Corporate Governance Prof. John Ferguson Part 1 - What is a - - PowerPoint PPT Presentation

• Prof. John Ferguson

Corporate Governance

Part 1 - What is a corporation and who should it serve?

CORPORATE GOVERNANCE

What is Corporate Governance? ‘ the system by which companies are directed and controlled’ (The Cadbury Report, 1992) ‘ Corporate Governance is concerned with holding the balance between economic and social goals and between individual and communal goals. The corporate governance framework is there to encourage the efficient use

• f

resources and equally to require accountability for the stewardship of those resources. The aim is to align, as nearly as possible the interests of individuals, corporations and society.’(Sir Adrian Cadbury, foreword to the ‘ Global Corporate Governance Forum’ , World Bank, 2003)

CORPORATE GOVERNANCE

What is Corporate Governance? System of rules, regulations and procedures by which corporations are directed and controlled Includes: Company Law, other domestic law (such as employment law), Financial reporting requirements (IASB), audit, stock market listing requirements, international law, treaties, free trade agreements, soft law instruments, etc.

CORPORATE GOVERNANCE

What is Corporate Governance? As Tricker (2000) states, this assemblage of rules, regulations and procedures is variously concerned with establishing the purpose of companies, whose interests they should serve, and the duties and rights

• f various stakeholders.

How such things are resolved has (arguably) a tremendous impact upon such things as: financial performance, distribution (who gets what), participation and voice (who gets a say), and wider social indicators

TWO FUNDAMENTAL QUESTIONS What is a corporation? And… In whose interests should the corporation serve?

WHAT IS A CORPORATION?

Concern with understanding and defining the corporation has a long and complex history See, for example: Gierke, O.V. (1902) Political Theories of the Middle Ages, Cambridge University Press Kahn-Freund, O. (1944), “ Some Reflections on Company Law Reform” , Modern Law Review Laski, H. (1917), “ The Early History of the Corporation in England” , Harvard Law Review,30(6), pp. 561-588 Maitland, F.W. (1900), “ The Corporation Sole” , Law Quarterly Review, p.335-355 Maitland, F.W. (1936), “ Trust and Corporation” , in Hezeltine et al., Maitland: Selected Essays, Cambridge University Press

WHAT IS A CORPORATION?

The above sources were concerned with various forms of group activity (township, village, church, state) and with what constituted corporate form and corporate personality

• these enquiries underpin a range of contemporary perspectives on the business

corporation. Millon, D. (1990), “ Theories of the Corporation” , Duke Law Journal, No. 2, pp.201- 262 In exploring theories of the business corporation over 150 years, Millon provides an

• verview of 3 distinct ways in which corporations have been conceptualized:
• 1. Artificial Entity
• 2. Aggregate
• 3. ‘

Real’

• r ‘

Natural’ Entity These different conceptualizations have implications for thinking about the role of corporations and the interests they serve

WHAT IS A CORPORATION?

Artificial Entity During much of the 19th century, the idea of the corporation as an entity existing separate from its shareholders characterized legal understanding (corporations had the power to sue and had existence beyond the lives of its shareholders). The corporation was considered artificial, in the sense that the corporation owed its existence to the state. Therefore, according to this view, the state had a constitutive role (i.e. corporations could only exist by receiving a charter by the state). Therefore, this view is underpinned by a public law approach - designed to address important public concerns

WHAT IS A CORPORATION?

Aggregation By the last decades of the 19th century, there was a decline in the state's use of its chartering authority – and and increase in general incorporation. Because the corporation could now be brought into existence without state charter – corporations began to be viewed as aggregations of private individuals (analogous to partnerships). These theorists sought an antiregulatory conception of corporate law that protected the financial interests of shareholders and their property rights

WHAT IS A CORPORATION?

Real/Natural Entity According to Millon (1990), the aggregate theory began to loose it’ s appeal – in particular, recognition of dispersed shareholding and increased power and discretion for directors made it difficult to make the analogy with partnerships. Real entity theories of the firm stated to emerge

WHAT IS A CORPORATION?

Real/Natural Entity “ The real [natural] entity theory assumes many forms, but common to them all is the claim that corporations are real, naturally occurring beings with characteristics not present in their human members” (Philips, 1994, p.1062). According to Maitland (1927), “ [the corporation] is no fiction, no symbol, no piece of the State's machinery, no collective name for individuals, but a living organism and a real person,.. It is not a fictitious person; ... it is a group-person, and its will is a group-will” .

WHAT IS A CORPORATION?

Real/Natural Entity, Corporate Citizenship & CSR Real entity theory has a number of variants and interpretations –

• ne of

which, according to Millon, was used to support the idea of corporate citizenship and CSR In 1932, E. Merrick Dodd, Jr., published a famous article, demonstrating how the real entity idea could provide a theoretical basis for corporate social responsibility…

WHAT IS A CORPORATION?

Real/Natural Entity, Corporate Citizenship & CSR Dodd emphasized: (i) that management represented the corporation (and the shareholders only indirectly) (ii) that the corporation, like any other natural person, should enjoy the freedom to act as a socially responsible citizen. Therefore, managers/directors were viewed as as agents of the corporate entity (which was distinct from the shareholder aggregation). If that entity was obliged to be a "good citizen" - then management, acting for the corporation, would enjoy the discretion to pursue wider social responsibilities (if social obligation dictates they do so).

WHAT IS A CORPORATION?

The Aggregate Theory and the Privatization of Corporate Law - Berle (1932) and Berle and Means (1932) In 1932, Berle responded to Dodd by arguing that corporate management should devote its attention solely to shareholder wealth maximization Berle and Means viewed management as trustees for the shareholders –and that, as trustee, the manager must act for the benefit of the shareholder

WHAT IS A CORPORATION?

