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Corporate Governance from a Global Perspective

Article  in  SSRN Electronic Journal · April 2011

DOI: 10.2139/ssrn.1817082

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 CORPORATE GOVERNANCE FROM A GLOBAL PERSPECTIVE

Shamsher Mohamad and Zulkarnain Muhamad Sori

Department of Accounting and Finance, Faculty of Economics and Management,
University Putra Malaysia, 43400 UPM Serdang, Selangor Darul Ehsan, Malaysia

Abstract
This paper discusses on the development of corporate governance in selected countries,
systems of corporate governance adopted, convergence of corporate governance practices
towards internationally accepted practices and initiatives undertaken to ensure effective
corporate governance practices. The efforts to instill good governance in developed
countries have been undertaken much earlier compared to developing countries. In
Malaysia, for example, the government has taken serious initiatives to put in place the
required infrastructure for effective corporate governance practices. Finally, effective
corporate governance agenda necessitate serious attention on enforcement, surveillance
and advocacy. The globalization of financial markets over the past decade has created the
need to harmonize corporate governance practices internationally.

INTRODUCTION
This paper deliberates on the international initiatives aimed at reforming and harmonizing
corporate governance at a global level, highlighting the difficulties of categorizing such a
diversity of systems such that of the United Kingdom (UK), the United States (US),
Germany and Japan. The polarization of corporate governance may have arisen from
differences that exist between cultures and legal systems. The extent of global
convergence in corporate governance is possible and the type of system to which countries
will aspire is discussed.
With almost the same objective, every country exhibits a unique system of
corporate governance. The system of corporate governance presiding in any country is
determined by a wide array of internal factors, including corporate ownership structure, the
state of the economy, the legal system, government policies, culture and history; and also
external factors such as the extent of capital inflows from aboard, the global economic
climate and cross-border institutional investment. Indeed, the main determinants of a
company‟s corporate governance system are ownership structure and legal framework
(Solomon and Solomon, 2004).
This paper is divided into six sections. Section two provides a review on corporate
governance in selected countries. Section three discusses on system of corporate
governance, while section four illustrates issues on moving toward convergence of
corporate governance. Section five outlines efforts towards effective corporate governance.
Finally, section six concludes the paper.

Electronic copy available at: http://ssrn.com/abstract=1817082

CORPORATE GOVERNANCE IN SELECTED COUNTRIES
Corporate Governance in the United Kingdom
In the United Kingdom (UK) a series of public reports on corporate governance over the
last decade, commencing with the Cadbury report in 1992 followed by Greenbury (1995),
Hampel (1998), Turnbull (1999), Higgs (2003) and Smith (2003) has given rise to a
comprehensive code on corporate governance, a key part of which relates to directors‟
remuneration.
The Cadbury Committee was set up in 1992 in the UK following several high
profile corporate failures. The Cadbury report was compiled on the basic assumption that
the existing, implicit system of corporate governance in the UK was sound and that many
of the recommendations were merely making explicit a good implicit system (Cadbury
Report, 1992). The committee suggested several guidelines which together constituted the
Cadbury Code of Best Practice for the governance of listed companies. The London Stock
Exchange subsequently introduced a listing rule which required all companies, as a
condition of continued listing, to disclose in their annual reports the extent of their
compliance with the Code and their reasons for non-compliance. Three general areas were
covered by the Cadbury Report and its accompanying Code, namely: the board of
directors; auditing; and the shareholders. The Cadbury Report focused attention on the
board of directors as being the most important corporate governance mechanism, requiring
constant monitoring and assessment. The accounting and auditing function play an
essential role in good corporate governance, emphasizing the important of corporate
transparency and communication with shareholders and other stakeholders. Cadbury‟s also
focus on the importance of institutional investors as the largest and most influential group
of shareholders has had a lasting impact.
The Greenbury Report in 1995 was a second corporate governance committee
created in response to public and shareholder concerns about directors‟ remuneration. The
objective of the report was to provide a means of establishing a balance between directors‟
salaries and their performance. The report recognized the importance for companies to
offer high salaries to attract directors of adequate caliber, capable of running large,
multinational organizations. The report also highlighted deep concerns with directors‟ pay
packages, especially in relation to share options and other additional sources of
remuneration.
The Hampel Report was published in 1998 and the Combined Code (1998) arose
from it. This code brought together all the issues covered in Cadbury and Greenbury
reports. The Combined Code is the currently applicable code of best corporate governance
practice for UK listed companies. An important contribution by Hampel Report was the
emphasis attributed to avoid a prescriptive approach to corporate governance
improvements and recommendations. It emphasized the need to maintain a principles-
based, voluntary approach to corporate governance, and the need to redress the balance
between shareholders and stakeholders. The Combined Code readdressed all the issues
raised in previous reports, bringing the major points together and concluding with basic
principles and provisions. The first draft of the Combined Code contained a series of
Principles of Good Corporate Governance. It then detailed a series of provisions that
represented ways in which the general principles may be achieved. The impact of the
Combined Code on UK Company directors and institutional investors has been far-

