUS$300 billion (EUR324 billion)under investment. CalPERS is thelargest US public pension fund, withover US$170 billion (EUR183 bil-

lion) in assets under investment.The sheer size of assets in the

control of institutional investorsexerts pressure on corporations toconform to shareholders expecta-tions on governance (see box TheAnglo-American Influence on page 6).For example, a group of shareholdersin Vodafone Airtouch recentlyobjected to managements proposalto pay a 10 million (EUR16.24 mil-lion; US$15 million) bonus (half incash and half in shares) to its chiefexecutive, Chris Gent, for achievingthe acquisition of Mannesmann, thefirst successful unsolicited offer for aGerman company (see www.lawde-partment.net/global A charm offen-sive, EC, 2000, V(5), 35). They wereled by the UK National Associationof Pension Funds, whose members

are reported to have more than 800billion (EUR1,300 billion; US$1,200billion) of assets. In an attempt toappease objecting investors, ChrisGent promised to spend half of hisbonus on Vodafones shares.

The Asian Crisis Wake-up

The financial crisis that began in

East Asia, and rapidly spread toRussia, Brazil and other areas of theglobe, showed that systematic failureof investor protection mechanisms,combined with weak capital marketregulation, in systems that rely heavilyon crony capitalism, can lead tofailures of confidence that spreadfrom individual firms to entire coun-tries. Insufficient financial disclosureand capital market regulation, lack ofminority shareholder protection, andfailure of board and controlling

shareholder accountability all sup-ported lending and investing practicesbased on relationships rather than ona prudent analysis of risk and reward(see Ira M. Millstein, The Basics of aStable Global Economy, The Journalof Commerce (30th November, 1998)).

In hindsight, the not-surprisingresult was that companies over-invested in non-productive and oftenspeculative activities. When capitalfled these economies in 1997 and1998, the G7, the World Bank andother multilateral agencies recognisedthat the efforts to strengthen theglobal financial architecture neededto include governance reform.

What Exactly Is CorporateGovernance?

Economic theory holds that whena sole proprietor manages a firm,profits and value will tend to be max-imised because they are directlylinked to the owner-managers selfinterest (the value of the owner-man-agers investment and income). Butwhen firm ownership is separatedfrom control, the managers self inter-est may lead to the misuse of corpo-rate assets, for example through thepursuit of overly risky or imprudentprojects. Corporate financiers (whetherthey are individuals or pension funds,

Paying For GoodGovernance

Areinvestors willing to paymorefor a companywith good board governancepractices?

A clear majoritysayyes

Source: McKinsey &Company, Investor Opinion

Survey June 2000

100%

No

Yes

LatinAmerica

Europe/US

Asia

17

83

19

81

11

89


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mutual funds, banks and other finan-cial institutions, or even govern-ments) need assurances that theirinvestments will be protected frommisappropriation and used as

intended for the agreed corporateobjective. These assurances are at theheart of what effective corporate gov-ernance is all about (see box TheViews Of Leading Voices on page 13).

Narrowly defined, corporate gov-ernance concerns the relationshipsbetween corporate managers, direc-tors and the providers of equity capi-

tal. It can also encompass the rela-tionship of the corporation to stake-holders and society. More broadlydefined, corporate governance canencompass the combination of laws,

regulations, listing rules and volun-tary private sector practices thatenable the corporation to:

Attract capital.

Perform efficiently.

Achieve the corporate objective.

Meet both legal obligations andgeneral societal expectations.

All these factors underscore threality that corporate managerdirectors and investors (as well athose advising them, such as lawyeand accountants) function within larger business and legal environmenthat shapes behaviour (see box ThCorporate Governance Environmenon page 6).

National differences exist as twhat constitutes the raison dtre ocompanies (the corporate objectiveand the answer to the question Fowhom is the corporation governed?will vary from country to country (seNational Differences below). Buwhatever view prevails, effective governance ensures that boards anmanagers are held accountable fopursing the corporate objective, however that objective is defined (se

The Importance Of CorporaGovernance below).

National DifferencesDifferent governance system

articulate the corporate objective idifferent ways, depending on whicof two primary concerns is taken athe main focus:

Societal expectations.

Ownership rights.

Some nations focus on the neeto satisfy societal expectations and, iparticular, the interests of employeeand other stakeholders (variousdefined to include suppliers, credtors, tax authorities and the communities in which corporations operate

This view predominates in continental Europe (particularly GermanyFrance and The Netherlands) and icertain countries in Asia.

Other countries emphasise thprimacy of ownership and propertrights, and focus the corporate obje

tive on returning a profit to shareholders over the long term. Undethis view, employees, suppliers another creditors have contractuaclaims on the company. As ownewith property rights, shareholderhave a claim to whatever is left afteall contractual claimants have beepaid. This residual right is give

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Premiums Investors Would Pay

Investors willingness to paya premiumfor a well-governed companybycountry.

Would be willing to pay a premium

Average premium

Source: McKinsey &Company, Investor Opinion Survey J une 2000

KoreaMexico

ThailandBrazil

TaiwanIndonesiaMalaysia

USUK

ArgentinaChile

JapanFranceSpain

SwedenSwitzerland

GermanyBelgium

TheNetherlandsVenezuelaColombia

Italy

91%90%89%89%89%88%88%84%84%82%82%82%82%82%82%82%79%79%79%79%79%71%

KoreaMexico

ThailandBrazil

TaiwanIndonesiaMalaysia

USUK

ArgentinaChile

JapanFranceSpain

Sweden

SwitzerlandGermanyBelgium

TheNetherlandsVenezuelaColombia

Italy

24.2%21.5%25.7%22.9%20.2%27.1%24.9%18.3%17.9%21.2%20.8%20.2%19.8%19.2%18.2%

18.0%20.2%19.6%18.5%27.6%27.2%22.0%


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weight by companies focusing thecorporate objective on shareholdervalue. Associated with the US,Canada, the UK and Australia, thisview of the corporate governanceobjective is generally justified on thefollowing grounds:

Accountability to shareholdersprovides a single measurable objec-tive that avoids the risk of diffusingthe accountability of managers anddirectors. If managers and direc-tors are accountable to a wholerange of stakeholders, almost anyaction can be justified as in theinterest of some group of stake-holders, and this gives managersand directors unfettered discretion.

Focusing on long-term share-holder value encourages invest-ment capital to be put to the mostefficient economic used from a

market perspective and this shouldbenefit society broadly.

In advising clients on how to rec-oncile the two approaches, in-housecounsel should bear in mind that,although much ideological debatehas arisen about which of the twodescriptions of the corporate objec-tive should prevail, as a practical mat-ter the two concepts do not presentinherent conflicts (except whenposed in the extreme). Generally,

viewed in the long term, stakeholderand shareholder interests are not

mutually exclusive. Corporations donot succeed by consistently neglect-ing the expectations of employees,customers, suppliers, creditors, andlocal communities, but neither docorporations attract necessary capitalfrom equity markets if they fail tomeet shareholders expectations of acompetitive return.

In the extreme situations in whichthe short-term interests of various

stakeholders collide, a clear under-standing of who legal duties are owed

to assists boards and managers to takenecessary, timely, but difficult actions.

The Importance Of CorporateGovernance

No matter what view of the cor-porate objective is taken, effectivegovernance ensures that boards andmanagers are accountable for pursu-ing it. The role of corporate gover-nance in making sure that board andmanagement are accountable is ofbroad importance to society for anumber of reasons. Effective corpo-rate governance:

Promotes the efficient use ofresources both within the companyand the larger economy. Debt andequity capital should flow to thosecorporations capable of investing itin the most efficient manner for theproduction of goods and servicesmost in demand, and with the high-est rate of return. In this regard,effective governance should helpprotect and grow scarce resources,therefore helping to ensure thatsocietal needs are met. In addition,effective governance should makeit more likely that managers whodo not put scarce resources to effi-cient use, or who are incompetentor (at the extreme) corrupt, arereplaced.