The Aggregate Theory and the Privatization of Corporate Law By analyzing the corporation from the perspective of the shareholders' "private property" rights, Berle and Means insisted on the preeminence

• f the shareholders’

financial interest. In this respect, Berle and Means abandoned the notion of the corporate entity and “ peered directly into the corporate enterprise, focusing their attention on those they considered to be the relevant actors- shareholders and the professional managers”

WHAT IS A CORPORATION?

The Aggregate Theory and the Privatization of Corporate Law Since Berle and Means – the shareholder primacy principle has been extremely influential in the context of corporate governance debate However, it is important to recognize, as Millon (1990, p.222) does, “ Berle and Means were not implacably hostile to the sort of corporate social responsibility that Dodd and others were advocating. They acknowledged that a different legal regime might mandate that "the corporate profit 'stream in reality no longer is [the shareholders'] private property, and that claims on it must be adjusted by some test other than that of property right” ” . We will explore Berle and Means (1932) further in relation to corporate responsibility later in Part 2

WHAT IS A CORPORATION?

Economic Theory of the Corporation: ‘ Nexus of contracts’ Emerged as an alternative/criticism to ‘ managerialism’ (the dominant model of the corporation between 1930s and 1970s). The managerialist model overlaps with Dodd’ s conceptualization of the corporation – i.e. corporate directors and professional executives viewed themselves as stewards or trustees charged with guiding a vital social and economic institution in the interests of a wide-range of beneficiaries. The nexus of contracts displaces the management-centered conception of the firm. It maintains that the firm is a legal fiction that serves as a nexus for a set

• f contracting relations among individual factors of production.

WHAT IS A CORPORATION?

Economic Theory of the Corporation: ‘ Nexus of contracts’ According to the nexus of contracts approach, management is considered a continuous process of negotiation of successive contracts In this capacity, managers act as agents for the shareholder principals As agents, the directors must act in furtherance of the shareholders’ interest This gives rise to the “ classic agency problem” – i.e. how do principals (the shareholders) ensure that their agents (the managers) behave in their interests. Recommendations include that the number of independent directors should be increased; the roles of chairman of the Board and of CEO should be split; managers should be paid in stock options, etc.

IN WHOSE INTERESTS SHOULD CORPORATIONS BE GOVERNED?

In whose interests should corporations be governed; to whom do directors have duties ? This issue has been largely addressed in the preceding discussion – and is hence, very closely tied to how once conceptualizes the corporation. In short, if one views the corporation as either (i) resulting from the aggregate consensual agreement among its members, (ii) as a natural creation of private initiative and market forces, or (iii) as a nexus of contracts – then the private interests of the members/shareholders will take priority If, on the other hand, if one views the corporation as (i) an artificial entity created by the state or (ii) as a real/natural entity which, like other natural persons, should enjoy the freedom to act as a socially responsible citizen – then the interests of the corporation and the wider public interest will be given greater emphasis

IN WHOSE INTERESTS SHOULD CORPORATIONS BE GOVERNED?

In whose interests should corporations be governed; to whom do directors have duties ? So - opinion on this issue can (rather crudely) be divided into two camps:

• Those who believe shareholders should be accorded priority (and most often

associated with the nexus of contact/agency theory approach)

• Those who believe that a firms other stakeholders should be of equal concern in

the governance of the corporation (most often associated with what is referred to as the stakeholder approach).

IN WHOSE INTERESTS SHOULD CORPORATIONS BE GOVERNED

In addition to the conceptions of the corporation outlined previously, the shareholder/stakeholder debate is reflected in both different philosophical and cultural traditions There is a rich academic literature, informed by work in ethics and political philosophy, which argues that a range of stakeholders have certain rights vis-à-vis the corporation Further, classification of international corporate governance systems often make the distinction between Anglo-American shareholder orientated governance systems(US/UK) and other governance systems which exhibit stakeholder characteristics (Germany, Japan, Scandinavia)

CORPORATE GOVERNANCE – IN DIFFERENT CONTEXTS

Shareholder (Anglo-American)

• Competition driven
• Legal framework emphasises

shareholders

• Shorter term strategy
• Greater reliance on equity
• Shareholder primacy
• No employee involvement
• Dispersed shareholding structure
• Strong managers weak owners

Stakeholder (Germany/Japan)

• Consensus driven
• Legal framework emphasis social role of

companies

• Longer term strategy
• Greater reliance on debt
• Stakeholders/ company focus
• Co-determination/ worker councils
• Concentrated ownership & control
• Strong blockholders /weak “

dispersed

• wners”

Part 2 – Critique of the shareholder primacy model

CORPORATE GOVERNANCE & SHAREHOLDER PRIMACY

It has been argued that governance systems throughout the world are converging on a shareholder approach But why…? What is the rationale for ascribing priority to shareholders when considering whose interests a corporation should be run?

TYPICAL ARGUMENTS FOR SHAREHOLDER PRIMACY Shareholders OWN the company Shareholders are the PROVIDERS OF CAPITAL Shareholders are the residual BEARERS OF RISK

TYPICAL ARGUMENTS FOR SHAREHOLDER PRIMACY

Ownership Goyder (1951, p.23) “ A company is self-owning” , the idea that it belongs to the shareholders is a “ fiction” . As a separate legal personality it “ is incapable of being owned” Deakin (2012, p.355), “ From a legal perspective, shareholders

• wn neither the “

firm” nor the “ corporation” nor its assets” .