Electronic copy available at: http://ssrn.com/abstract=1817082

reaching, especially in the area of investor relations and shareholder activism (Solomon
and Solomon, 2004).
The Turnbull Committee was established in 1999 specifically to address the issues
of internal control and to respond to these provisions in the Combined Code. The report
provided an overview of the systems of internal control in existence in the UK companies
and made clear recommendations for improvements. The Turnbull Report 1999 sought to
provide an explicit framework for reference, on which companies and boards could model
their individual systems of internal control. The aim was to provide companies with
general guidance on how to develop and maintain their internal control systems and not to
specify the details of such a system.
The Higgs Report 2003 dealt specifically with the role and effectiveness of non-
executive directors, making recommendations for changes to the Combined Code. The
general recommendations included a greater proportion of non-executive directors on
boards and more apt remuneration for non-executive directors. The report also concluded
that stronger links needed to be established between non-executive directors and
companies‟ principle shareholders. An important practical recommendation of the Higgs
Report was that one non-executive director should assume chief responsibility on behalf of
shareholder interests.
The Smith Report was published in January 2003 with the aim of examining the
role of the audit committee in UK corporate governance. The main issues dealt with in the
report concerned the relationship between the external auditor and the companies they
audit, as well as the role and responsibilities of companies‟ audit committees.
Improvements in this area will result in more reliable and valid financial information
reported from the firms.
In July 2003, the Financial Reporting Council approved a new draft of the
Combined Code. The revised Code retained almost all of the 50 recommendations
contained in Higgs‟ original report. The redrafted Code address issues of executive
remuneration, specifically avoiding excessive remuneration that had little relation to
corporate performance. The revised Code placed an emphasis on shareholder activism as a
means of furthering corporate accountability and transparency.
The full picture now comprises (i) statutory requirements, more particularly the
Directors‟ Remuneration Report Regulations 2002 which requires all quoted companies
each year to publish a directors‟ remuneration report with their annual accounts; this must
contain a statement of the company‟s policy on directors‟ remuneration as well as
individual disclosure of salaries, bonuses, pension benefits, share plans and other long-
term incentives etc; (ii) stock exchange regulations, specifically the Combined Code on
Corporate Governance which is annexed to the UK Listing Rules and applies to all
companies quoted on the London Stock Exchange on a „comply or explain‟ basis; among
other things the code requires listed companies to establish remuneration committees
composed of independent directors, as well as the roles of chairman and CEO to be
separated; and (iii) institutional investor guidelines, issued by the Association of British
Insurers and National Association of Pension Funds, whose members hold some 30 percent
of equity shares quoted on the London Stock Exchange, which deal in particular with
bonuses, share incentives, performance conditions, remuneration policy, benchmarking,
service contracts and terminations.
Within the UK model, three general corporate governance themes applicable to
other jurisdictions are (i) full disclosure - an obligation on companies to provide very

3
detailed information about directors‟ pay, information being a key ingredient in the
economists‟ cookbook for the efficient operation of markets; (ii) separation of
responsibilities, between the chairman (who runs the board) and CEO (who runs the
business of the company) as well as between independent directors (who represent the
interest of shareholders) and executive directors (the company‟s management); and (iii)
due process, particularly in the setting of remuneration policy and individual executive
director‟s compensation packages by an independent remuneration committee (Pepper,
2004).

Corporate Governance in United States

In the United States, institutional investors played a significant role in encouraging good
corporate governance. One in particular, the California Public Employee Retirement
System (CalPERS), has been noticeably successful in encouraging good corporate
governance. Beginning in year 1993, CalPERS turned its focus toward companies
considered, by virtually every measure, to be „poor‟ financial performers. By centering its
attention and resources in this way, CalPERS could demonstrate to those who questioned
the value of corporate governance very specific and tangible economic results. Now, with
the benefit of its experience, CalPERS embarked on its next evolutionary step.
With the Corporate Governance Core Principles and Guidelines (2005), CalPERS
believe that the criteria contained in the Principles and the Guidelines are important and
represent the foundation for accountability between a corporation‟s management and its
owners. The Guidelines represent, in CalPERS‟ view, additional features that may further
advance this relationship of accountability.
The US approach to corporate governance is to minimize conflicts of interest
between owner and managers. This is attempted by giving managers profit-related
incentives such as shares and stock options. Consistent with its preference for market
based solutions to corporate governance, including hostile takeovers, the US has welcomed
the innovative method of investment bankers to bring even the giant companies under the
ambit of the market for corporate control. However, relating managers‟ performance to the
stock market has raised concern that it is a short-term corporate behavior. Another long-
standing concern in the US has to do with the asymmetry of information and knowledge
between owner and managers. US also concern about whether directors are indulging in
unreasonable increase in pay and perquisites for themselves even as corporate restructuring
and downsizing take their toll on employees and local communities. The growing
disparities in income have encouraged some economists to look for reforms within the
system of corporate governance.
Corporate governance in the US has relied more on disclosure than processes and
structures. The required level of disclosure of the pay, benefits and incentives of the top
five named executives is very extensive. Compensation committees composed entirely of
independent directors have only become the norm in the last few years, and while recent
New York Stock Exchange and NASDAQ rulings are increasing the independence of
boards, it is still standard practice in the US for the role of chairman and CEO to be
combined. This concentration of power in one place, in contrast with the European model
where the CEO runs the company and oversees operational management and the chairman
runs the board and overseas the CEO, is regarded by some commentators as a critical
deficiency in the American corporate governance model (Pepper, 2004).