Assists companies (and econo-

The Corporate Governance Environment

The Anglo-American Influence

The financial power of US andUK institutional investors, andtheir growing interest in foreignequity, is apparent from a recentstudy by the Conference Board (anot-for-profit business researchorganisation) (Institutional Invest-

ment Report: InternationalPatterns of Institutional Invest-ment (2000)) (www.conference-board.org)

According to the study: Institutional investors hold

US$24 trillion (EUR26 tril-lion) in financial assets in theworlds top five markets.

Well over two-thirds (76%) ofthese assets are held by USand UK investors.

The 25 largest US pensionfunds (who tend to be themore activist investors in theUS market) account for two-

thirds of all foreign equityinvestment by US investors.

The percentage of foreignequity held in the individualportfolios of these top 25 USpension funds is rising (from anaverage of 8% of the portfolio in1993 to a current average of18% of the individual portfolio).

The corporate governanceenvironment is shaped by stockexchange listing rules and a host oflaws and regulations concerning:

Disclosure requirements andaccounting standards.

The issue and sale of securities.

Company formation.

Shareholder rights and proxyvoting.

Mergers and acquisitions.

Fiduciary duties of directors,officers and controlling share-holders.

Contract enforcement.

Bankruptcy and creditorsrights.

Labour relations.

Financial sector practices.

Tax and pension policy.

The corporate governanceenvironment is also defined by:

The quality and availability ofjudicial and regulatory enforce-ment of these laws and regula-tions.

A general understanding of cor-porate citizenship.

Societal expectations about thecorporate objective.

Competition in product, serviceand capital markets, as well as inthe markets for management,labour and corporate control.


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Global Developments In Corporate Governance

The following are examples ofrecent corporate governance devel-opments across the globe.

BrazilThe eighth largest economy in

the world is facing reforms of thelegal and regulatory frameworkdesigned to help Brazilian compa-nies tap into global capital. In par-ticular, legislation to reform theCorporation Law would strengthenprotection for minority sharehold-ers and reduce reliance on non-vot-ing preferred shares. It is expectedto be passed in some form by earlyautumn 2000.

Internal private sector pressurefor reform is expected to increasewith the creation of three invest-

ment funds focused on corporategovernance activism under the man-agement of established fund man-agers (Dynamo, Fator/Sinergia andBradesco-Templeton).

EUThe adoption of a common

European currency, the freer flowof capital, goods, services and peo-ple across EU borders, andincreased merger activity amonglarge European companies (andEuropes largest stock exchanges)have all created tremendous inter-est among European issuers andinvestors, member states and theCommission in:

The shared aims, as well as thedifferences, in corporate gover-nance practice across Europe(reflected in corporate gover-nance codes).

Any related barriers to thedevelopment of a single EUfinancial market.

Numerous corporate gover-nance codes have been adopted bydifferent groups in many of the 15member states, and other entities(such as the OECD, EASD andICGN) have also adopted codes thatmay relate to practice in memberstates. Prominent codes include thefollowing:

Belgium (Cardon Report).

France (Vienot I and II; Lvy-Lang Report).

Germany (German PanelReport).

Greece (Capital Market Commis-sion Report).

Ireland (IAIM Guidelines).

Italy (Draghi Report).

The Netherlands (Peters Code).

Portugal (CMVM Recommend-ations).

Spain (Report of the SpecialCommittee).

The UK (Cadbury ReportHampel Report, GreenburyReport, Combined Code).

France

A new report issued in 1999 bythe French business association,Medef (the second Vienot Report),recommends that boards of publiccompanies that have a single-tierboard structure should be allowedto separate the post ofprsident duconseil dadministration into sepa-rate chairman and CEO positions(the report is available atwww.medef.fr). It also calls forexpanded disclosure to shareholdersas to:

Executive remuneration policy. Stock options schemes.

The total amount of directorsremuneration.

Individual directors remunera-tion for attendance at boardmeetings.

Another French business asso-ciation (Afep) also has recom-mended that listed companies vol-untarily disclose the compensationof directors.

A legislative initiative currentlyunder way would expand these rec-ommendations and take them for-ward. On 15th March, 2000, theCouncil of Ministers adopted draftlegislation that would enable bothlisted and unlisted companies toseparate the roles of chairman andCEO. The draft would also require

mies) in attracting lower-costinvestment capital by improvingboth domestic and internationalinvestor confidence that assets willbe used as agreed (whether thatinvestment is in the form of debt orequity). Although managers needto have latitude for discretionaryaction if they are to innovate and

drive the corporation to competesuccessfully, rules and proceduresare needed to protect capitalproviders, including:

- independent monitoring of man-agement;

- transparency as to corporate per-formance, ownership and con-trol;

- participation in certain funda-mental decisions by shareholders.

Assists in making sure that thecompany is in compliance with thelaws, regulations and expectationsof society. Effective governanceinvolves the board of directorsensuring legal compliance andmaking judgments about activitiesthat, while technically lawful in thecountries in which the companyoperates, may raise political, socialor public relations concerns.

Provides managers with over-sight of their use of corporateassets. Corporate governance maynot guarantee improved corporate

performance at the individual com-pany level, as there are too manyother factors that impact on per-formance. But it should make itmore likely for the company torespond rapidly to changes in busi-ness environment, crisis and theinevitable periods of decline. Itshould help guard against manage-rial complacency and keep man-agers focused on improving firmperformance, making sure thatthey are replaced when they fail todo so.

Is closely related to efforts toreduce corruption in business deal-ings. Although it may not preventcorruption, effective governanceshould make it more difficult forcorrupt practices to develop andtake root, and more likely that cor-rupt practices are discovered early

continued on page 8continued on page 10


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Global Developments In Corporate Governance continued from page 7

8

listed companies to publish theremuneration of the 10 most highpaid corporate officers. This legisla-tive initiative faces significant oppo-sition from the business community.

GermanyA package of tax reform meas-

ures pushed through parliament on14th J uly, 2000 by ChancellorGerhard Schrder will eliminate by2002 the current 50% capital gainstax imposed on corporate sales ofshares in other companies (seewww.lawdepartment.net/globalBusiness tax reform 2001, EC,2000, V(4), 58). This will:

Encourage the unwinding ofcross-shareholdings amongGerman companies.

Open German companies to awider shareholder base, whichcould lead to an increase inmerger and acquisition activityas well as an increase in share-holder activism.

In December 1999, DeutscheBanks mutual fund:

Supported the ranking ofGerman companies on the qual-ity of disclosure, board gover-nance and shareholder rights.

Released a study that finds apositive correlation between thesize of foreign ownership andthe quality of governance.

In J anuary 2000, a panel of gov-ernance scholars, shareholderactivists and corporate executivesissued a set of corporate governanceguidelines referring to the OECDPrinciples and encouraging compa-nies to be more transparent on gov-ernance and compensation.

ItalyIn the past decade, Italy has

undertaken significant reforms tosecurities laws and market regula-tions. In addition, a number of state-owned enterprises (including theItalian Stock Exchange (Borsa ItalianaSpA)) were privatised to reducebudget deficits and meet EuropeanMonetary Union requirements.

In 1998, the legislature approveda Decree based on the work of theDraghi Commission, with provisionsdesigned to:

Discourage cross-ownership amongcompanies listed on the exchange.

Permit shareholder agreements.

Simplify rules for tender offers.

Strengthen shareholder rights byenabling minority shareholdersto call a shareholders meeting.

Enable shareholders to bringclaims on behalf of the company.

Enable shareholders to appointa member of the board of statu-tory auditors.

In July 1999, the Borsa ItalianaSpA issued a set of non-mandatorygovernance guidelines for listedcompanies.

JapanOver the past two years, corpo-

rate governance changes havebecome visible in J apan:

In July 1999, 37 companiesjoined with Sumitomo Bank andNissan when they sought share-holder approval to reduce thesize of their boards from 20-40

directors to about 10. Thesecompanies were following theexamples set by Sony in 1997,when it became the first

Japanese company to reduce thesize of its board.

