Chapter 12
Corporate Governance and
Control of Global Operations
Global Strategic Issues


Globalization refers to the deepening of
relationships and interdependence between people
throughout the world
Companies are multi-domestic or global


Multi-domestic approach allows subsidiaries to compete
independently in domestic markets
 Example – Philips
Global approach pits the worldwide system of product and
market position against the competition
 Example - Matsushita
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Global Strategic Issues

Hout, Porter, and Rudden (1982) findings

Multi-domestic strategic companies






Have products that differ from country market to
country market
High transportation costs
Economies of scale may be too modest
R&D closely tied to a specific market
Government barriers to trade are too high
Distribution systems are fragmented and impenetrable
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Global Strategic Issues

Hout, Porter, and Rudden (1982) findings

Global strategic companies



Benefits gained from worldwide volume exceed costs
of serving that volume
Usually more centralized than multi-domestic strategic
companies
See example at chapter end – Proctor and Gamble
and Unilever
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Global Strategic Issues


What does “global” mean?
Hamel and Prahalad (1992) definitions
 Global Competition



Firms attack competition in markets worldwide
Example – U.S. auto industry in the 1980s
Global Business


Minimum volume required for cost efficiency is not available in
home market, so overseas markets are pursued, possibly
supplied with domestic production
Examples – Chinese textiles, Boeing and Airbus
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Global Strategic Issues

Hamel and Prahalad (1992) definitions
 Global Companies


Have distribution systems in key markets that enable crosssubsidization, international retaliation, and world-scale volume
Example – Airline industry
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Global Strategic Issues

Bartlett and Ghoshal (1989) findings

3 Global Imperatives





Forces for global integration – the need for efficiency
Forces for local differentiation – the need for
responsiveness
Forces for worldwide innovation – the need for
learning
Companies must deal with all 3 simultaneously
Companies should use a transnational strategy

Corporate assets are dispersed, interdependent, and
specialized
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Components of a Total Global
Strategy – Fig. 12.1
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Global Strategic Issues

Example – Toyota



Toyota partnered with PSA Peugeot Citroën to
build small cars in the Czech Republic to supply
the European market
The factory was designed, built, and tested in a
virtual factory in Japan (Edmondson, 2005)
The plant will be run by Japanese and French
managers and monitored in Japan
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Informal and Subtle
Mechanisms of Control

Lateral relations


Informal communication


Task forces and meetings help throughout the formal
structure to accomplish corporate objectives
Involves the network of personal contacts that one
develops over time in the organization
Organizational culture

The outcome of the process of socializing individuals within
a firm and across national boundaries, which allows things
to be done by different people in similar or consistent ways.
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Organizational Structure

Two major classifications for coordinating activities
in MNEs





Structural and formal mechanisms
Informal and subtle mechanisms
Control is shifting from formal to informal
mechanisms
A firm’s organization is constantly evolving
Failure to adjust to a changing environment can lead
to internal conflict and poor performance
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Evolution of Organizational
Structure



Export activities start in the form of
occasional orders from foreign buyers
An export department is then developed with
internal, rather than external, experts
Foreign sales increase and foreign sales
offices are established
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Domestic Organization with
Export Group
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
International Division
Structure



May become necessary to develop foreign
production facilities
A new international division replaces the old
export division with substantial autonomy
The firm can possibly be split into two rival
factors (domestic and international)
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Global Structure



To avoid a divisional conflict, a company adopts a
global product structure or global geographic
structure
Differences between domestic and international
divisions are eliminated
Companies select structure based on products and
market



Global product structure is favored by companies with
simple, stable product lines
Global geographic structure is favored by companies with a
wide range of complex products
New conflict emerges between product divisions and
geographic divisions
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Geographic Structure
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Product Structure
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Global Structure

Global grid/matrix structure emerged


The matrix has shortcomings


Product dimensions, geographic areas, and
functional areas share power and responsibilities
Bartlett and Ghoshal (1989) point out that
“confusion” and “turf battles” occurred.
Organizational problems are more complex
than organizational structure

Many involve the attitude of top management
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Matrix or Grid Organization
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Corporate Governance

All business activities consist of two things



Shareholders have been concerned lately with how
resources have been used



A set of resources
People who make those resources profitable
Examples – Enron, WorldCom, Parmalat
The role of the board of directors to check
management has been a hot topic lately
Large institutional investors are focusing on
shareholder activism
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Internal Governance
Mechanisms