4
Corporate Governance in Germany
Germany has built a statutory role for its employees in its corporate governance system,
even though the shareholding in Germany is far more concentrated than in the US.
Ownership of property in Germany is seen as imposing concomitant duties for its use for
the public wealth. There is an instance when the board of a company in Germany did not
permit the management to use the insurance money from a plant which caught fire, for
improving production in another place. The involvement of German industry in creating
educational infrastructure through technical apprenticeships is another instance of
government-industry cooperation in practice.
German banks not only provide long-term finance but also hold stocks of
companies. Although their shareholding in company is small, banks have significant voting
right on the bearer-form shares deposited with them by shareholders. German banks are
required to consult the shareholders, give them advice, and take their instructions on
voting. Banks also have positions on top tier of the two-tiered board system of governance.
The two tiers, the supervisory board and the management board are both decision making
bodies. The supervisory board is responsible for the company‟s accounts, major capital
expenditures, strategic acquisitions and closures, dividends, and for appointments to the
management board. The management board is responsible for running the company.
German accounting and auditing practices allow companies to make provisions for
various short-term and long-term risks. The system of corporate governance in Germany is
much less driven by stock market, it runs by consensus in the supervisory and management
boards than by an all-important chief executive officer. The two-tier board structure
institutionalizes some checks and balances. Although US and Germany are market-based
systems and compete aggressively across the globe, their systems of corporate governance
differ markedly. Each system is based on the assumptions and beliefs of its people.
One initiative aimed to improving German corporate governance through better
corporate transparency was the publication of a report by the Deutsche Bundestag (1998).
Further, Germany produced a corporate governance code of best practice in January 2000,
followed by an updated version in September 2001 (Government Commission, 2001).
The code‟s stated aims were to present essential statutory regulations for the
management and governance of German listed companies, as well as to contain
internationally and nationally recognized standards for good and responsible governance.
Clearly, achieving harmonization with internationally acceptance standards was a main
driver of reform in Germany. The German system of corporate governance is significantly
difference from the Anglo-American model in a number of respects. German companies
are characterized by a two-tier board and significant employee ownership. The supervisory
board is intended to provide a monitoring role. However, the appointment of supervisory
board members has not been a transparent process and has therefore led to inefficient
monitoring and governance in many cases (Monks and Minow, 2001). Further, German
corporate governance has been characterized traditionally by pyramidal ownership
structures, with companies owing each other through a series of cross-shareholdings. There
has also been a strong tendency toward employee representation, as a result of the Co-
Determination Act of 1976, which stipulated that employees should be involved in the
corporate governance mechanisms by being represented on supervisory boards.
Schilling (2001) discussed the recent changes in corporate governance in Germany,
concluding that there are strong market forces pressuring for change in Germany.
International institutional investment and increasingly open economies are forcing

5
countries such as Germany to become more market-oriented. Bhasa (2004) argues that the
German system of corporate governance is largely an insider system based model. Though
ownership is shared by different groups of investors – banks, investment institutions,
companies, government, etc., yet banks control more of the corporate activities compared
to the control exercised by the direct equity holders. German stock markets are relatively
small and illiquid. Bank dominance coupled with weak capital markets further compels the
German companies to resort to borrowings from banks giving much leeway for bank
control.
German corporate governance structures are in some ways among the most robust.
In particular, it is a legal requirement that a separate supervisory board comprising both
shareholder and employee representatives oversees the activities of a company‟s
management board. On the question of disclosure, in 2003, the Cromme Commission
(which gave rise to the German Corporate Governance Code) recommended that
companies publish details of the remuneration of individual board members (Pepper,
2004).
The Government Commission on the German Corporate Governance Code made a
number of changes to the Code in June 2005, aimed in particular at further enhancing
supervisory board work. The amendments were based firstly on an analysis of recent
international developments in corporate governance, especially at European level.
Secondly, the changes reflect the extensive legislation on corporate governance recently
introduced in Germany in the form of Balance Sheet Monitoring Act, the Accounting Law
Reform Act and the Investor Protection Improvement Act (International Corporate
Governance, 2005).