In January 2000, Japan saw itsfirst home-grown hostile takeoverbid for a public company.Ultimately, Yoshiaki Murakamifailed in his bid to gain control ofShoei, an under-performing prop-erty developer, with nearly 66 bil-lion yen (US$609,249,515;

EUR673,708,114) in reserve.

In April 2000, the J apanese gov-ernment began a two-year pro-gramme to revamp and mod-ernise corporate governancestatutes. The main targets ofreform are laws affecting disclo-sure, the structure and duties ofboards, and shareholder rights.

More companies are nominat-ing outsiders to their boards.Within the past year, Softbankand Orix have nominated non-executive outsiders.

In June 2000, at their AGM,

Sumitomo Bank revealed thecompensation packages of theirexecutives. This candour camein response to a dissident resolu-tion filed by a group of individ-ual investors, and marks the firsttime that a financial institutionin J apan has revealed informa-tion of this nature.

KoreaKoreas Commercial Code has

been amended three times in the pastfive years (in 1995, 1998, and 1999).

Reforms include the following: A heightened fiduciary duty has

been imposed on directors. Inaddition, directors must reportany information that may dam-age the company to the com-panys statutory auditor.

The minimum holding require-ments for shareholders havebeen lowered with respect toany of the following:

- gaining injunctive relief againstdirectors who have acted in con-travention of the articles ofincorporation;

- bringing a shareholder derivativeaction on behalf of the company;

- convening a special sharehold-ers meeting;

- compelling the production offinancial records.

If provided for in the articles ofincorporation, shareholdersmay vote in writing without hav-ing to attend a shareholders

meeting. Shareholders may request

cumulative voting for the pur-pose of electing directors, andcompanies must respect thisunless the articles of incorpora-tion explicitly forbid it.

In spring 2000, a shareholder-activist group, PSPD, pressed for


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and achieved board changes atDacom, a large telecoms concern.

The reforms included measures toensure that the chairman of theboard is a non-executive and at leasthalf of the board is independent. Afully independent audit committeewill monitor related party transac-tions to ensure they are done at

arms length.

The NetherlandsFor a European jurisdiction

often chosen by multinational com-panies as a location in which toestablish their holding companies,there have been remarkably fewdevelopments in the sphere of corpo-rate governance.

In 1997 the Peters Committee onCorporate Governance, establishedby the Association of Securities

Issuing Companies and theAmsterdam Stock ExchangeAssociation, issued a code of bestpractice recommendations for effec-tive corporate governance. Com-pliance with the Peters Code is whollyvoluntary (it is not mandated bystatute or encouraged throughmandatory disclosure).

After a survey of companiesconcluded that many of the PetersCode recommendations were notbeing followed, the ministers of eco-nomic affairs, social affairs and

labour and justice announced inMay 1999 a regulatory initiativeaimed at reforming certain gover-nance practices relating to trans-parency and accountability. Thereform effort, however, appears tohave stalled.

RussiaRussia has had to mould a free

market system from the ground up,and much of the efforts to date havefocused on putting into place a basic

framework of laws and regulatorycapacity. Unfortunately, the broadperception is that protection ofminority shareholder rights continueto lag, although, in 1999, a FederalLaw on the Protection of Rights andLegitimate Interests of Investors inthe Securities Market was enacted.Foreign investors have attempted topress their rights, with little success to

date, although there have beenrumours that Putin has intervened onforeign investors behalf severaltimes.

In late June 2000, the Putin gov-ernment set out its economic pro-gramme, with some governance-related initiatives. The Gref planincludes proposals to:

Improve the protection of prop-erty rights.

Clamp down on interested partytransactions.

Improve disclosure.

In an attempt to improve thecredibility of Russian companies andtheir securities, State Street Bank andGeorge Soros have helped to launchthe Vasiliev Institute for CorporateGovernance. The Institute intends toincrease the information available to

foreign investors by rating Russianlisted companies based on the effec-tiveness of their corporate gover-nance. In addition, the Institute willlobby for more stringent investor pro-tection.

UKThe broad view of company law

initiated by the Department of Tradeand Industry has resulted in a consul-tative paper (published in March 2000by the Company Law Review SteeringGroup) proposing key governance

reforms. Although there has beenmuch debate on whether or not amore stakeholder-focused modelwould be beneficial, the steeringgroup has recommended that ashareholder-oriented, but inclusivelyframed, duty of loyalty is most likelyto lead to optimal conditions forcompanies to contribute to the overallhealth and competitiveness of theeconomy.

The steering group consideredand rejected the adoption of the

two-tier board structure common inmany EU countries, but recom-mends:

Implementing direct legislationor rules to create clear monitor-ing obligations for non-execu-tive directors.

Requiring an increase in theproportion of non-executivedirectors on boards.

Changing the non-executivedirectors appointment methodto minimise the role which exec-utive directors play in appoint-ing non-executive directors.

Tightening the definition ofdirector independence.

Strengthening the independ-ence of the chairman.

In J une 2000 the NationaAssociation of Pension Funds(NAPF) (see main text ShareholdeActivism) published an extensive setof corporate governance standardsto serve as proxy voting guides formember funds. The NAPFs stan-dards follow the Combined Code,but push for stronger requirementsin some areas, by recommending:

Separation of the positions ofchairman of the board and CEO

A ten-part test to determineboard member independence.

Avoiding re-pricing shareoptions in situations of under-performance.

An annual shareholder vote onthe report of each companysremuneration committee.

USIn 1998, SEC concerns about

corporate financial reporting led theNew York Stock Exchange and

National Association of SecuritiesDealers to convene a private sectorBlue Ribbon Committee to recom-mend ways to improve audit com-mittee oversight of financial report-ing. The Committees Reportissued in February 1999, focused on:

Strengthening the independ-ence and qualifications of auditcommittee members.

Improving audit committeeeffectiveness.

Improving the mechanisms for dis-

cussion and accountability amongthe audit committee, the outsidedirectors and management.

After a period of public com-ment, the SEC approved relatedamendments to listing rules andSEC disclosure requirements,adopting the key recommendationsof the Committee. Both the NASDand the NY SE now require listed


10/26

Global Developments In Corporate Governance continued from page 9

and eliminated. Effective gover-nance is a check on the power ofthe relatively few individuals withinthe corporation who control largeamounts of other peoples money(see www.lawdepartment.net/globalSteering clear of bribery, EC, 2000,V(4), 37).

The Multi-jurisdictional DimensionCorporate governance practices

vary across nations and individualcompanies. This variety reflects notonly distinct societal values, but also

different ownership structures, busi-ness circumstances and competitiveconditions. It also reflects differ-ences in the strength and enforceabil-ity of contracts, the political standingof shareholders and debt-holders,and the development, and enforce-ment capacity, of legal systems.

In developed countries, the dis-cussion on how to improve corporategovernance tends to assume that thefollowing are in place:

Well-developed and well-regu-lated securities markets.

Laws that recognise sharehold-ers as the legitimate owners of thecorporation and require the equi-table treatment of minority andforeign shareholders.

Enforcement mechanismsthrough which these shareholderrights can be protected.

Securities, corporate and bank-ruptcy laws that enable corporationsto transform (to merge, acquire,divest and downsize) and even to fail.

Anti-corruption laws to preventbribery and protection against

10

companies to have wholly independ-ent audit committees with at leastthree members, each of whom arefinancially literate. At least onemember must have accounting orrelated financial sophistication orexpertise.

SEC registered companies mustinclude an audit committee report inthe annual proxy statement statingwhether the committee has:

Reviewed and discussed theaudited financial statementswith management.

Recommended to the boardthat the audited financial state-ments be included in the com-panys annual report.

Discussed certain matters withthe independent auditors,including the auditors inde-pendence and the auditorsviews on the quality of the com-panys financial reporting.