’

TYPICAL ARGUMENTS FOR SHAREHOLDER PRIMACY

Ownership The assets are owned by the separate legal entity – the

• corporation. “

The corporation, in turn, cannot be owned as a “ thing” precisely because… it is a person - a legal subject - in its

• wn right”

(Deakin, 2012, p.356) . Shareholders have certain rights – such voice and voting rights to rights in relation to distributions – by virtue of their ownership of shares However, “ these rights do not constitute ownership” (Goyder, 1951, p.24-25)

’

TYPICAL ARGUMENTS FOR SHAREHOLDER PRIMACY

Providers of capital?

McSweeney (2008) notes that since the late 1920s, ‘ corporate retentions overall in the US have never been less than 66 per cent of all sources of funding over any five or six year period’ , while ‘ during the period 1982– 7 shares provided only 3.1 per cent of net sources of funds for the 100 largest US manufacturing companies’ . Mumford (2000, p.5-6) notes, ‘ much of [a company’ s] capital is in effect self-owned… much of its capital comes from its own earnings, and that most of the ‘ reserves’ represent the proceeds of its own endeavours’ .

TYPICAL ARGUMENTS FOR SHAREHOLDER PRIMACY

Providers of capital? Mayer (2013), notes ‘ The net amount of equity capital raised from stock markets in the last few decades of the 20th century was negative in both the UK and the US’ The value of acquisitions was around $3 trillion in 2009, while new issue of shares raised around $700 billion. Between 2005-2007, net new equity issued was negative - companies actually bought back more than they sold (Mayer, 2013). For Ireland (2001: 163), the assumption that ‘ shareholders actually give something to corporations’ is a ‘ mythology’

• rather they simply place bets on

their future profitability

S S S S S S S S

BiG Co.

BiG Co. Initial Public Offering

S S S S S S S S

BiG Co.

Subsequent trading of BiG Co. shares

TYPICAL ARGUMENTS FOR SHAREHOLDER PRIMACY

Residual Bearers of Risk Goyder (1951, p.17) a shareholder’ s risk is limited and hence ‘ known in advance’ , whereby the worker’ s risk is often ‘ unknown and unforeseeable’ ’ As Mumford (2000, p. 6) notes: the argument that the shareholders are the principal risk-bearers accords ill with the observable facts. Employees, managers, suppliers and customers are also likely to suffer alongside debt-holders when a company collapses, and some of these groups may enjoy less portfolio diversification than the average shareholder Collison et al (2011, p.17), ‘ the liquidity of stock markets allows shares to be traded and for shareholders to diversify and spread their risk – again, options not readily available to employees and other stakeholders’

SO… ON WHAT OTHER GROUNDS MIGHT SHAREHOLDER PRIMACY BE ADVOCATED?

John Parkinson (1993) provides a useful summary of the normative assumptions that underpin the nexus of contracts/agency theory approach. According to Parkinson – these assumptions are as follows:

• Society's wealth is maximised when production takes place at lowest possible

costs

• A company committed to maximise profits will seek to minimise their costs
• The residual rights of shareholders create appropriate incentive for them to

exercise disciplinary function

SO… ON WHAT OTHER GROUNDS MIGHT SHAREHOLDER PRIMACY BE ADVOCATED?

Lets revisit some aspects of the nexus of contract/agency theory approach… Work in this tradition often draws (perhaps inappropriately) on Berle and Means (1932) Demsetz (1967) and Alchian (1969) - The residual rights of the shareholders create an appropriate incentive for them to activate the relevant disciplinary mechanisms According to this residual rights perspective, shareholders play a key disciplinary role in ensuring that profit maximisation is pursued, acting as a countervailing power to management and thus ensuring society’ s welfare is optimised

Jensen and Meckling (1976) and Fama (1980) The notion of an ‘ agency relationship’ was introduced to describe the relationship between shareholder (principal) and manager (agent), with the assumption that the ‘ principal retains the power to control and direct the activities of the agent’ In order to reduce ‘ agency costs’ (i.e. the loss to shareholders resulting from management decisions which are not in the shareholders’ financial interest) shareholders will seek to align managers’ interests with those of the shareholders through monitoring and incentive mechanisms

SO… ON WHAT OTHER GROUNDS MIGHT SHAREHOLDER PRIMACY BE ADVOCATED?

This position is underpinned by a certain a moral perspective – in particular, Utilitarianism i.e. a system of corporate governance which prioritises the interests of shareholders leads to the “ maximization of society’ s total wealth” (Parkinson 1993, p.41).

SO… ON WHAT OTHER GROUNDS MIGHT SHAREHOLDER PRIMACY BE ADVOCATED?

How well does this claim hold up?

SHAREHOLDER VALUE & INEQUALITY

Existing research highlights that greater disparities of wealth are evident in Anglo- American countries where shareholder value is, arguably, most pronounced (Aglietta and Reberioux, 2005; Froud et al, 2006; Harvey, 2005; Wilkinson and Pickett, 2009). One reason cited in the literature is the increase in earnings achieved by company executives as a result of agency-theory-informed incentive schemes based on a maximisation of shareholder wealth objective. As Froud et al. (2006: 58) note, the ratio between the earnings of ordinary workers and CEOs in the US grew from 50 times in 1980 to 281 times in 2002 (currently 271:1)

SHAREHOLDER VALUE & INEQUALITY

In linking inequality to the emergence of the emphasis on shareholder primacy, Dore (2008, p 1107) notes that ‘ measures of income inequality are rising…faster in the most ‘ financialized’ Anglo-Saxon economies’ , adding: ‘ median incomes stagnate while the top percentile, and especially the top permille make spectacular gains’ . Moreover, the top earners ‘ are not traditional rentiers…with the highest incomes going to those in financial services at the expense of everyone else’ (Dore 2008, p. 1107).