Corporate Governance in Japan

The Japanese concerns with corporate governance have to do with the appreciation in the
value of the yen and the reduction of the risks borne by the banking system. The Ministry
of Finance plays a much more integrated role in Japan's financial markets rather than a
strict regulatory role. The recent Asian financial crisis has placed this Japanese system of
highly coordinated corporate governance under scrutiny. Japan's banking system has been
accused of many problems, including habitually bailing out companies in trouble as well as
knowingly issuing loans which would soon be deemed non-performing. Even in firms
independent of keiretsu influence in Japan, high levels financial institutional investment is
common. Before World War II Japan‟s corporate system was dominated by huge family-
owned business (the zaibatsu). After the war and until the 1970s Japan‟s system of
corporate governance still fitted well into the insider-dominated mould.
Companies in Japan were mainly financed by bank loans; the banks that owned
companies also sat on company boards and played an important role in monitoring
company management. Companies were strongly influenced by their bank managers.
There was little separation of ownership and control, and companies were disciplined by
their banks. The system of corporate governance traditionally dominated by banks and
bureaucrats in Japan is being replaced gradually by market-oriented system, outsider-
dominated system of ownership and control. Japan has issued guidelines on exercising
voting rights (Pension Fund Corporate Governance Research Committee, 1998) and a
series of corporate governance principles (Corporate Governance Committee, 1998).
Corporate governance changes have become visible in Japan from year 1999. In
July 1999, 37 companies joined with Sumitomo Bank and Nissan when they sought

6
shareholder approval to reduce the size of their boards from 20 to 40 directors to about 10.
In January 2000, Japan saw its first home-grown hostile takeover bid for a public
company. In April 2000, the Japanese government began a two-year program to revamp
and modernize corporate governance statutes. The main targets of reform are laws
affecting disclosure, the structure and duties of boards, and shareholder rights. In June
2000, at their Annual General Meeting (AGM), Sumitomo Bank revealed the
compensation packages of their executives. This candor came in response to a dissident
resolution filed by a group of individual investors, and marks the first time that a financial
institution in Japan has revealed information of this nature (Gregory, 2000).
The Japanese system is the most remote, exotic and yet the most successful one in
the developed world. Their corporate governance system relies heavily on trust and
relationship-based approach (Bhasa, 2004). Japan fell traditionally into the insider-
dominated group (Hoshi et al., 1991) and had a credit-based financial system (Zysman,
1983), as the economy was characterized by inter-company shareholdings, inter-company
directorships and frequently substantial bank involvement. Ownership is based on the
keiretsu system, where the dominant shareholder is the main bank. Banks hold a
considerable chunk of ownership shares and fund the promoters whenever needed.
Funding is not based on the notion of making short-term gains. Instead banks fund firms to
build strong long-term relationships and play a very active role as big partners in the
functioning of the firms. Unlike in other countries where banks recall the loan amount as
soon as they sense that the firm is going out of business or becoming bankrupt, Japanese
banks support their client firms by pumping in more capital at critical times.

Corporate Governance in an Emerging market – the case of Malaysia

Corporate governance issues received a powerful impetus in Malaysia when the Asian
financial and economic crisis hit Malaysia with severity in 1997. The issue of corporate
governance in most emerging East Asian markets has in recent years received more
attention than it would ordinarily have in the light of a series of corporate failures. For
many East Asian countries, excessive ownership concentration structures and related
corporate governance weaknesses have been blamed for the severity of the Asian crisis in
1997. Corporate governance systems in East Asian Countries fall more comfortably into
the insider mould than the outsider model. Indeed, Johnson et al. (2000) emphasized the
significance of the East Asian legal system in the crisis by showing that the weakness of
the legal institutions for corporate governance has an important effect on the extent of
depreciations and stock market declines in the Asian crisis. Weaker legal protection of
minority shareholders in many East Asian countries allowed majority shareholders to
increase their expropriation of minority shareholder wealth, in the event of a shock to
investor confidence (Solomon and Solomon, 2004).
This gave rise to implications that affect not only those directly connected with the
corporations concerned such as the directors, shareholders and auditors of the corporations,
but also those affected by its existence such as employees, customers, suppliers and the
environment. Example of corporate failures such as the Steel manufacturing firm,
Perwaja, in Malaysia has pointed to the lack of a proper corporate governance system as a
major cause. It is generally perceived that a lack of good corporate governance contributes
to the loss of investor confidence. Good corporate governance is a basic requirement to
instill investor confidence and to encourage more stable and long term international
investment flow. A lack of corporate governance makes it extremely difficult for investors