The audit committee chartermust be included as an appendix tothe companys proxy statements at

least once every three years. Also,the proxy statement must disclosewhether the audit committee mem-bers meet the independence stan-dards provided in the applicable list-ing standard.

In the past two years, institutionalinvestors have focused their activismon the dead hand poison pill, an

anti-takeover mechanism that is ille-gal in Delaware but still used by com-panies incorporated in other jurisdic-tions. Dead hand poison pills providethat only directors who are in officefor a specified period of time before aproxy fight may redeem or amendshareholder rights plans. Investorsargue that dead hand pills serve onlyto entrench management. In themost recent proxy season, TIAA-CREF, the worlds largest pensionsystem, submitted resolutions to 17companies asking them to remove thedead hand provision from the poisonpills they use. Of these 17 companies,15 complied with TIAA-CREFsrequest, which led the pension systemto withdraw its resolutions.

Institutional investors are alsotargeting stock option schemes, outof concern for potential dilutiveeffect. Investors are particularlyconcerned about option repricing insituations where the companysstock price has decreased. Stockoptions are generally intended to be

a form of incentive-based pay.Lowering strike prices when stockperformance declines appears toreward executives for doing a poor

job. This issue has received consid-erable attention with respect to hightech and e-commerce companies.For example, Microsoft has assertedthat it must reprice options to keepits top employees from seeking more

lucrative option packages elsewhere.World Bank/OECD

Recognising that governancereform requires a combination ofregulation and private sector initia-tive for implementation, the WorldBank and OECD have joinedtogether to sponsor a Private SectorAdvisory Group on CorporateGovernance and a Global CorporateGovernance Forum, in addition totheir separate activities related togovernance reform. A Charter and

World Programme for the Forum wasformally approved by both the WorldBank and OECD in J une 2000.

The goal is to:

Create a public-private partner-ship to raise awareness of thevalue of corporate governanceimprovement.

Involve the private sector in theimplementation of corporategovernance reform in emergingmarket nations.

The Private Sector Advisory

Group, comprised of prominentbusiness leaders from around theworld, has established anAudit/Accounting Task Force and anInvestor Responsibility Task Force,and has been involved in a series ofevents in Brazil to raise the aware-ness of the local private sector of theneed for reforms. A similar effort isplanned for Russia this autumn.

continued from page 7

continued on page 12


11/26

The OECD Principles

1

The OECD Principles:

Reflect the broad consensusreached by the 29 OECD membernations with regard to fundamen-tal issues of corporate governance.

Represent the first inter-govern-

mental accord on the commonelements of effective corporategovernance.

Provide significant room to takeinto account national differences,including differing legal and marketframeworks, traditions and cultures.

The OECD Principles build on thefour core standards set out in the MillsteinReport (see main text The OECDPrinciples): fairness, transparency,accountability and responsibility.

Fairness. The OECD Principlesexpand on the concept of fairness withtwo separate principles:

The Corporate governance frame-work should protect shareholdersrights (OECD Principle I).

The Corporate governance frame-work should ensure the equitabletreatment of all shareholders, includ-ing minority and foreign sharehold-ers. All shareholders should have theopportunity to obtain effective redressfor violation of their rights (OECDPrinciple II).

Principle I recognises that share-holders are property owners, and asowners of a legally recognised anddivisible share of a company, theyhave the right to hold or convey theirinterest in the company. Effectivecorporate governance depends onlaws, procedures and common prac-tices that protect this property rightand ensure secure methods of owner-ship, registration and free transferabil-ity of shares. The Principle also recog-

nises that shareholders have certainparticipatory rights on key corporatedecisions, such as the election of direc-tors and the approval of major merg-ers or acquisitions. Governance issuesrelevant to these participatory rightsconcern voting procedures in theselection of directors, use of proxiesfor voting, and shareholders ability tomake proposals at shareholders meet-

ing and to call extraordinary share-holders meetings.

According to Principle II , thelegal framework should include lawsthat protect the rights of minorityshareholders against misappropriation

of assets or self-dealing by controllingshareholders, managers or directors.Examples include:

Rules that regulate transactionsby corporate insiders and imposefiduciary obligations on directors,managers and controlling share-holders.

Mechanisms to enforce thoserules (for example, the ability ofshareholders to bring a claim onbehalf of the company in certaincircumstances).

Transparency. The corporate gover-nance framework should ensure thattimely and accurate disclosure is made onall material matters regarding the corpo-ration, including the financial situation,performance, ownership and governanceof the company (OECD Principle IV).

This Principle recognises thatinvestors and shareholders need infor-mation about the performance of thecompany (its financial and operatingresults), as well as information about

corporate objectives and material fore-seeable risk factors to monitor theirinvestment. Financial information pre-pared in accordance with high-qualitystandards of accounting and auditingshould be subject to an annual audit byan independent auditor. This providesan important check on the quality ofaccounting and reporting.

In practice, accounting standardscontinue to vary widely around theworld. Internationally prescribedaccounting standards that promote

uniform disclosure would enable com-parability, and assist investors andanalysts in comparing corporate per-formance and making decisions basedon the relative merits.

Information about the companysgovernance, such as share ownershipand voting rights, the identity of boardmembers and key executives, and execu-tive compensation, is also important to

potential investors and shareholders anda critical component of transparency.

Accountability. The corporate gover-nance framework should ensure thestrategic guidance of the company, theeffective monitoring of management by

the board, and the boards accountabil-ity to the company and the shareholders(OECD Principle V).

This Principle implies a legal dutyon the part of directors to the companyand its shareholders. As elected repre-sentatives of the shareholders, directorsare generally held to be in a fiduciaryrelationship to shareholders and to thecompany, and have duties of loyalty andcare which require that they avoid self-interest in their decisions and act dili-gently and on a fully-informed basis.

Generally, each director is a fiduciaryfor the entire body of shareholders anddoes not report to a particular con-stituency. As the board is charged withmonitoring the professional managersto whom the discretionary operationalrole has been delegated, it must be suffi-ciently distinct from management to becapable of objectively evaluating them.

Responsibility. The corporate gover-nance framework should recognise therights of stakeholders as established by

law and encourage active co-operationbetween corporations and stakeholdersin creating wealth, jobs, and the sustain-ability of financially sound enterprises(OECD Principle III).

This Principle recognises that cor-porations must abide by the laws andregulations of the countries in which theyoperate, but that every country mustdecide for itself the values it wishes toexpress in law and the corporate citizen-ship requirements it wishes to impose.As with good citizenship generally, how-

ever, law and regulation impose onlyminimal expectations as to conduct.Outside of the law and regulations, cor-porations should be encouraged to actresponsibly and ethically, with specialconsideration of the interests of stake-holders and, in particular, employees.

The principles are available in fulltext at www.oecd.org/daf/governance/principles.htm.


12/26

fraud on investors.

Sophisticated courts and regula-tors.

An experienced accounting andauditing sector.

Significant corporate disclosurerequirements.

In addition, developed countriesare also more likely to have well-developed private sector institutions,such as:

Organisations of institutionalinvestors.

Professional associations ofdirectors, corporate secretaries andmanagers.

Rating agencies, security ana-lysts and a sophisticated financial

press.Conversely, many developing

and emerging market nations havenot yet fully developed the legal andregulatory systems, enforcementcapacities and private sector institu-tions required to support effectivecorporate governance. Therefore,corporate governance reform effortsin these countries tend to focus onthe fundamental framework. Reformneeds vary, but often include:

Stock exchange development. The creation of systems for regis-tering share ownership.

The enactment of laws for basicminority shareholder protectionfrom potential self-dealing by cor-porate insiders and controllingshareholders.

The education and empower-ment of a financial press.

The improvement of audit andaccounting standards.

A change in culture and lawsagainst bribery and corruption asaccepted ways of doing business.

In addition to differences in thedevelopment of legal and regulatorysystems and private institutionalcapacity, nations differ widely in thecultural values that mould the devel-opment of their financial infrastruc-

12

Importance Of Factors Influencing Investment Decisions

(Ranked according to aggregateresponse)

Thepercentagesreflect theproportion of thetotal number of institutional investorssurveyedwho indicatedthat each ofthesefactorswasimportant to them.