SHAREHOLDER VALUE & INEQUALITY

Increase in the capital share and reduction in the labour share of GDP (Dore, 2008, p.1108) And, an increase of highly paid intermediaries, such as hedge fund managers, investment bankers, lawyers and accountants which has created “ a new stratum of working rich” (Froud et al. 2006). For McSweeney (2008, p.66) by exacerbating inequality, the priority ascribed to shareholders can be linked to “ cardiovascular disease and cancer” , “ infant mortality and life expectancy, height, mental breakdown, tooth decay and morbidity”

.

LEGAL ORIGIN, INCOME INEQUALITY AND SOCIAL HEALTH

Collison et al. (2011) developed a critique of La Porta et al.'s body of work by considering the link between legal origin and social health In their early papers LaPorta et al. (1997,1998) developed the proposition that stock market size and consequent economic development were promoted by a legal system which protected the interests of shareholders Collison et al. (2011) find that common law countries (i.e. those with the greater legal protection for shareholders) have the worst social

• utcomes

The significance of La Potra et al. Proponents of an agency theory approach Academic 'rock stars' (Aguilera and Williams, 2009, p.1424) La Porta et al.’ s ‘ ideas have been adopted in international development initiatives by the World Bank as the basis for one set of its policy prescriptions for economic development in emerging markets’ (Aguilera and Williams, 2009, p.1424; see also Cioffi, 2009)

LEGAL ORIGIN, INCOME INEQUALITY AND SOCIAL HEALTH

Further, ‘ their ideas are indicative of and have supported, the virtually unrelenting pressure on European countries to adopt more market-dominated systems for

• rganizing

their economic life’ (Aguilera and Williams, 2009, p.1424) However, 'the premise that shareholder capitalism enhances social welfare has not been seriously examined as an empirical matter by leading corporate law scholars in the United States. Rather, it has been accepted as an article of faith or has been demonstrated by virtue of high share prices' (Williams and Zumbansen, 2011, p.6)

LEGAL ORIGIN, INCOME INEQUALITY AND SOCIAL HEALTH

Source: Collison, D.J., Cross, S., Ferguson, J., Power, D.M. & Stevenson, L.A. (2012) ‘ Legal Determinants of External Finance Revisited: The Inverse Relationship between Investor Protection and Societal Well-being’ Journal of Business Ethics Vol.108, No.3, pp 393-410.

Inequality in the US

OTHER CRITICISMS OF SHAREHOLDER PRIMACY

Lazonick and O’ Sullivan (2000,p.13) point out, US corporate strategy was historically orientated towards the retention of earnings - which were re-invested in the firm. However, with the growing market pressure that accompanied the pursuit of shareholder value, corporate strategy shifted ‘ to one of downsizing of corporate labour forces and distribution of corporate earnings to shareholders’ According to Dobbin and Zorn (2005: 185) this increasing emphasis

• n

shareholder value provided justification for hostile takeovers because it ‘ focused corporate attention on stock price’ . As a consequence of these increasing market pressures, ‘ executives and CFOs responded by trying to game the numbers’through the use of ‘ accounting gimmicks’ (Dobbin and Zorn 2005: 193; see also Levitt 1998).

OTHER CRITICISMS OF SHAREHOLDER PRIMACY

Taking Enron as a case in point, Aglietta and Reberioux (2005: 227) illustrate how ‘ shareholder sovereignty’ leads to inappropriate corporate strategy and accounting

• fraud. In particular, three accounting ‘

policies’ are noted in the Enron case: (i) off-balance sheet accounting (ii) abuse of fair value accounting, and (iii) manipulation of the income statement. Aglietta and Reberioux (2005: 232, emphasis added), argue that this case exemplifies a ‘ systemic crisis’ engendered by an emphasis on shareholder value and the predominance of financial markets (see also Froud et al. 2004).

Part 3 – Some alternative models of corporate governance and the firm

BERLE AND MEANS (1932) THE MODERN CORPORATION AND PRIVATE PROPERTY

1930’ s – Famous exchange between Adolf A. Berle Jr and E. Merrick Dodd Jr In this exchange, Berle argued ‘ that the management of a corporation could

• nly be held accountable to shareholders... whereas Dodd held that

corporations were accountable to both the society in which they operated and their shareholders’ (Macintosh, 1999, p.139; see also, Weiner, 1964). In many respects, the solutions proposed by these protagonists can be viewed as a precursor to the shareholder/stakeholder debate which permeates the literature today.

BERLE AND MEANS (1932) THE MODERN CORPORATION AND PRIVATE PROPERTY

Concerned with the unaccountability of management, Berle argued that the solution lay in the strengthening of the fiduciary duties of directors to shareholders. However, as Ireland (2001, p.149) argues, Berle's position was not motivated by ‘ reasons of principle’ but rather, ‘ because he could see no other way of preventing managers from feathering their own nests’ . As Macintosh (1999, p.146) and Ireland (2001, p.150) point out, Berle’ s position within this debate shifted and he began to acknowledge the ‘ validity of Dodd’ s views’ .

BERLE AND MEANS (1932) THE MODERN CORPORATION AND PRIVATE PROPERTY

The concluding chapter of this text ‘ quite explicitly’ asserts the interests

• f the community above the ‘

passive property’ rights of the rentier. For example, Berle and Means (1932, p.313) state: It seems almost essential if the corporate system is to survive, - that the ‘ control’

• f the great corporations should develop into a purely neutral

technocracy, balancing a variety of claims by various groups in the community and assigning to each a portion of the income stream on the basis of public policy rather than private cupidity.