Internal governance mechanisms are
established to insure the proper actions of
management

Roles of the Board of Directors





Hire, control, and fire management
Determine management’s compensation
Composed of multiple committees
Board members are appointed by the owners
Should have a majority of “outside” members
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Corporate Governance
Mechanisms
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Internal Governance
Mechanisms

Ownership structure



Determines how capital will
come into the firm
Determines how wealth will
be distributed
Difficulties occur when firms
from one structure invest in
a country with a different
structure
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Internal Governance
Mechanisms

Example - Millman and Wonacott (2005)



Chinese firms have invested in South America to gain
access to raw materials and markets
Chinese managers are accused of separating
Chinese workers from regular workers and of not
working with local suppliers and businesses
The Chinese are having difficulty coping with a
different labor and ownership environment
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
External Governance
Mechanisms

Takeover market



Firms can be purchased by new owners who believe they
can make the firms more profitable
More developed in countries with highly developed
securities markets
Legal system


Can offer protection to investors and encourage the
investment
 Example – common law in U.S. and U.K.
 Example – code law in Germany and France
Can deter investors if there is a lack of protection
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
International Importance of
Governance



Recent corporate meltdowns have shattered
customer confidence worldwide
As a result, Codes of Best Practice have
been created
Cadbury Report (U.K.) board requirements



A specific number of outside directors
Committees to carry out board functions
Separating the roles of chairman and CEO
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
International Importance of
Governance

Scorecard for German Corporate
Governance


Reflects Germany’s legalistic approach
Governance alone is not enough to combat
fraud
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Studies on International Corporate
Governance Practices

Board of Directors - Denis and McConnell (2003)
 U.S. – main goal is to protect shareholder
interests
 Europe – most countries do not have laws
governing the role of the board of directors


Japan – appoint outside directors when in trouble


Some have two-tiered boards, as in Germany
Use banks for the role of outside governance
Russia – insiders control the board
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Studies on International Corporate
Governance Practices

Board of Directors – Denis and McConnell (2003)




Higher proportion of outside directors does not mean
higher profitability
Higher proportion of outside directors positively impacts
decisions concerning
 Acquisitions
 Executive compensation
 CEO turnover
Board size is negatively related to
 Firm performance
 Quality of decision making
Independent directors are more likely to fire management
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Studies on International Corporate
Governance Practices

Executive Compensation




Goal is to align management’s goals with
investors’ goals
U.S. studies have shown that sensitivity of pay to
performance has increased over time
Stock options are the fastest growing type of
executive compensation in the U.S.
Japan and Spain are following suit
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Studies on International Corporate
Governance Practices

Ownership Structure




Market-centered economies – U.S. and U.K.
 Ownership tends to be dispersed
Bank-centered economies – Japan and Germany
 Ownership tends to be concentrated
Outside of the U.S., concentrated ownership indicates
positive firm performance
 Study of East Asian countries revealed a positive
relationship between government and bank ownership and
firm performance
Privitization of business has a positive effect on profitability
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Studies on International Corporate
Governance Practices

The External Control Market


A hostile takeover occurs when a firm is
purchased without soliciting bids
U.S. has the most active market



Example – Molson and Coors
U.K. also has an active takeover market
External market has not been shown to be a
common governance control tool
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Studies on International Corporate
Governance Practices

The Legal System

Preference for concentrated ownership can be explained
by legal system (La Porta et al. 1998)
 Common law system – U.S. and U.K.




Civil law system – France and Germany




Provide strongest degree of protection for shareholders
Tend to have more dispersed ownership
Three largest shareholders own 20% of the firm
Provide the least amount of protection for shareholders
Tend to have more concentrated ownership
Three largest shareholders own 45% of the firm
“If the law does not protect the owners from the controllers,
the owners will seek to be controllers.”
(Denis and McConnell 2003)
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Cross National Differences in
Corporate Governance
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Cross National Differences in
Corporate Governance - Capital


Refers to the shareholders or owners
Shareholders exercise control in 2 ways


Commitment – length of holding shares
Liquidity – active buying and selling of shares
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Cross National Differences in
Corporate Governance - Capital