Source: McKinsey &Company, Investor Opinion Survey J une 2000

Continental Europe

Financial performance

Stock performance

Disclosure practices

Board of directors

Adoption of GAAP or IAS

Corporate governance practices

Board independence

UK

US

Continental Europe

UK

US

Continental Europe

UK

US

Continental Europe

UK

US

Continental Europe

UK

US

Continental Europe

UK

US

Continental Europe

UK

US

89%

93%

90%

73%

58%

72%

59%

56%

70%

51%

70%

42%

44%

26%

69%

49%

40%

53%

45%

49%

43%

Extremely important Very important

Rank Continental Europe UK US1 Financial performance Financial performance Financial performance2 Stock performance Qualityof board of directors Stock performance3 Disclosurepractices Stock performance Disclosurepractices

4 Qualityof board of directors Disclosurepractices Adoption of accountingstandards/principles

5 Qualityof corporategovernance Board independence Qualityof corporategovernance6 Board independence Qualityof corporategovernance Board independence7 Adoption of accounting Adoption of accounting Qualityof board of directors

standards/principles standards/principles

continued from page 10


13/26

13

ture and corporate governance. Inpractice, international agreement ona single model of corporate gover-nance or a single set of detailed gov-ernance rules is both unlikely andunnecessary. Even among fairly sim-ilar systems, like the US and the UK,

fundamental distinctions remain thatare unlikely to be resolved. One ofthe most obvious distinctions, forexample, is how business managersare kept in check. In the UK (likeother European nations), regulationplays an important part in theprocess. In the US (uniquely), regu-lation focuses primarily on disclosureobligations and significant reliance isplaced on shareholder derivative liti-gation (claims brought on behalf of

the company) and class actions asenforcement mechanisms.However, the reality of the

demands of global capital marketshas led to some international consen-sus on the basics of effective corpo-rate governance.

The OECD PrinciplesIn April 1998, an influential

report (known as the Millstein

Report) prepared by the BusinessSector Advisory Group on CorporateGovernance (chaired by Ira M.Millstein) detailed the common prin-ciples of corporate governance from

a private sector viewpoint (BusinesSector Advisory Group, Report to thOECD on Corporate GovernanceImproving Competitiveness and Acceto Capital in Global Markets date20th April, 1998. Copies of the repocan be requested from www.oecd.org)

The Millstein Report focused owhat is necessary by way of govenance to attract capital. Accordinto the Millstein Report, governmenintervention in the area of corporatgovernance is likely to be most effective in attracting capital if it focuseon four core standards:

Fairness, achieved by ensurinboth:

- the protection of shareholderights (including the rights of minoity and foreign shareholders);

- the enforceability of contract

with resource providers.

Transparency, accomplished brequiring timely disclosure oadequate, clear and comparabinformation concerning corporate financial performance, coporate governance and corporatownership.

Accountability, involving the claification of governance roles anresponsibilities, and supportin

The Views Of Leading Voices

On The Importance Of Corporate Governance:

The governance of the corporation is now as important in the world economyas the government of countries.

James D. Wolfensohn, A Battle for Corporate Honesty, The Economist: The World in1999, page 38.

On The Role Of Government In Corporate Governance:

Like a powerful river, the market economy is widening and breaking downbarriers. Governments role is to accommodate not block the flow and yetkeep it sufficiently under control so that it doesnt overflow its banks anddrown us with undesirable side effects.

Ira M. Millstein, Honorary Chairmans Opening Remarks, ICGN Annual Meeting(13th July, 2000).

On The Economic Theory Of Governance:

[B]eing managers of other peoples money than their own, it cannot well beexpected that they should watch over it with the same anxious vigilance with

which the partners in a private co-partner frequently watch over their own...Negligence and profusion, therefore, must always prevail more or less in themanagement of the affairs of [a joint stock] company

Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations 264-65(Edwin Cannan, Ed., University of Chicago Press 1976) (1776).

Evaluating Corporate Governance(Percent saying yes)

TheRussell Reynoldssurveypointsout that despitetheimportanceinvestorsplaceon corporategovernancepracticesin theirinvestment decision making(andthepositivereception theygiveto companieswhoseboardsadopt corporategovernanceguidelines), fewsaytheir organisationsuseformal guidelinesto helpthemevaluatethecorporategovernancepracticesofthecompaniesin which theyinvest.

Source: Russell Reynolds Associates, Corporate Governance in the New Economy 2000 International Survey ofInstitutional Investors

Has poor governance caused you to reduce or divest your holding in a company?

Continental Europe

UK

US

53%

48%

61%

Do you or your corporation have formal guidelines or metrics for evaluating your governance practice?

Continental Europe

UK

US

21%

38%

16%


14/26

14

voluntary efforts to make surethat managerial and shareholderinterests are aligned (and moni-tored by the board of directors).

Responsibility, achieved byensuring corporate compliancewith the other laws and regula-tions that reflect the respectivesocietys values.

Underlying the Millstein Reportis the notion that corporate gover-nance depends on the private sectorfor implementation. While govern-ment provides the structure for gov-ernance, corporate governance hap-pens inside the corporation, anddepends on investors, the board andmanagement.

When the Business SectorAdvisory Group issued its Report toOECD Ministers at the height of the

Asian crisis, it recommended that theOECD promote and further articu-late the four core standards set out inthe Millstein Report. The OECDconvened an Ad-Hoc Task Force onCorporate Governance consisting ofrepresentatives from the 29 OECDmember nations, interested interna-tional organisations, labour represen-tatives and business representatives.

The Task Force had direct input fromnon-OECD nations, as well asbroader public comment through its

website. In April 1999, it built on thefour core standards and expandedthem into five broad and non-bindingprinciples (the OECD Principles)(see box The OECD Principles onpage 11).

The ICGN (see above) ratifiedthe OECD Principles shortly afterthey were issued and expanded onthem from a more detailed investorviewpoint (the document is availablein full text at www.icgn. org/ docu-ments/globalcorpgov.htm). In February2000, Euroshareholders (formerlyknown as Groupement desActionnaires Europens (GAE)), anorganisation of shareholder associa-tions from eight European countries,adopted a set of governance princi-ples based on both the OECDPrinciples and the ICGN guidelines(the Euroshareholders Corporate

Governance Guidelines 2000, avail-able in full text at www.dcgn.dk). TheEuroshareholders guidelines areinteresting in that diverse sharehold-ers all agreed that the corporateobjective is to maximise long-termshareholder value (notwithstandingthe continental tradition of empha-sising employee interests).

Governance Guidelines And Codes OfBest Practice

In addition to the emergence ofthe OECD Principles, the pastdecade has seen a proliferation ofcorporate governance guidelines andcodes of best practice prepared by awide range of national governmentcommittees (listing bodies, associa-tions of investors and individual com-panies as industry models).

In-house counsel can play a vitalrole in:

Distilling the principles in thesedocuments and advising officersand directors on the similaritiesand differences that may impact onimportant cross-border deals, suchas mergers and acquisitions and

joint ventures.

Assisting boards to adapt rele-

vant principles into individual com-pany guidelines, suitable for thecompanys or groups specific oper-ations and circumstances.

The significance of these codes,and the management of issues such asthe corporate objective, boardresponsibilities, board composition,board committees, corporate deci-sion making and disclosure are allexplored in the second part of thisarticle.

In-house counsel play an importantrole in advising both managementand the board of their companies

on issues related to effective gover-nance standards, for example when:

Advising on governance struc-tures required by law, regulation orlisting requirements.

Advising on approaches mostlikely to satisfy institutionalinvestors or otherwise meet spe-cific company needs, including theneed to attract equity investment.

Drafting new governance guide-lines or a code for use by their com-pany or group.