BERLE AND MEANS (1932) THE MODERN CORPORATION AND PRIVATE PROPERTY

Neither ‘ ‘ the claims of ownership nor those of control can stand against the paramount interests of the community’ ’ . They recognize that institutional and political accommodations will need to be fashioned, but hold that: When a convincing system of community obligations is worked out and is generally accepted, in that moment the passive property right of today must yield before the larger interests of society. (p. 312)

COLIN MAYER – “ THE TRUST FIRM”

Mayer (2013) develops a critique of existing models of corporate governance – invoking many of the same arguments we have encountered already. He further expresses doubts about stock markets, in terms of their role in assigning value and as a disciplinary mechanism Through the exercise

• f

voting rights (not available to non- shareholders) shareholders have ‘ excessive…control… extracting cash from the corporation at the expense of other stakeholders’

COLIN MAYER – “ THE TRUST FIRM”

For Mayer (2013) ‘ a resolution of the problem requires corporate governance mechanisms that promote commitment and stronger managerial oversight’ In order to achieve this – Mayer (2013) proposes ‘ The Trust Firm’ (However, it is worth noting that he cautions against a universal form of governance – and acknowledges that different models may be appropriate for different industries)

COLIN MAYER – “ THE TRUST FIRM”

Mayer (2013) Trusts involve: the ‘ settlor’

• the person(s) who put assets into a trust

the ‘ trustee’

• the person(s) who manages the trust

the ‘ beneficiary’

• the person(s) who benefits from the trust

For Mayer (2013), this model ‘ differs from the agency relation of a director to a shareholder in a company, by which the director owes a fiduciary responsibility to the shareholder as the owner as well as the beneficiary of the property’ In other words, the traditional agency model casts the shareholder as both settlor and beneficiary

COLIN MAYER – “ THE TRUST FIRM”

‘ The trust firm is a corporation that has a board of trustees who are the guardian of the corporation’ s stated values and principles’ Examples of trusts include Indian Tata Group, ThyssenKrupp AG, Bosch Also, cooperatives are a form of trust In terms of how a Trust Firm is structured – there is wide variation.

COLIN MAYER – “ THE TRUST FIRM”

Mayer (2013) introduces a number of possibilities: For example… The trustees could range from a conventional corporate board appointed by the shareholders to self appointed

• r

elected membership The trust could be accountable to a membership restricted to shareholders or broadened to include wider stakeholders

GEORGE GOYDER

Goyder believed that the primacy accorded to shareholders in Company Law was “ indefensible on the grounds of justice” (1951, p.25). He proposed that companies extended the active participation of, and accountability towards, workers, the community and consumers Goyder’ s reforms were aimed at changing the institutional framework of industry and that “ it is the business of the law to establish framework” ”

(1951, p.5)

“ A company is self-owning” , the idea that it belongs to the shareholders is a legal “ fiction” (p.23) As a separate legal personality it “ is incapable of being owned” (Short Bros case) Goyder acknowledges that under Company Law shareholders have certain rights, however, he is quick to point out that “ these rights do not constitute ownership. They are a right to participate in the residual income of the going concern and to repayment of the capital” (p.24-25) Goyder (1951, p.17) notes that a shareholder’ s risk is limited and hence ‘ known in advance’ , whereby the worker’ s risk is often ‘ unknown and unforeseeable’

GEORGE GOYDER

“ Despite the absence of proprietary rights to the company's assets and the (relatively) negligible degree of risk assumed by shareholders, the ‘

• utworn and defective legal structure’

still enforces directors to act in the sole interest of shareholders (Goyder, 1951, p.25) While acknowledging that the original providers of capital have a justifiable claim to a “ return on their investment with profit” , he argues that “ there is nothing sacrosanct about a system which makes such rights perpetual” (Goyder, 1961, p.21) “ to confer immortality on a financial obligation is to tie the hands of future generations” (1961)”

GEORGE GOYDER

1.The Company as a Trust 2.Memorandum and Articles of Association 3.Changes to Company Law

GEORGE GOYDER

1.The company as a trust Carl Zeiss and Ernst Abbe (1896) Abbe offered “ by deed of gift, the transfer of control of the Zeiss firm to

• itself. A "legal person" (juristische Person) to be called the Carl Zeiss

Foundation was to be the new owner of the Zeiss firm and of Abbe's controlling interest” (Mayer, 1961)

GEORGE GOYDER

1.The company as a trust Among other things, the Foundation’ s charter specified that the purpose of Zeiss should be concerned with: (a)The economic security of the business (b)The well being of workers (c)The efficient service to consumers (d)The responsibility of the community and education (e)The distribution of surplus should be restricted to one or more of the

• bjects above

GEORGE GOYDER

• 2. Memorandum and Articles of Association

“ The personality or essence of a company resides in its Memorandum and Articles of Association…If we can make it possible for all who work in industry to hold as their own intention, the definition of purpose set

• ut in the company’

s memorandum and articles of association, we shall have taken a long step towards the possibility of creating satisfying human relations in industry” The possibilities of using this approach have recently been considered by David Cieply (2013, p.150): “ A corporate charter could make the employees the electors

• f

the board—or place employee representatives on the board, as in Germany… without violating any of the property rights of shareholders” .

GEORGE GOYDER

• 2. Memorandum and Articles of Association

(a)General Objects (b)Articles

• I. Workers rights to membership

II.Representation on Board of Directors III.Promotion IV.Chain of responsibility (c) Profits and Dividends

GEORGE GOYDER

• 3. Changes to Company Law

(a) Workers to become members (b) Compulsory capital redemption (50 years) (c) Compulsory General Objects Clause

GEORGE GOYDER

Goyder’ s ideas inspired “ Ernest Bader, one of the few entrepreneurs ever to have given away his company, transferred his plastics resin business, Scott Bader Ltd., to a company limited by guarantee (the Scott Bader Commonwealth Ltd.) under a scheme inspired by Goyder. In turn Bader’ s pioneering work provided one of several models from which E.F. Schumacher… developed his ideas about ‘ intermediate technology’ based on smaller working units, communal ownership, and regional work-places” (Jeremy, 1990, p.207; see also Marinetto, 1999).