7
to hold management accountable for their actions that adversely influence the company‟s
performance and shareholder value.
Reform measures have included improving specific governance mechanisms both
within corporations and in external markets; strengthening the rights of small shareholders
by making it easier for them to exercise such rights, for example, initiating litigation
against board members and requesting inspections of account books; mandating that
boards of companies listed on stock exchanges have a minimum number of outside or
independent directors; and simplifying procedures for mergers and acquisitions to foster a
market for corporate control.
To date, the various efforts undertaken by Malaysian regulators and market
participants to strengthen Malaysia‟s corporate governance framework are perceived to
have raised Malaysia‟s corporate governance standing within the region. Institutional
Groups rate Malaysia‟s corporate governance practices to be relatively on par with Asian
countries like South Korea and Japan; and close to Hong Kong. In Malaysia, work to
strengthen corporate governance standards began way before the two classic cases of
corporate governance fiasco, Enron and WorldCom. In fact, in 1995, the Securities
Commission began work on a phased programmed to move to a disclosure-based system
for regulating the primary markets and corporate governance was part of the Registrar of
Companies' Code of Ethics for Directors, which was developed in 1996. These moves were
initiated due to the changes in the Malaysian corporate scene. Prior to the 1980's, the
Malaysian corporate scene was largely dominated by subsidiaries of foreign multinationals
and family owned domestic companies. Neither of these types of companies regarded the
securities market as an important source of funds, the main reason being that there was a
fear of losing control over these companies. The 1980's saw a change in financial markets
of focus on governance practices to match these changes. Through the introduction of the
Second Board, the Exchange allowed and encouraged the smaller owner dominated
companies with good growth prospects to gain access to the capital markets. The 1980's
also saw the reduction of public sector spending, placing greater responsibilities on the
private sector to take economic initiatives.
The principal rationale for promoting good corporate governance is to sustain the
long term viability of Malaysia Incorporated to the investors, numerous controversial
management decisions and the detrimental effects of mismanagement and unethical
company practices with cases like the Daiwa Bank debacle and the near bankruptcy of
Perwaja Steel have all signaled an urgent need for greater corporate governance.
In March 1998, the Malaysian Government, in recognition of the importance of
enhancing standards of corporate governance, announced the formation of a High Level
Finance Committee on Corporate Governance to establish a framework for corporate
governance and set best practices for businesses. At the same time the Malaysian Institute
of Corporate Governance (MICG) was formed in 1998 to draw up guidelines and a code of
ethics for the business community. MICG members comprise of five professional bodies,
among those the Federation of Public Listed Companies, the Malaysian Institute of
Accountants and the Malaysian Institute of Directors. The objectives of setting up this
body were to represent, express and give effect to opinions of members of MICG on issues
relating to corporate governance in Malaysia, and to promote awareness of corporate
governance principles among corporate participants, the investing public and corporations
on the importance of good governance. This is to enhance shareholders' value and bring
about corporate prosperity.

8
 Corporate governance principles and practices implemented by the High Level
Finance Committee on Corporate Governance were established jointly by the Ministry of
Finance, regulators, industry players and professional bodies who deliberated on issues for
over a year before coming up with a Proposed Code on Corporate Governance issued in
February 1999 (the Green Book), leading to the introduction of the Malaysian Code on
Corporate Governance in March 2000. The Malaysian Code is modeled on the
recommendations of the UK Hampel Committee and is based on a hybrid approach means
that the Code is voluntary but disclosure of compliance is mandatory under KLSE (now
renamed as Bursa Malaysia) listing requirements.
The Code sets out a myriad of recommendations, directed mainly to the boards of
all the listed companies on the KLSE. The Code is divided into four parts as follow: First
Part encapsulates the broad principles of good corporate governance in Malaysia; Second
Part sets out best practices for companies; identifying guidelines and practices in assisting
companies to design and incorporate better corporate governance in their structure and
processes; Third part consists of exhortations to other participants in the market, namely,
investors and auditors. It briefly discusses their voluntary role and participation in
enhancing overall governance. The final part of the Code provides explanatory notes and
„best practices‟, further clarifying the extent and „preferred‟ modes of action which are
recommended by the Ministry.
The Code was revised in the year 2007 as evidence that the Malaysian government
is serious to improve corporate governance practice in Malaysia. The then Prime Minister,
Dato‟ Seri Abdullah Ahmad Badawi had announced in the Budget 2008 speech that “the
Code is being reviewed to improve the quality of the board of public listed companies
(PLCs) by putting in place the criteria for qualification of directors and strengthening the
audit committee, as well as the internal audit function of the PLCs…. To ensure the
effectiveness of the audit committee of PLCs, executive directors will no longer be allowed
to become members of the audit committee. In addition, the internal audit function will be
mandated for all PLCs, and the board of directors will be responsible for ensuring the
adherence to the scope of internal audit functions….”
Bursa Malaysia has adopted most of the recommendations of the Code that listed
corporations are required to put into practice. All listed corporations' annual reports must
include the statement of corporate governance and a statement of the state of internal
control, plus disclosures of remuneration to the executive directors and details of directors
seeking re-election at annual general meetings. The numerous recommendations of the
Code were implemented to enhance transparency and disclosure of relevant information
among listed issuers.