Ensuring that existing gover-

Governance Framework

Laws

Regulations

Listing rules

Investo

rexpectations

Governa

nceguid

elines

andbes

tpractice

s

CounselBoard ofdirectors

Individualcompany

governancestructures

and practice

At theindividual companylevel, governanceis most likelytoprovidevaluewhen theboard itself has studied thegovernance

needs of thecompanyand adopted thegovernancestructureandpractices that best fit companyrequirements. In-housecounsel has akeyrolein assisting theboard to avoid a box-ticking approach, by

advising it on thegovernanceframework in which thecompanyoperates and thestructures and practices that can beadoptedvoluntarilyand adapted to address companyneeds.


15/26

nance documents are in goodshape and reflect current practice.

Effective corporate governanceis not formulaic and must begrounded on every companys uniquecircumstances. Nonetheless, whether

in a national or multi-jurisdictionalcontext, advising on governancerequires a clear understanding of thefundamental issues:

What are the driving forcesbehind the growing interest in cor-

porate governance and how dthose forces impact on the company?

Why is the quality of corporatgovernance important to the company?

What is the emerging consensuon basic principles of effective gov

ernance (for example, as expresseinn the OECD Principles)?

These issues were addressed idetail in the first part of this artic(see also www.lawdepartment.net/globaGC The globalisation of corporatgovernance, GC, V(7), 52).

The past decade has seen a proliferation of corporate governancguidelines and codes of best practicdesigned to improve the quality ocorporate governance, including, a

the multinational level, the OECDPrinciples (see box CorporatGovernance Guidelines And Codes OBest Practice). An understanding othem, and of the broader trends theexpress, will assist in-house counsein advising managers and boards tadopt governance practices that arrelevant to their companys ogroups needs (see box GovernancFramework). This requires aunderstanding of the particular ci

cumstances facing the company ogroup, as well as:

The context in which the govenance guidelines and codes of bespractice are issued and the degreto which they apply to the company

The practical measures the company should consider adopting relation to the corporate objectiveboard responsibilities, board composition, board committees andisclosure.

The Origin Of Governance Codes

Corporate governance guidelineand codes of best practice arise in thcontext of differing national frameworks of law, regulation and stocexchange listing rules, and differinsocietal values, and there is no singagreed system of good governanc(see box The Corporate Governanc

Corporate Objectives

The following are examples ofhow different codes of best practiceor guidelines articulate the corpo-rate objective:

The General Motors Board ofDirectors represents the owners

interest in perpetuating a suc-cessful business, including opti-mising long-term financialreturns. . . . In addition . . . theBoard has responsibility to GMscustomers, employees, suppliersand the communities where itoperates all of whom are essen-tial to a successful business(General Motors Board ofDirectors Corporate GovernanceGuidelines on SignificantCorporate Governance Issues,Introduction).

The mission of the board ofdirectors is to maximise share-holder value (Brazilian Instituteof Corporate Governance Code ofBest Practices at 1).

[D]irectors should at all times beconcerned solely to promote theinterests of the company, . . .[which] may be understood asthe overriding claim of the com-pany considered as a separateeconomic agent, pursuing itsown objectives which are distinct

from those of shareholders,employees, creditors includingthe internal revenue authorities,suppliers and customers. Itnonetheless represents the com-mon interest of all these persons,which is for the company toremain in business and prosper(Vienot Report I (France) at 5).

The Board of Directors repre-sents the shareholders of theSociety, and it has a duty to act inthe interests of the shareholders

(Charter of a ShareholdingSociety (Kyrgyz Republic) 17.1).

There are no conceivable cir-

cumstances which can justify any

relaxation of the principle that

the management should be fully

accountable to the providers of

risk capital (The Peters Code

(The Netherlands), Recommend-ation 5.1).

The board of directors . . . is the

primary overseer of the com-

pany, monitoring management

to ensure that it continually

endeavors to maximise long-

term corporate value for the

shareholders, and is always

accountable for its actions to all

stakeholders, in particular the

shareholders (Japan CorporateGovernance Forum Principles,Ch. 1.3).

[The Committee] recommend[s]

establishing, as the ultimate cor-

porate goal . . . the maximisation

of corporate value or, to use an

expression that has taken root in

the market, the creation of share-

holder value (The Governance ofSpanish Companies, I I.1.3).

The single overriding objective

shared by all listed companies,

whatever their size or type of

business, is the preservation and

the greatest practicable enhance-

ment over time of their share-

holders investment (HampelReport (UK), Guideline 1.6).

Directors must act with enter-

prise and always strive to increase

shareholders value while having

regard for the interests of all

stakeholders (King Report (SouthAfrica) Ch. 5:27.7).

15


16/26

Environment in Part 1 of this article,at www.lawdepartment.net/global GCThe globalisation of corporate gover-nance, GC, V(7), 52).

Although boards of directorsconstitute an important internalmechanism for holding managementaccountable for the use of companyassets, effective corporate gover-nance is dependent on the market forcorporate control (takeover activity),securities regulation, company law,accounting, and auditing standards,bankruptcy laws, and judicialenforcement. Therefore, in order tocompare one countrys governancepractices with anothers, counselneed to understand not only the rec-ommended best practice reflected inguidelines and codes, but also theunderlying legal, enforcement and

listing framework.

Types Of Code

Some governance codes arelinked to listing or legally mandateddisclosure requirements. Others arepurely voluntary in nature, but maybe designed to help forestall furthergovernment or listing body regula-tion. In the developing nations, gov-ernance codes are more likely toaddress basic principles of corporategovernance that tend to be more

established in developed countriesthrough company law and securitiesregulation, such as:

The equitable treatment ofshareholders.

The need for reliable and timelydisclosure of information concern-ing corporate performance andownership.

The holding of annual generalmeetings of shareholders.

However, in both developed anddeveloping nations, codes focus onboards of directors (whether single-tier boards or, in two-tier systems,supervisory boards) and attempt todescribe ways in which boards canprovide guidance and oversight tomanagement, and accountability to

shareholders and society at large.The modern trend of developing

corporate governance guidelines andcodes of best practice began in theearly 1990s in the UK, the US andCanada in response to:

Problems in the corporate per-formance of leading companies.

The perceived lack of effectiveboard oversight that contributed tothose performance problems.

Pressure for change from institu-tional investors.

The Cadbury Report in the UK,the General Motors Board of

Directors Guidelines (the GMGuidelines) in the US, and the DeyReport in Canada have each provedinfluential sources for other guide-line and code efforts.

Governance guidelines andcodes have issued from stockexchanges, corporations, institutional

investors, and associations of direc-tors and corporate managers, as wellas individuals companies (as in thecase of the GM Guidelines).Compliance with these governancerecommendations is generally notmandated by law, although the codeslinked to stock exchanges may have acoercive effect. For example, listedcompanies on the London and

Toronto Stock Exchanges need notfollow the recommendations of,respectively, the Cadbury Report(which influenced and has beensuperseded by the Combined Code,but still remains highly influential

around the world, and especially inCommonwealth countries (seewww.lawdepartment.net/globalCorporate governance after Turnbull:Is your company under control?,PLC, 1999, X(10), 43) or the DeyReport, but they must disclosewhether they follow the recommen-

16

CHECKLIST: Board Responsibilities

The commentary accompany-ing the OECD Principles (see boxThe OECD Principles in Part 1 ofthis article, www.lawdepartment.net/global GC The globalisation of cor-porate governance, GC, V(7), 52)

provides that the board should fulfilcertain key functions, including:

" Reviewing and guiding corpo-rate strategy, major plans ofaction, risk policy, annual budg-ets and business plans; settingperformance objectives; moni-toring implementation and cor-porate performance, and over-seeing major capital expendi-tures, acquisitions and divesti-tures.

"Selecting, compensating, moni-toring and, when necessary,replacing key executives andoverseeing succession planning.

" Reviewing key executive andboard remuneration, and ensur-ing a formal and transparentboard nomination process.

