Corporate governance and the role of the state

Government policies definitely affect corporate governance, for policies and their enforcement shape the environment for corporations. What are the benefits and shortcomings of policy frameworks? And what role can the state play?

Contributors: Prof. Rodrigo Bandeira de Mello, FGV/EAESP, Prof. Sridar Arcot, ESSEC Business School, Mr. Mats Isaksson, Head of Corporate Affairs Department, OECD.

Collated and edited by Prof. Patricia Charléty, ESSEC Business School

How do governments create conditions for companies to grow?

CSR Council on Business & SocietyFor Matts Isaksson, there is no doubt that the government plays a role in governance and the OECD has developed a set of corporate governance guidelines whose purpose focuses on economic efficiency which in turn drives economic growth. This is achieved when companies can access capital and sell equity which they then use for growth. For investors to invest amid uncertainty requires laws on corporate governance and the stock market that include rules relating to transparency and disclosure. “Company law and the stock market provide ability for companies to access risk capital for growth,” states Mats Isaksson. “However, the rules that exist in many countries may be based on an antiquated financial view of the world.” These rules assume that shareholders have a direct view and interest in a company, which today is often not the case due to the rise of institutional investors and middlemen. Other notable changes in the market include market fragmentation and use of trading techniques such as indexing and ETFs and it is due to these new realities that the OECD will be reassessing its guidelines for corporate governance at a future date.

What impact does allowing voluntary disclosure have on companies?

iStock_000034772982_XXXLarge©franckreporterIn the UK in the early 1990s, the Cadbury Committee developed a code of corporate governance best practices. Compliance with this code was voluntary, but if companies did not comply they were expected to explain the reason for not doing so. Within the UK and around the world, this approach gradually took off. Among the code’s best practices are separating the chairman and CEO roles; appointing a senior, nonexecutive director; having one third of directors as non-executives; having a CEO service contract of not more than one year; and creating committees in areas such as audit, remuneration and nomination. Prof. Arcot’s research shows voluntary compliance in the UK has risen steadily and now exceeds 60%, though among firms that haven’t complied, many offer no explanation for their non-compliance. When explanations are provided, they tend to be general and are rarely specific, which may be acceptable for family firms where the family can be expected to closely monitor its investment, but problematic for widely held companies where investors want to monitor the firm but lack the information to do so. In Professor Arcot’s view, corporate governance is complex and there is not a one-size-fits-all solution, believing it good practice to provide companies flexibility in deciding which practices to adopt based on their situation, but seeing drawbacks in a purely volunteer compliance system where there is weak legal protection for investors in widely held companies. In this light, governments need to attribute further thought to those circumstances requiring more compliance or explanation.

Brazil’s experience shows that the government is more than just a regulator

Business people shakeing hands, copy space

Prof. Bandeira de Mello explains that in developing markets such as Brazil, the government often plays a greater role than simply establishing rules. In Brazil, the government has always had a close link with the private sector, both embracing the market and enacting policies to help the country develop. Furthermore, the government has acted as a legislator, a lender and an owner of companies and controls or influences many of the resources that firms need, affects issues such as licensing and often has influence regarding the naming of CEOs and directors. The idea of government playing a “blurred role” is not limited to Brazil however. In many countries, the government plays a key role in supporting industries or companies, providing access to capital, deciding on executives and directors and deciding upon regulations, thereby actively contributing to the impact on corporate governance.

Finally, the Council on Business & Society surveyed its student population by asking them if they agreed or disagreed with the following statement: Government legislation is essential to ensure a balance between business interests and society. For students, the answer was an overwhelming 67% in agreement against 17% in disagreement with the statement. The future generation of business leaders seem to wish to work hand-in-hand with governments.

Food for thought:

  • To what extent does your organisation work within a voluntary environment for governance? Does regulation help or hinder?
  • To what extent is transparency also a leadership quality?
  • For the Regulator: Given the diversity of companies, what are the respective benefits of mandatory compliance or flexibility?

Watch the Mats Isaksson video:


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