9
SYSTEM OF CORPORATE GOVERNANCE
Insider-Dominated Systems
An insider-dominated system of corporate governance is one in which a country‟s publicly
listed companies are owned and controlled by a small number of major shareholders.
Insider systems also referred to commonly as relationship-based systems in the literature,
because of the close relationships prevalent between companies and their dominant
shareholders. The insider system of corporate governance is characterized by highly
concentrated holdings, concentrated voting powers and a multiplicity of intertwined inter-
firm relationships and cross-corporate holdings. Bank-dominated relationships, pyramidal
ownership structures, familial control, illiquid capital markets and a high degree of cross
holdings are the most dominant features of the insider system. Example of prominent
insider corporate governance systems are Germany and Japan.

Outsider-Dominated Systems
Outsider-dominated systems refers to systems of finance and corporate governance where
most large firms are controlled by their managers but owned by outside shareholders, such
as financial institutions or individual shareholders. The outsider system of corporate
governance is marked by the existence of a widely diffused ownership structure, liquid
stock markets and a low level of inter-corporate cross holdings. The outsider system is
characterized by the existence of a ready market for corporate control and an instant supply
of managerial labor. This situation results in the notorious separation of ownership and
control, outlined by Berle and Means (1932); another term used to refer to this type of
system is market-based (Zysman, 1983). They are also referred to frequently as Anglo-
Saxon or Anglo-American systems, due to the influence of the UK and US stock markets
on the others around the world. Although companies are, in the outsider system, controlled
directly by their managers, they are also controlled indirectly by the outsiders.
Shareholders have voting rights that provide them with some level of control. These
outsiders tend to be predominantly financial institutions, but also smaller individual
shareholders. Dominant characteristics associated with the traditional insider and outsider
systems of corporate governance are summarized in Table 1 below:

Table 1: Characteristics of Insider and Outsider Corporate Governance Systems

Insider
Firms owned predominantly by insider
shareholders who also wield control
over management
System characterized by little
separation of ownership and control
such that agency problems are rare
Hostile takeover activity is rare
Concentration of ownership in a small
group of shareholders (founding
family members, other companies
Outsider
Large firms controlled by managers but
owned predominantly by outside
shareholders
System characterized by separation of
ownership and control. Which
engenders significant agency problems
Frequent hostile takeovers acting as a
disciplining mechanism on company
management
Dispersed ownership

10
 through pyramidal structures, state
ownership)
Excessive control by a small group of
‟insider‟ shareholders
Wealth transfer from minority
shareholders to majority shareholders
Weak investor protection in company
law
Potential for abuse of power by
majority shareholders
Majority shareholders tend to have
more „voice‟ in their investee
companies
Moderate control by a large range of
shareholders
No transfer of wealth from minority
shareholders to majority shareholders
Strong investor protection in company
law
Potential for shareholder democracy
Shareholding characterized more by
„exit than by „voice‟

Source: Solomon and Solomon 2004 (p. 151)

MOVING TOWARD CONVERGENCE

The need for a global convergence on corporate governance is derived from the forces
leading to international harmonization in financial markets, increasing globalization,
international investment, foreign subsidiaries and integration of the international capital
markets. Companies are no longer relying on domestic sources of finance but are
attempting to persuade foreign investors to lead capital. Corporate governance
standardization is one way of building trust and confidence in a country‟s financial markets
and of enticing investors to risk funds. Initiatives to standardize corporate governance at a
global level are discussed in the following sections.

Organizational for Economic Cooperation and Development (OECD)

The first set of internationally acceptable standards of corporate governance was produced
by the Organization for Economic Cooperation and Development (OECD, 1999). The
OECD is an international organization based in Paris, comprises 29 countries from all
around the world. Many of the principle displayed similarities to the Cadbury Code (1992)
and covered such issues as equitable treatment of shareholders, shareholder
responsibilities, transparency and disclosure in terms of corporate reporting and audit, the
role and responsibilities of company boards of directors, and the importance of non-
executive directors. For the purposes of the OECD Principles, corporate governance was
defined as , „that structure of relationships and corresponding responsibility among a core
group consisting of shareholders, board members and managers designed to best foster the
competitive performance required to achieve the corporation‟s primary objective‟ (IMF,
2001). The problem with the OECD Principles and code of practice was their impotence,
as they have no legislative power. Countries have used them as a reference point for self
assessment and for developing their own codes of best practices in corporate governance.
Moreover, they have been adopted as one of the 12 key standards for sound financial
systems by the Financial Stability Forum. Accordingly, they form the basis of the
corporate governance component of the World Bank/International Monetary Fund (IMF)
Reports on the Observance of Standards and Codes.

