Corporate Governance
and Control in Europe
Nico Dewaelheyns
Faculty of Economics & Business
Why do governance and control matter?
• Central financial goal of companies: maximize shareholder value,
while respecting the rights of other stakeholders (e.g. employees,
creditors, clients, suppliers, government, etc.)
• In practice, managers or board members do not always make
•
decisions which are optimal for the value of the company
Extreme cases: accounting fraud, for instance:
‒
WorldCom: 3.8 billion USD of costs were not taken into account
‒
Enron: 1.7 billion USD ‘hidden’ losses
→ more regulation (US: Sarbanes-Oxley)
‒
Europe: Parmalat, Ahold
‒
Asia: Hyundai/Kia, Olympus
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Why do governance and control matter?
Negative consequences for company value are severe:
Source: euroland.com
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Why do governance and control matter?
Source: euroland.com
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Agency problems
• Potential causes of suboptimal behaviour: agency
problems
• Day-to-day management of the company is delegated by
shareholders (the principals) to managers (the agents)
• Delegation improves the probability of a company’s
continuity
–
–
shareholders can sell their stake
managers can leave
• Delegation allows for a higher level of professionalism
• However: differences in incentives and information
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Agency problems
• Problems caused by separation of ownership and
management
 managers may not always have an incentive to maximize the
overall value of the company
•
Agency costs
–
excessive luxury spending
–
obtaining personal influence and power
costs of internal and external auditing (monitoring costs)
risk avoidance in project selection (entrenchment)
–
–
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Agency problems: solutions
• Make sure that the incentives of managers and
shareholders are well aligned
• Incentive pay:
stock option plans given on top of base pay
 large bonus if stock price increases
• Downside: increases short termism and rewards risk
seeking behaviour
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Agency problems: solutions
• Market disciplining
• corporate results and behaviour are monitored by financial
analists, major investors, journalists, etc.
• badly performing managers can be fired (golden/platinum
parachutes?)
• badly managed companies may be acquired by outside
parties (e.g. Arcelor/Mittal Steel)
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Agency problems: solutions
• Corporate governance regulation
• Set of best practice rules and principles on corporate
structure and organization (for instance, OECD 2004 list)
• Different regulations in each country, but typically imposed
on publicly traded companies and advised for private
companies
• Legal enforcement vs. auto-regulation?
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Corporate Governance Principles:
Examples
–
–
–
–
–
–
–
–
–
Board of Directors acts in the best interest of the
company
Directors show integrity and dedication
Transparant procedures for appointing and evaluting
directors
Committees for renumeration and nomination
Role of executive directors is clearly structured
Directors and managers receive fair compensation
The rights of all shareholders and stakeholders are
respected
Full disclosure on all goverance related issues
...
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Corporate Governance Regulation
in the EU
Attempts at harmonization across member states, for
instance:
• Recommendation on the Role of Nonexecutive/Supervisory Directors
•
•
•
•
•
•
and Supervisory Board Committees (2004)
Directive on Takeover Bids (2004)
Recommendation on the Remuneration of Directors (2005)
Transparency Directive (2005)
Directive on Company Law, Accounting and Auditing Rules (2007)
Directive on the Exercise of Shareholders’ Rights (2007)
Directive on Transparency Requirements for Listed Companies (2013)
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Shareholder concentration & control
• Anglo-Saxon countries:
―
―
stylized fact: dispersed ownership
supervision by financial markets (e.g. institutional investors)
• Drawback of dispersion: free rider problems
―
―
individual shareholders have little incentives to use voting rights
lack of control on management if financial markets are not well
organized
• Rest of the world: often highly concentrated ownership
• Asia: Japan (keiretsu), Korea (chaebol)
• Europe: controlling shareholders; complex mechanisms
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Ownership in the US
• Limited direct control by founders/founding familiy
• Ownership transparant and straightforward
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Ownership in the US
Source: finance.yahoo.com
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Ownership in the US
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Ownership in the US
• Ownership of mature companies often very dispersed
Example: PepsiCo
Source: moneycentral.msn.com
• Agency problem: shareholders vs. managers
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Ownership in Europe
• High levels of ownership and control by founding
families/insiders
• Complex ownership mechanisms: pyramids, holding
companies, cross holdings, dual class stock, etc.