GEORGE GOYDER

SCOTT BADER & CO

Ernst Bader established Scott Bader Commonwealth and vested the ownership

• f the firm –

influenced by George Goyder Members of the commonwealth established a constitution on distribution of powers Restrictions

• Firm of limited size
• Ratio of highest to lowest paid not to exceed 7:1
• Members of the commonwealth are partners (not employees)
• Board of Directors accountable to the commonwealth

40% profits to commonwealth (20% for bonus and 20% charity); 60% for tax and retained earnings

The merit of Scott Bader & Co “ lies precisely in the attainment

• f objectives which are generally assigned a second place or

altogether neglected by ordinary commercial practice. In other words, the Bader “ system”

• vercomes the reductionism of the

private ownership system and uses industrial organisation as a servant of man, instead of allowing it to use men simply as means to the enrichment

• f

the

• wners
• f

capital” (Schumacher, 1975, p.233).

PARKINSON (1993)

Widen fiduciary duties to non-shareholder groups Disclosure and reporting requirement - Social audit and The Corporate Report Consultation and the composition of the board Smaller scale production Employee participation

QUESTIONS?

Part 4 – Corporate Governance in a Global Context: Business and Human Rights

MN4227: Corporate Social Responsibility, Accountability & Reporting

• Prof. John Ferguson

Human Rights – A (very) brief introduction

The idea of human rights is “ simple and powerful” (Ruggie, 2013) Natural Law (classical Greece), Magna Carta (1215), the US Constitution (1787) and the US Bill of Rights (1791) are written precursors to contemporary human rights (according to Douzinas, 2000) Grotius, Hobbes, Locke, Rousseau Contemporary manifestation through UN “ Architecture” Not without criticism…

‘ Nonsense upon Stilts’ Jeremy Bentham

Human Rights – The UN “Architecture”

Universal Declaration of Human Rights – adopted by the UN General Assembly in 1948 Followed by Two Treaties: the International Covenant on Civil and Political Rights (ICCPR) the International Covenant on Economic, Social and Cultural Rights (ICESCR) Together – the declaration and the treaties are known as the “ International Bill of Human Rights”

Human Rights – The UN “Architecture”

• The UN Human Rights System now has 9 core treaties to protect

human rights

• States ratify (make legally binding commitment to) treaties
• Each core treaty has an associated committee which is tasked with

monitoring

• International human rights law lays down obligations which States

are bound to respect

Why Business And Human Rights?

Business and human rights “ became an increasingly prominent feature

• n the international agenda in the 1990s. The liberalization of trade,

domestic deregulation, and privatisation throughout the world extended the scope and deepened the impact of [business and] markets” Ruggie (2013, p.xxv) “ Multinational firms were unprepared for the need to manage the risks

• f their causing or contributing to human rights harm through their own

activities and business relationships” (p.xxvi)

Ruggie, JG. (2013), Just Business: Mutinational Corporations and Human Rights (Norton: New York)

Why Business And Human Rights?

“ Governance gaps” “ The root cause of the business and human rights predicament today lies in the governance gaps created by globalization—between the scope and impact of economic forces and actors, and the capacity of societies to manage their adverse consequences. These governance gaps provide the permissive environment for wrongful acts by companies of all kinds without adequate sanctioning or reparation” . (Ruggie, 2008, p.189)

Ruggie, J.G. (2008), Protect, Respect and Remedy A Framework for Business and Human Rights, available at: http://www.mitpressjournals.org/doi/pdf/10.1162/itgg.2008.3.2.189

Why Business And Human Rights?

Transnational corporations – proliferation of bilateral investment treaties’ allow investors to take companies to binding international arbitration. For example, “ A European mining company operating in South Africa recently challenged that country’ s black economic empowerment laws on these grounds” (Ruggie, 2008, p.189). Legal framework regulating transnational corporations - a parent company and its subsidiaries construed as distinct legal entities. Therefore, the parent company is generally not liable for wrongs committed by a subsidiary Relative power of states - some developing countries may lack the institutional capacity to enforce national laws and regulations against transnational corporations Offshore sourcing, supply chain issues – especially where governance challenges are greatest (conflict, corruption, rule of law)

BHOPAL

Business and Human Rights

“ Because companies can affect virtually all internationally recognized rights, they should consider the responsibility to respect in relation to all such rights…”

Ruggie, J.G. (2008), Protect, Respect and Remedy A Framework for Business and Human Rights, available at: http://www.mitpressjournals.org/doi/pdf/10.1162/itgg.2008.3.2.189

UN, Business And Human Rights

2000 - UN Global Compact 2004 - Draft Norms on the Responsibilities of Transnational Corporations and Other Business Enterprises with Regard to Human Rights 2005 - UN Secretary-General's Special Representative on business & human rights – John Ruggie 2008 - Protect, Respect and Remedy Framework 2011 - Guiding Principles

UN Global Compact

• “

asks companies to embrace universal principles and to partner with the United Nations”

• “

has grown to become a critical platform for the UN to engage effectively with enlightened global business” Ban Ki-moon

• more than 10,000 participants; over 7,000 businesses in

145 countries around the world.