11
International Corporate Governance Network (ICGN)
The International Corporate Governance Network (ICGN) is an international organization
comprising many groups interested in corporate governance reform. The organization
represents the interests of investors, financial intermediaries and companies, inter alia.
The ICGN Global Corporate Governance Principles were originally adopted in 1999. They
provide guidance for companies on how to put the Principles into practice, by presenting
the essence of the Principles in a „working kit‟ statement of corporate governance criteria.
The ICGN approach to the OECD Principles was reproduced in Monks and Minow (2001).
Every year since 1996, there has been an annual conference where members meet and
exchange information.

The CalPERS Principles

The California Public Employees‟ Retirement System (CalPERS) in the US established a
set of principles that they considered were a minimum standards with which all markets
throughout the world should strive to comply (CalPERS, 1999). The aim of these standards
was to allow markets across the world to function freely and equitably for all investors. A
global compromise in corporate governance was clearly a remit of these principles with the
aim of creating a free, efficient and globally competitive market in all countries. The main
characteristic of the principles was to attain increased and comparable levels of
accountability between countries.

The European Union

The European Commission of the European Union (EU) has spent a number of years
deliberating about the ways in which it could provide guidance on corporate governance to
its members. The report from the Centre for European Policy Studies (CEPS, 1995)
documented the substantial reforms that have been taken place in recent years in Western
European countries‟ corporate governance systems. There are at present 42 corporate
governance codes of practice existing in EU member countries. In June 2003, Frits
Bolkestein, EU Commissioner for the Internal Market and Taxation, outlined the top
regulatory priorities for the Financial Services Action Plan and corporate governance. The
commission is focusing on increasing transparency and disclosure, as well as improving
the effective exercise of shareholder rights. The Commission required listed companies in
all EU member states to publish an annual statement of their structures and practices for
corporate governance and also requires institutional investors to disclose their policies for
investment and the exercise of voting rights.

Commonwealth Association for Corporate Governance

The Commonwealth Association for Corporate Governance (CACG) was established after
the Edinburgh Heads of Commonwealth Meeting and its brief is to promote excellence in
Corporate Governance in Commonwealth countries. To date it has conducted workshops in
some 25 countries and facilitated the establishment of institutions in all of these countries,
which promote Corporate Governance by education and information. The corporate
governance guidelines produced by the Commonwealth have focused attention in the last
couple of years on the evolution of corporate governance systems in a number of
developing African economies. Full details of the Commonwealth initiatives in promoting

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corporate governance harmonization are available on the Commonwealth website
(http://www.thecommonwealth.org).

The Constrains on Convergence

The evolution and practice of good corporate governance is an essential in creating and
improving the investment climate. Corporate governance cannot progress without parallel
improvements in public policy and governance for it is a multi-targeted and highly
effective policy instrument. It is not a luxury for a few countries with highly sophisticated
stock exchanges or for emerging markets anxious to attract international investment. Good
corporate governance has proven to be an effective policy instrument which contributes to
the increased conformance of companies and the maintenance of high standards of
accountability and transparency.
The ability of any international code of best practice to be applied successfully
depends on the extent to which such varied systems of corporate governance can comply in
practice with the recommendations. Each country has a system of corporate governance
characterized by extremely different legal structures, financial systems and structures of
corporate ownership, culture and economic factors. Therefore, corporate governance
reform at the global level needs to be effected with sensitivity for such international
differences. It is important that countries can retain their individuality, while trying to
harmonize their corporate governance standards to reflect good practice.
Many countries in East Asia have focused on improving the legal protection of
minority shareholders. They have concentrated on improving corporate accountability by
forcing companies to produce consolidated accounts. Solomon et al. (1999) considered a
global convergence in corporate governance would be likely to take the most effective and
successful characteristics from the existing systems around the world. Countries would
eventually adopt those characteristics that would lead to the optimum balance between
efficient business operations and an ethical, stakeholder-oriented society. They suggested
that in the current trends and focuses in international investment and current reforms in
systems of corporate governance, an eventual global compromise would involve
economies being mainly outsider-dominated but displaying characteristics of long-term
rather short-term. This would be an attempt to merge the competitive market forces of the
traditional Anglo-American system of finance and control with the more long-term styles
of management and investment prevalent in the traditional insider systems of corporate
governance.

EFFORTS TOWARDS EFFECTIVE CORPORATE GOVERNANCE

Effective corporate governance programs require some combination of (i) enforcement; (ii)
surveillance and (iii) advocacy although the precise balance and operation of these
mechanisms may vary from company to company. These factors will be discussed in the
following sections.