• Allows for the control of companies with relatively low use
of financial resources
• Dual class stock (↔ one share-one vote; also popular in
the US):
―
―
Class A shares: high cash flow rights; low voting rights
Class B shares: low cash flow rights; high voting rights
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Direct and indirect ownership
Direct
control
Indirect control with
majority of cash flow rights
Indirect control without
majority of cash flow rights
A
A
A
50.01%
60%
20%
50.01%
B
B
C
C
50.01%
50.01%
B
Percentage of company B’s cash flow rights held by company A:
50.01%
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20% + 60% x 50.01% = 50%
50% x 50% = 25%
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Complex ownership: GBL
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Complex ownership: GBL
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Complex ownership: GBL
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Complex ownership: GBL
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Implications for board composition
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Main agency problems
• US/UK:
shareholders
managers
• Continental Europe:
majority shareholders
minority shareholders
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managers
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EU Takeover Bids Directive (2004/25/EG)
• General principles: improve transition of ownership; protect minority
shareholders; improve transparancy; reduce takeover defense
mechanisms
Source: Baker & McKenzie
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EU Takeover Bids Directive (2004/25/EG)
• Opt-out principle has lead to low implementation of key parts of the
•
•
directive
Board neutrality rule (Article 9): during the bid period the board of the
target company must obtain prior authorization from the general
assembly of shareholders before taking any action which might result
in the frustration of the bid
implemented by 19 member states (with exceptions in 13)
Breakthrough rule (Article 11): neutralizes pre-bid defenses during a
takeover by making certain restrictions (e.g. share transfer or voting
restrictions) inoperable during the takeover period and allows a
successful bidder to remove the incumbent board of the target
company and modify its articles of association
implemented by 3 member states
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EC Proposal on Shareholder Rights
• Wants to fix shortcomings of existing (2007) Shareholder Rights
Directive
• Binding rules for transparancy of institutional investors on their voting
•
•
•
•
•
behavior
Shareholder vote on director remuneration
Transparancy and shareholder vote on related parties’ transactions
Transparancy for proxy advisors
Shareholder identification by financial intermediaries
…
→ increase influence of minority shareholders; reduce agency conflicts
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Ownership: empirical studies
• La Porta et al. (1999): "Corporate Ownership around the
World"
• Analysis of the ownership structure of the largest quoted
companies in 27 industrialized countries (market value
>$500m)
• Split-up into countries with strong shareholder
protection/strong anti-director regulation (mostly common
law countries) and countries with weak
protection/regulation (mostly civil law countries)
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Ownership: empirical studies
Source: La Porta et al. (1999)
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Ownership: empirical studies
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Ownership: empirical studies
More recent research (e.g. Holderness, 2009) questions some
of La Porta et al.’s conclusions:
• Stylized fact that US companies have more dispersed
ownership is partly due to a disproportiate focus on very
large companies
• Ownership concentration around the world is linked to
company size, age, industry, etc.
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Ownership: empirical studies
blockholder: >5%
Source: Holderness (2009)
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Ownership across time
Life cycle theory:
• most companies start off small with fully concentrated
ownership (founders and their family)
• as companies grow, the need for professional managerial
skills and the need for financial resources lowers
concentration
• most succesfull companies end up quoted with dispersed
ownership
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Ownership across time
Franks et al. (2012): study the ownership of the top 1,000 companies in the
UK, France, Germany & Italy (1996-2006)
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Ownership across time
• Ownership is persistent, but more so in Continental Europe
than in the UK
• Extrapolation: a family firm in the UK has more than a 75%
chance of remaining a family firm 40 years later, and a 30%
chance 150 years later; on the continent chances of forever
remaining a family firm are very high
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Ownership across time
• Even the case for listed family firms:
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The impact of concentrated ownership
• Bennedsen & Nielsen (2010): >4000 quoted Western European
companies from 14 countries
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The impact of concentrated ownership
•
Value discount for concentrated ownership: worse for family controlled,
disproportional cash flow/control rights, private benefit industries, low regulation
countries
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The impact of concentrated ownership
•
No consistently significant links between ownership concentration and profitability,
growth, dividend policy or likelihood of bankruptcy
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The future of concentrated ownership?
• Ownership is ‘sticky’
• Blockholders have very little incentives to reduce their
stakes
• Minority shareholders get what they pay for
• Regulatory intervention is not straightforward and can have
adverse effects: e.g. the Takeover Directive increased the
average blockholder percentage in several EU member
states
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References
•
Bennedsen, M. & K.M. Nielsen (2010), Incentive and Entrenchment Effects in
European Ownership, Journal of Banking and Finance, Vol. 34, No. 9, pp. 2212-2229.
•
European Commission - Corporate Governance initiatives:
http://ec.europa.eu/internal_market/company/modern/index_en.htm
•
Franks, J. C. Mayer, P. Volpin & H.F. Wagner (2012), The Life Cycle of Familiy
Ownership: International Evidence, Review of Financial Studies, Vol. 25, No. 6, pp.
1675-1712.
•
Holderness, C.G. (2009), The Myth of Diffuse Ownership in the United States, Review
of Financial Studies, Vol. 22, No. 4, pp. 1377-1408.
• La Porta, R., F. Lopez-De-Silanes & A. Shleifer (1999), Corporate Ownership around
the World, Journal of Finance, Vol. 54, No. 2, pp. 471-517.
• OECD Corporate Governance Principles:
http://www.oecd.org/corporate/oecdprinciplesofcorporategovernance.htm
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