" Monitoring and managing

potential conflicts of interest of

management, board members

and shareholders, including mis-

use of corporate assets and abuse

in related party transactions.

" Ensuring the integrity of the cor-

porations accounting and finan-

cial reporting systems, including

the independent audit, and that

appropriate systems of control

are in place (in particular, sys-

tems for monitoring risk, finan-

cial control and compliance with

the law).

" Monitoring the effectiveness of

the governance practices under

which it operates and making

changes as needed.

" Overseeing the processing dis-

closure and communications.

Source: OECD Principle V (Com-

mentary D)


17/26

1

dations in those documents and mustprovide an explanation concerningdivergent practices. These disclosurerequirements exert a significant pres-sure for compliance.

In contrast, the guidelines issuedby associations of directors, corpo-rate managers and individual compa-nies tend to be wholly voluntary. Forexample, the GM Board Guidelinessimply reflect an individual boardsefforts to improve its own governancecapacity. Even wholly voluntaryguidelines can have wide influence,however. In the case of the GMGuidelines in the US, institutionalinvestors encouraged other compa-

nies to adopt similar guidelines.In developing nations, both vol-

untary guidelines and more coercivecodes of best practice have beenissued as well. For example, both theCode of Best Practices issued by theBrazilian Institute of CorporateDirectors and the Code of CorporateGovernance issued by the CorporateGovernance Committee of theMexican Business Co-ordinatingCounsel are wholly voluntary andprovide companies with a frameworkthey can aspire to. They are notlinked to any listing requirements.

Similarly, the Confederation ofIndian Industry Code and the Stock

Exchange of Thailand Code ardesigned to build awareness withthe corporate sector of governancbest practice, but are not, at presenlinked to stock exchange listinrequirements. Conversely, MalaysiaCode on Corporate Governance, thCode of Best Practice issued by thHong Kong Stock Exchange anSouth Africas King CommissioReport on Corporate Governanceare all based on some form of mandatory disclosure concerning compance with their recommendation(and are in some cases linked to stocexchange listing requirements).

Independent Board Leadership

Many guidelines and codes seekto institute independent leadershipby recommending a clear division ofresponsibilities between Chairmanand CEO. In this way, while theCEO can have a significant presenceon the board, the non-executivedirectors will also have a formalindependent leader to look to forauthority on the board.

Documents that place lessemphasis on the need for a majorityof independent directors seem to

place more emphasis on the needfor separating the role of Chairmanand CEO. For example, the IndianConfederation Report expresslyrelates the two concepts. It recom-mends that if the Chairman andCEO (or managing director) are thesame person, a greater percentageof non-executive directors is neces-sary (Recommendation 2). TheMalaysian Report on CorporateGovernance similarly emphasisesthat where the roles are combined,there should be a strong independ-ent element on the board (BestPractice AA.II). This is in accordwith the Cadbury Report (see maintext Types Of Code), which statesthat, where the Chairman is also theCEO, it is essential that thereshould be a strong and independentelement on the board (Section 1.2).

The following extracts show thedifferent ways in which independentboard leadership is defined in vari-ous codes:

The Board should be free tomake this choice any way thatseems best for the Company at agiven point in time. Therefore,the Board does not have a policy,one way or the other, on whetheror not the role of the ChiefExecutive and Chairman shouldbe separate and, if it is to be sep-

arate, whether the Chairmanshould be selected from the non-employee Directors or be anemployee (General Motors BoardGuidelines (US), Guideline 4).

Where the chairman is also thechief executive, it is essential thatthere should be a strong andindependent element on theboard whose authority isacknowledged. . . . The Commis-sion recommends that thereshould be a clear division of

responsibilities at the head of acompany which will ensure a bal-ance of power and authority(Cardon Report (Belgium),Recommendation 1 & 1.3).

[C]onsidering that holding both[Chairman and CEO] positions isthe most widespread practice inSpain and in surrounding coun-tries, the Committee recognises

that at present it is not proper tooffer a general guideline.Nevertheless, the concern ofmaintaining optimal conditionsfor the proper fulfilment of thegeneral function of supervisionleads us to recommend that somecautionary measures be adoptedwhenever one individual is tohold the two positions. It is aquestion of creating counter-weights allowing the Board ofDirectors to operate independ-ently from the management teamand to keep its power to controlit (The Governance of SpanishCompanies, II.3.2).

There are two key tasks at thetop of every public company the running of the board and theexecutive responsibility for therunning of the companys busi-ness. There should be a cleardivision of responsibilities at thehead of the company which will

ensure a balance of power andauthority, such that no one indi-vidual has unfettered powers ofdecision. . . . A decision to com-bine the posts of chairman andchief executive officer in one per-son should be publicly justified(The Combined Code (UK),Principle A.2 & Provision A.2.1).


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Convergence

International agreement on a

single model of corporate gover-

nance or a single set of detailed gov-

ernance rules is both unlikely and

unnecessary. The influence of inter-

national capital markets will lead to

some convergence of governance

practices. This simply reflects themarket reality that [a]s regulatory

barriers between national economies

fall and global competition for capital

increases, investment capital will fol-

low the path to those corporations

that have adopted efficient gover-

nance standards, which include

acceptable accounting and disclosure

standards, satisfactory investor pro-

tections and board practices designed

to provide independent, accountable

oversight of managers (Report to theOECD by the Business Sector AdvisoryGroup on Corporate Governance).

This convergence is evident in

the growing consensus in both devel-

oped and developing nations that

board structure and practice is key to

providing corporate accountability

(of the management to the board and

the board to the shareholders) in the

governance paradigm

Practical measuresKey elements of governance

guidelines and codes of best practice

include:

The corporate objective.

Board responsibilities.

Board composition.

Board committees.

Disclosure issues.

In-house counsel should con-

sider to what extent these issuesshould be addressed by the code or

guidelines of their company. It may

be that the laws and regulations of

the country under whose law the

company is organised and the juris-

dictions in which its shares are traded

already deal with some of these issues

(for example the responsibilities of

directors) in detail. If so, the docu-

ment can focus on other aspects of

corporate governance.Also, as cross border investment

increases, and investors around the

globe focus on effective governance

mechanisms to ensure their interests

are protected, in-house counsel will

be asked to advise boards and man-

agers on how the expectations of for-

eign investors can best be met.

Knowledge of the guidelines and best

practices in the investors own home

market, and how they differ from the

companys practices, can provideinsights into the foreign investors

expectations and areas of concern.

18

Important Board Tasks

Investors agree on the important board tasks*(average response)

* Thelist of boardtaskswaspredefined. Investorswereaskedto rank their importance.

Source: McKinsey &Company, Investor Opinion Survey June 2000

0 1 2 3 4 5 0 1 2 3 4 5 0 1 2 3 4 5

Notimportant

Veryimportant

4.5 4.5

4.5

4.6

4.5

4.5 4.4 4.4

4.44.3

4.3 4.3

4.24.1

4.1

4.0

4.0

n/a

Monitor andevaluatelong-termstrategy

Latin America Europe/US Asia

Monitor andevaluatecorporateperformance

Evaluatesenior management performance

Maintain legal andethical practices

ManageCEOsuccession

Communicatewith shareholders

Communicatewith other stakeholders

Determineexecutivecompensation plan

Establish independent corporateleadership

Evaluatemanagement development processes

Evaulateperformanceof theboard

n/a

3.9

3.9

3.9

3.9

3.9

3.7

3.7

3.6

3.6

3.5

3.4

3.3

3.3

3.1

Notimportant

Veryimportant

Notimportant

Veryimportant


19/26

19

This will prove valuable when share-holder initiatives arise.

The Corporate Objective

Variations in societal values leaddifferent nations to view the corporateobjective or mission in differentways (see box Corporate Object-ives). Expectations of how the cor-

poration should prioritise the interestsof shareholders and stakeholders suchas employees, creditors and other con-stituents take two primary forms (seeNational Differences in Part 1 of thisarticle, www.lawdepartment.net/globalThe globalisation of corporate gover-nance, GC, V(7), 52).