Enforcement
Having a standard set of requirements does not guarantee effective implementation unless
the regulatory authorities concerned take necessary steps to enforce them effectively.
Proper enforcement mechanism must be in place so that the law must be adequate to
protect the interest of the investing public and at the same time must not cause undue

13
hardship or inconvenience to the company. Regulatory authorities must also be
professional, competent and fast in dealing with the corporate sector. Some corporate
dealings and restructuring need prior approval of the relevant regulatory authorities.
Wrong decision or delayed action (i.e. lengthy period for approval when listing) by those
authorities will obviously cause serious damages to the companies concerned and may lead
to poor corporate governance. Companies need effective and friendly guidance from the
relevant regulatory authorities for their growth and good corporate governance. All
relevant regulatory authorities must co-operate and give their fullest and sincere assistance
and full support to the corporate sector for good corporate governance.
Enforcement involves the application of stringent and enforceable controls,
enabling the organization to ensure that employees‟ behavior remains within chosen
governance parameters. The controls work by stopping people from breaking the codes,
such as blocking access to web-mail services or premium phone lines, or implementing
passwords so only certain employees can carry out particular activities. Enforcement is the
„big stick‟ of governance. It is often backed up by a culture of zero tolerance with heavy
penalties for non-compliance. Enforcement is also has a big downside. When taken to
extremes it can impose such a high degree of risk aversion of curtailing creativity and
entrepreneurialism. Therefore a balance is required between enforcing controls and
preserving creativity. When businesses get that balance of enforcement wrong, the
businesses suffers.

Surveillance
Surveillance is closely related to enforcement as effective surveillance requires effective
enforcement; without effective surveillance, such as checking the veracity of financial data
and monitoring staff telephone calls, emails and Internet usage it is difficult to ascertain
whether the right behaviors are being enforced. Internal audit is part of surveillance,
checking that targets are really being met and that internal codes are being observed. In
each case, the level of surveillance exercised will depend on the type of organization, and
the sensitivity or value of the data and transactions being transacted. If people know they
are being monitored, they will tend to comply with requirements compared to when if they
are not monitored.

Advocacy
Advocacy involves management convincing employees of the benefits from adherence to
the organization‟s chosen governance framework. It is a mean to communicate shared
values and universally beneficial behaviors across the organization, and encourage people
to challenge one another and, where necessary, to blow the whistle on wrongdoing. The
critical issue here is behavior, if a member of management behaves in a way that is
contrary to the code that he or she is promulgating then there is a tendency for others to
follow the behavior and not the code. The same principle applies across the entire business,
as has been clearly demonstrated in recent corporate governance scandals. Corruption has
to begin somewhere, and an organization will take its lead from the way in which senior
managers behave. If people do not trust the management, then advocacy will not work. So
advocacy has an implied element of transparency within it - while other mechanisms are
based on penalties, it rewards and recognizes people for doing a good job. In essence, it is
about rewarding good behavior, as opposed to penalizing bad behavior.

14
CONCLUSION
This paper discussed corporate governance from a global perspective, that is governance in
selected countries that represent both developed and developing countries. Discussion on
corporate governance in the UK, the US, German and Japan were done with the aim to
understand the diversity of corporate governance systems internationally and attempts that
have been made in these countries to reform corporate governance practice. The diversity
of corporate governance models adopted by countries around the globe depends on specific
country emphasis. Countries like the US and the UK (i.e. the Anglo-American models)
emphasize on the interest of shareholders, while many of the European countries and Japan
put more emphasis on the interests of stakeholders or multiple capital market players like
employees, suppliers and the public. One common issue is that the governments in these
countries have revised the corporate governance practices as the main priority with the aim
to increase investors trust and confidence, which will translate into liquid capital market.
The Code of Corporate Governance has been developed with the involvement of stock
exchanges, institutional investors, corporate captains, governments and international
organizations as a practical guide for the capital market players.
The characteristics of insider and outsider-dominated systems are also discussed.
The insider-dominated system of corporate governance is adopted by countries with
majority firms‟ shareholdings concentrated in the hand of few individuals, family and/or
state, while the outsider dominated systems are practiced by countries with a more
dispersed firms‟ shareholdings as in the hand of institutional investors and the public.
Thus, it is relevant that the regulators in these countries emphasize on both the interest of
shareholders and stakeholders.
Initiatives on standardizing corporate governance at a global level have been
consistently undertaken by various transnational organizations worldwide like OECD. For
example, the OECD has actively initiated recommendations and guidelines for their
member countries. Though the OECD efforts are well accepted by its member countries,
they have no legal power to enforce the compliance to the corporate governance standards.
The other organizations discussed in this paper are the ICGN, the CalPERS Principles, The
European Union and the Commonwealth Association for Corporate Governance.
Finally, the paper outlines the required efforts for effective corporate governance
practices. A combination of various factors like enforcement, surveillance and advocacy is
needed to ensure compliance by market participants. A serious monitoring activity on the
compliance to the code of corporate governance is important to make sure that all
corporate participants adhere to the standard of best practice.

15
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