• Human rights lowest implemented of principle areas
• Less than 25% respondents report risk assessments on

human rights, labour issues or anti-corruption

88

The “Norms”

Norms essentially sought to impose, as binding obligations on companies directly under international human rights law, the same range of duties that states have accepted for themselves: namely “ to promote, secure the fulfillment of, respect, ensure respect of, and protect human rights,” States would have “ primary” duties and companies would have “ secondary” duties

The “Norms”

• Business vehemently opposed; human rights advocacy groups

strongly in favor

• The Commission on Human Rights declined to adopt the Norms
• “

sphere of influence”

• norms imposed responsibilities for rights that states had not yet

recognised (eg – living wage)

• Attributing duties to corporations?
• Undermine domestic and political incentives
• From shareholder to stakeholder mode of governance

Protect, Respect and Remedy

Following a rejection of ‘ the Norms’ – the commission requested

the UN Secretary-General appoint a Special Representative to help move beyond the stalemate

John Ruggie, the Special Representative of the Secretary- General of the United Nations (UN) on the Issue of Human Rights and Transnational Corporations and Other Business Enterprise

Protect, Respect and Remedy

• States duty to protect human rights
• It also includes an obligation to protect against actions by non-

state actors (such as corporations)

• Actions of non state actors (corporations) can be attributed to

state:

• If empowered by state
• If acting under direction of state
• If state complicit or fails to exercise due diligence

Protect, Respect and Remedy

• Corporate responsibility to respect human rights (All

internationally recognized rights)

• Corporations do not have the same obligations as

states

• Responsibility- Social expectation, social norm, social

license to operate

• Due diligence
• Complicity

Protect, Respect and Remedy

Access to remedy Effective grievance mechanisms States – should strengthen judicial capacity to hear complaints/enforce remedies Non-judicial mechanisms Corporations- voluntary actions, criminal responsibility

Guiding Principles

The GPs were unanimously endorsed by the Human Rights Council in 2011 GPs ‘

• perationalize’

Protect, Respect, Remedy framework Provides recommendations on implementation An emerging consensus on corporate social responsibility? The implementation of the GPs - focal point for a wide range of of actors concerned with the development of new forms of governance: Corporations, state agencies, NGOs, civil society groups, professional bodies and international organisations.

RAFI – Reporting and Assurance Framework

• Developed by Shift, a non-profit centre on business and

human rights and audit and consulting firm Mazars

• Due diligence - to “

know and show”

• Global Reporting Initiative (GRI) –

Memorandum of Understanding

• Integrated Reporting –

involved in development of RAFI; can be used as guidance for reported information

• See: https://www.ungpreporting.org/assurance/

RAFI – Reporting and Assurance Framework

Reporting Policy and embedding human rights – including with business relationships Statement of salient issues and how they were determined Management of salient issues through policies, stakeholder engagement and tracking performance Criticism – guidance “ high level” ; lacks detailed description

Other Developments

• National Action Plans
• UK were the first country to develop action plan
• Scotland are in the process:
• http://www.snaprights.info/action-areas/better-

world/business-and-human-rights

Other Developments

• UK Modern Slavery Act
• OECD Guidelines for Multinational Enterprises, containing a

human rights chapter drawn from the Guiding Principles and national complaints mechanisms.

• International Finance Corporation Sustainability Principles and

Performance Standards, - which affect access to international capital.

Other Developments

• ISO26000

Guidance

• n

Social Responsibility, providing ‘ harmonised, globally relevant guidance for private and public sector organisations’ to ‘ encourage implementation of best practice in social responsibility worldwide.

• European Commission request to member states to submit

plans for implementing the Guiding Principles.

• EU Non-Financial Reporting requirements
• Incorporation of the UNGP’

s concept of human rights due diligence into Section 1502 of the United States Dodd-Frank Act in relation to conflict minerals procured in the Democratic Republic of Congo.

Criticism of UNGPs

• UNGPs are voluntary and don’

t apply to companies that don’ t want to join. Relatedly, the UNGPs do not provide a mechanism to ensure companies compliance or to measure implementation.

• GPs do not offer or propose any real accountability mechanisms

which is left for governments to develop at the domestic level.

Criticism of UNGPs

“ The GPs effectively hand the regulatory authority for any binding, enforced

• r

even merely monitored measures back to the governments, which have proven in the past that they are hardly willing to go it alone. In other words, the GPs fall prey to the very problem they were supposed to fix, that is, the problem of growing governance gaps between companies’ increasing sphere of activity and governments’decreasing ability or willing- ness to regulate them” (Wettstein, 2015, p.166).

Criticism of UNGPs

• The UNGPs do not insist that governments regulate companies with

sufficient scope and rigor; while the UNGPs stipulate that “ States should encourage business”to respect human rights, it has been argued that the UNGPs could have more clearly stated that States should implement regulatory mechanisms (such as mandatory due diligence requirements).

• Limited to the negative dimension of ‘

‘ doing no harm.’ ’

• Rights of women, children, Indigenous peoples not sufficiently

addressed

Calls for Legally Binding Treaty

• In 2014 at the UN Human Rights Council in Geneva, a resolution

was tabled for adoption by the Council.

• Drafted by Ecuador and South Africa, signed by Bolivia, Cuba and

Venezuela and supported by 20 countries in a vote the resolution seeks "to establish an open-ended intergovernmental working group with the mandate to elaborate an international legally binding instrument on Transnational Corporations and Other Business Enterprises with respect to human rights.”

• Concerns that implementation of UNGPs not satisfactory –NAPs

‘ lack teeth’ and developed without sufficient consultation

• Proposed treaty could seek to make human rights due diligence

binding

Calls for Legally Binding Treaty

• Advocates of a treaty argue that there ought to be one single

international law, that binds all business enterprises everywhere under a common set of standards protecting human rights

• Relatedly, it has been argued that a treaty could help address the

issue that, under international human rights law, only states can be held responsible for human rights violations. A treaty could lead to a mechanism whereby a corporation, if deemed to be the primary cause of harm, could be held accountable.