In the Anglo-Saxon nations(Australia, Canada, the UK and theUS), where maximising the value ofthe owners investment is considered

the principal objective, governanceguidelines and codes tend to empha-sise the duty of the board to repre-sent shareholders interests and max-imise shareholder value. Amongdeveloping nations, the BrazilianInstitute of Corporate GovernanceCode, the Confederation of IndianIndustry Code, the Kyrgyz RepublicCharter of a Shareholding Society,the Malaysian Report on CorporateGovernance and the Korean StockExchange Code of Best Practice, all

expressly recognise that the boardsmission is to protect and enhance theshareholders investment in the cor-

The Audit CommitteeAudit committees attract spe-

cial attention in guidelines and bestpractice codes because of the roleof disclosure and legal compliancein protecting shareholder interestsand promoting investor confidence.

Certain countries specifically rec-ommend the size of an audit com-mittee. In India, the minimum sizerecommended is three members, asit is in Malaysia and the UK (and,through stock exchange listingrules, the US). Also, South Africaand India both emphasise the extratime requirements demanded ofaudit committee members and (asin the UK and US) the importanceof written terms of reference for

the committee. Malaysia alsorefers to the need for written termsof reference for audit and otterboard committees.

The following are examples ofhow audit committees are dealtwith in governance codes andguidelines:

Special emphasis has beenplaced on the need for all listedcompany boards to establishaudit committees to ensure theeffective and efficient control

and review of a companysadministration, internal auditprocedures, the preparation offinancial statements and general

disclosure of material informa-tion to investors and sharehold-ers (Presidents Message, StockExchange of Thailand Code andGuidelines, pp. iv-v).

[There should be] a mechanismthat lends support to the Boardin verifying compliance of theaudit function, assuring thatinternal and external audits areperformed with the highestobjectivity possible and thefinancial information is useful,trustworthy and accurate.(Mexico Code of CorporateGovernance, Recommendationat 12-13).

[Independent directors . . .

should account for at least one-third of the audit committee. . . .(Vienot II (France) at 15).

The board should establish anaudit committee of at least threedirectories, all non-executive,with written terms of referencewhich deal clearly with itsauthority and duties. The mem-bers of the committee, a major-ity of whom should be inde-pendent non-executive direc-

tors, should be named in thereport and accounts (TheCombined Code (UK), ProvisionD.3.1).

Nominating Directors

The process by which directors

are nominated has gained attention

in many guidelines and codes as a

key element of ensuring that man-agement does not dominate the

board through that process. The fol-

lowing are examples of wording

used:

Boards should establish a whollyindependent nominating . . .committee. . . . Creating an inde-pendent and inclusive process for

nominating directors will ensure

board accountability to sharehold-

ers and reinforce perceptions of

fairness and trust between andamong management and board

members (Report of the NationalAssociation of Corporate DirectorsBlue Ribbon Commission on Direc-tor Professionalism (US) at 3-4).

Unless the board is small, a nom-

ination committee should be

established to make recommen-

dations to the board on all new

board appointments (The Com-

bined Code (UK), A.5.1).

[T]he adoption of a formal proce-

dure for appointments to the

board, with a nomination com-

mittee making recommendations

to the full board, should be recog-

nised as good practice (The

Malaysian Corporate Governance

Report, Explanatory Note 4).

continued on page 23


20/26

Corporate Governance Guidelines And Codes Of Best Practice

20

Numerous private sector andgovernment-related organisations,institutional investors and stockmarkets have, in the past decade,become active in driving corporategovernance reforms. One of their

most influential efforts has been toissue guidelines (also called princi-ples, policies, recommendations orcodes or best practice). Adapted totheir respective cultures and busi-ness structures, these guidelines andcodes generally promote practicesdesigned to enhance accountabilityto shareholders, improve boardindependence, and foster corporateresponsibility.

The following is a partial listingof corporate governance guidelinesand codes of best practice:

International

European Association of SecuritiesDealers (EASD),Corporate Gover-nance: Principles and Recom-mendations (12th April, 2000).

Euroshareholders, Euroshare-holders Corporate GovernanceGuidelines 2000 (February 2000).*

European Association of SecuritiesDealers Automated Quotations(EASDAQ), EASDAQ Rule Book(3d ed., J anuary 2000).

Commonwealth Association forCorporate Governance (CACG),CACG Guidelines: Principles forCorporate Governance in theCommonwealth (November1999).

International Corporate Gover-

nance Network (ICGN), State-menton Global Corporate Gover-nance Principles (J uly 1999).

Organisation for Economic Coop-eration and Development (OECD)Ad Hoc Task Force on CorporateGovernance, OECD Principles ofCorporate Governance (April

1999).

ICGN, Global Share VotingPrinciples(J uly 1998).*

OECD Business Sector Advisory

Group on Corporate Gover-nance, Corporate Governance:Improving Competitiveness andAccess to Capital in GlobalMarkets, Report to the OECD(Millstein Report) (April 1998).

European Bank for Reconstruc-tion and Development (EBRD),Sound Business Standards andCorporate Practices: A Set ofGuidelines (September 1997).

Centre for European PolicyStudies (CEPS), CorporateGovernance in Europe Recommendations (J une 1995).

Australia

Investment & Financial ServicesAssociation (IFSA) (formerlyAustralian Investment ManagersAssociation (AIMA), CorporateGovernance: A Guide for Invest-ment Managers and Corporations(3d ed., J uly 1999) *

Working Group representingAustralian Institute of CompanyDirectors, Australian Society ofCertified Practising Accountants,Business Council of Australia,Law Council of Australia, TheInstitute of Chartered Account-ants in Australia & the SecuritiesInstitute of Australia, CorporatePractises and Conduct (BoschReport) (3d ed., 1995).

Belgium

Federation of Belgian Companies,Corporate Governance Principles(1998).

Brussels Stock Exchange, Reportof the Belgian Commission onCorporate Governance (CardonReport) (1998).

Brazil

Instituto Brasileiro de Gover-nana Corporativa (IBGC), for-merly Instituto Brasileiro deConselheiros Administraao(IBCA), Code of Best Practice of

Corporate Governance (May1999).

Top Management Summit, It,Brazil, Brazilian Code of BestPractices (Preliminary Proposal,April 1997; IBCA translation,September 1997).

Canada

Pension Investment Associationof Canada (PIAC), CorporateGovernance Standards (Sep-tember 1993; revised March1997, updated June 1998).*

Toronto Stock Exchange Com-mission on Corporate Disclosure,Responsible Corporate Disclosure:A Search for Balance (March1997).

Toronto Stock Exchange Com-mittee on Corporate Governancein Canada, Where Were TheDirectors?: Guidelines ForImproved Corporate Governance inCanada(Dey Report) (December1994).

France

Conseil National du PatronatFranais (CNPF) and Associ-ation Franaise des EntreprisesPrives (AFEP), Report of theCommittee on Corporate Gover-nance (Vienot II) (July 1999).

Association Franaise de laGestion Financire Associationdes Socits et Fonds Franais

dInvestissement (AFG-ASFFI),Recommendations on CorporateGovernance (Hellebuyck Com-mission Recommendations) (J une1998) (English translation byAFG-ASFFI). *

Stock Exchange OperationsCommission, Regulation No. 98-


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2

01 98-10(March 1999).

CNPF & AFEP, The Boards ofDirectors of L isted Companies inFrance (Vienot I) (J uly 1995).

CNPF & AFEP, Stock Options:Mode dEmploi pour lesEnterprises (Lvy-Lang Report)(1995).

Germany

Beriner Initiativkreis, GermanCode of Corporate Governance(GCCG) (6th J une, 2000).English translation imminent.

Grundsatzkommission CorporateGovernance (GCP GermanPanel on Corporate Gover-nance), Corporate GovernanceRules for German QuotedCompanies (J anuary 2000). English trans-lation by GCP.*