Three Factors of Shareholder Control
 Property Rights




Financial System



In countries that favor large shareholders, owners tend to exercise
control through commitment
Example – Japan’s property rights favor banks
U.S. laws tend to favor small shareholders, who exercise control
through liquidity
Bank-based system – commitment (Germany)
Market-based system – liquidity (U.S.)
Interfirm Networks


Japan and Europe have these; tendency toward commitment
U.K. – tendency toward liquidity
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Cross National Differences in
Corporate Governance - Labor

Influence exercised by employees depends on three
factors



Representation rights
 Strong representation = internal participation
 European countries have strong representation
Union organization
 Class-based and craft-based unionism = external
participation
 Enterprise-based unionism = internal participation
Skills formation
 Portable skills = external participation (U.S.)
 Firm-based skills = internal participation (Japan)
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Cross National Differences in
Corporate Governance - Management

Ideology

General knowledge and hierarchical decisions


Scientific specialization and consensual decisions


U.S. and France – finance focus
Greater commitment to the firm (Germany)
Career Formation

Closed managerial labor markets (Japan)


Greater commitment to the firm/very specialized
Open managerial labor markets (U.S.)

Less commitment to one firm/more autonomy
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Internal Controls

COSO Framework





Control Environment – control consciousness of
the people
Risk Assessment – risk management of all
sources of risk
Control Activities – policies and procedures
Information and Communication – communicating
significant information to the right functions
Monitoring – assessment of system performance
over time
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
The Sarbanes-Oxley Act of
2002

Section 404





Establishes management’s responsibility for
internal controls
Management must assess controls annually
Management’s assessment must be assessed by
an independent auditor
Effective November 15, 2004
Foreign firms listing in the U.S. – July 15, 2005
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
The Sarbanes-Oxley Act of
2002

Cost of compliance is tremendous!


Foreign listings on NYSE are decreasing



E&Y showed that large U.S. firms would spend
more than 100,000 hours to comply with 404
Large new listings have not declined
Some say increased transparency is an
advantage to firms
Countries must be compliant in all countries
of operation
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
The Role of Information
Technology in MNEs


I.T. is now a key strategic function in firms
Enterprise Resource Planning (ERP) has
helped to link departments and functions into
one system
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
The Role of Information
Technology in MNEs

Advantages of ERP
include


Integration of customer
order information
Reduction in inventory

Problems of ERP
include



Training costs
Integration and testing
Consulting fees
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Theories and Realities of
Global Information Processing

Egelhoff’s (1991) 4 dimensions of processing




Routine – inputs are frequent and homogeneous
Nonroutine – info is unique and infrequent
Sequential – info flows in a predetermined
direction
Reciprocal – info flows in a manner not previously
determined
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Theories and Realities of
Global Information Processing



Accounting info for MNEs tends to be routine
and sequential
Accounting info must have extensive reach
Internationally, the key is to determine how to
share information across organizational lines
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
MNEs and Transborder Data
Flows



Management of info is as important as management
of assets and production
Some countries have legislation affecting
transborder data flows
Concerns over transborder data include





Employee information
Industrial espionage involving data piracy
Political espionage
Theft of industrial properties and designs
Fiber optics are improving data flow worldwide
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Final Thoughts on MIS and
Strategy


Firms with a multi-domestic approach do not
integrate as much as firms with a global
orientation
MNEs that follow the transnational model
tend to be more interactive

These MNEs will be more reciprocal than
sequential in data flow
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Knowledge Flows in MNEs
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Final Thoughts on MIS and
Strategy



Mirchandani and Lederer (2004) found that
the systems function is treated differently
than traditional functions (marketing, finance,
manufacturing)
MNEs may want less autonomy in systems to
ensure compatibility among systems
MNEs are concerned with data security, so
systems design may be less autonomous
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
Centralization, Strategy, and
the Accounting Function




The degree of centralization may affect the nature of
the accounting control function
MNEs need to implement a system that provides
flows of information between all combinations of
affiliates and parents
This needed system is not highly decentralized or
centralized
Record-keeping is often complex, but can be
controlled by the parent company

Example – Coke and its policy manuals
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black
The Use of Internal Controls

3 methods used to develop a global
orientation are




Develop and communicate a clear and consistent
corporate vision
Manage human resource tools effectively
Integrate individual thinking and activities into the
broad corporate agenda by means of co-option
(developing a more global perspective)
Accountants must have a global vision
International Accounting & Multinational Enterprises – Chapter 12 – Radebaugh, Gray, Black