Calls for Legally Binding Treaty

• A treaty could emphasize the State obligation to ensure the

provision of adequate, effective, prompt and appropriate remedies

• A treaty could open up access to ‘

home state’ courts by abolishing the principle of forum non-conveniens for business and human rights cases.

• A treaty could make a provision that required States to pass

legislation that placed parent or controlling companies under an express duty of care.

Defending the UNGPs

John Ruggie, who was responsible for developing the UNGPs, has pointed to a number of limitations of the proposed treaty:

• Whatever standards were incorporated into a treaty, it would most likely

reflect a low common denominator, well short of the highest current voluntary standards.

• International law has historically held states accountable for their own

human rights violations (and for violations committed by individuals and corporations within their borders). The treaty proposes to abandon this framework, without offering a clear division of responsibility or an articulable standard to replace it.

Defending the UNGPs

• Business and human rights is not a discrete single issue-area (like those

reflected in other treaty instruments), and hence it would be exceptionally difficult to develop a single set of detailed treaty obligations. Business and human rights includes an assemblage of different bodies of national and international law, human rights law, labor law, anti-discrimination law, humanitarian law, investment law, trade law, consumer protection law, as well as corporate law and securities regulation.

• Ruggie notes that negotiations on the non-binding Declaration on the

Rights of Indigenous Peoples took twenty-six years, and it only deals with

• ne set of rights for one category of people - not with all rights, for all

people, all states, and all business enterprises.

CORPORATE GOVERNANCE

Some readings that informed the lectures for this part of the module: Berle, A.A. and Means, G. (1932), The modern corporation and private property (New York: Macmillan). Berle, A.A. (1931), ‘ Corporate powers as powers in trust’ , Harvard Law Review, 44 (7): 1049-1074. Ciepley, D. (2013). Beyond Public and Private: Toward a Political Theory of the

• Corporation. American Political Science Review, 107(1), 139-158.

Cioffi, J. (2000), “ Governing Globalization? The State, Law, and Structural Change in Corporate Governance” , Journal of Law and Society, 27(4) Collison, D.J., Ferguson, J., Power, D.M. & Stevenson, L.A. (2011) Shareholder Primacy in UK Corporate Law and Culture: An Exploration of the Rationale and Evidence, ACCA, London Deakin, S. (2012), ‘ The Corporation as Commons: Rethinking Property Rights, Governance and Sustainability in the Business Enterprise’ , Queens Law Journal.

CORPORATE GOVERNANCE

Some readings that informed the lectures for this part of the module:

• Dodd. M. (1932), ‘

For whom are corporate managers trustees?’ Harvard Law Review, 45 (7): 1145-1163. Fama, E.F. (1980). ‘ Agency Problem and the theory of the firm’ , Journal of Political Economy, 88 (2): 288-307. Gindis, D. (2009). From fictions and aggregates to real entities in the theory of the

• firm. Journal of Institutional Economics, 5(1), 25-46

Goyder, G.A. (1951), The Future of Private Enterprise (Oxford: Blackwell). Ireland, P. (1999), ‘ Company Law and the Myth of Shareholder Ownership’ , Modern Law Review, 62 (1): 32-57. Jensen, M. and Meckling, W. (1976), ‘ Theory of the Firm: Managerial Behavior Agency Costs and Ownership Structure’ , The Journal of Financial Economics, 3(4): 305– 360. Krippner, G. (2005), ‘ The Financialization of the American Economy’ , Socio- Economic Review, 3(2): 173-208.

CORPORATE GOVERNANCE

Some readings that informed the lectures for this part of the module: Mcdonald, K and Mcdonald, T. (2010), “ Democracy in a Pluralist Global Order: Corporate Power and Stakeholder Representation” , Ethics & International Affairs; 24, 1 Parkinson, J. (1993), Corporate Power and Responsibility: Issues in the Theory of Company Law (Oxford: Oxford University Press). Parkinson, J (2003), “ Models of the Company and the Employment Relationship” , British Journal of Industrial Relations, Vol. 41, pp. 481-509. Ruggie, J.G. (2004), “ Reconstituting the Global Public Domain — Issues, Actors, and Practices” , European Journal of International Relations, 10(4): 499– 531 Scherer, A., Palazzo, G. and Baumann, D. (2006), “ Global Rules and Private Actors: Toward a New Role of the Transnational Corporation in Global Governance” , Business Ethics Quarterly, 16(4), 505– 532 Stout, L. (2002), “ Bad and Not-So-Bad Arguments For Shareholder Primacy” , Southern California Law Review, Vol. 75, p. 1189, 2002. Available at SSRN: http://ssrn.com/abstract=331464

Business and Human Rights references: Mcdonald, K. (2011), “ Re-thinking ‘ Spheres of Responsibility’ :Business Responsibility for Indirect Harm” , Journal of Business Ethics, 99:549– 563 Ruggie, J.G. (2008), Protect, Respect and Remedy A Framework for Business and Human Rights, available at: http://www.mitpressjournals.org/doi/pdf/10.1162/itgg.2008.3.2.189 Ruggie, J (2015), A UN Business and Human Rights Treaty?, available at: https://www.hks.harvard.edu/m- rcbg/CSRI/UNBusinessandHumanRightsTreaty.pdf Wettstein, Florian (2015) Normativity, Ethics, and the UN Guiding Principles on Business and Human Rights: A Critical Assessment. Journal

• f Human Rights, 14 (2). 162-182

The following links provide a useful entry point into issues related to the development of a Treaty (you may need to cut and paste into your browser): http://business-humanrights.org/en/debate-the- treaty https://business-humanrights.org/en/binding-treaty