Varieties of Capitalism?

1. Conférence internationale EAEPE "Gouverner l'entreprise : Propriété, institutions, société"Au Cnam, Paris - Les 22 et 23 mai 2008THOMAS CLARKE"The ownership perspective and beyond: a critique of Anglo-American model of corporate governance"

2. Varieties of Capitalism? • Hall, P. and Soskice, D. (2001) Varieties of Capitalism, New York: Oxford University Press. • The varieties of capitalism approach suggests the interdependency and complementarity of institutions • Defining feature of European corporate governance is its institutional diversity • Whether countries of Europe will converge towards a common corporate governance system, or sustain the present diversity of institutions is one of the key issues facing the continent

3. Varieties of Inequality? • Transformation towards market based system of corporate governance and shareholder value orientation • Different pattern and degree of social inequality • Governance and CEO objectives change • Structure of industry, employment, skills and reward likely to change Englander, E. and Kaufman, A. (2004) Executive Compensation, Political Economy and Managerial Control: The Transformation of Managerial Incentive Structures and Ideology, 1950-2000, George Washington University SMPP Working Paper No.03-01, pp34 Robert Boyer (2005) From Shareholder Value to CEO Power: the Paradox of the 1990s, Competition & Change, Vol. 9, No. 1, March 2005 7–47

4. The Recent Origins of Shareholder Value Three phases in US corporate governance and strategy – From ‘retain and invest’ to ‘downsize and distribute’: • 1960s-1970s Managerial Capitalism • 1980s Market for Corporate Control • 1990s Shareholder Value [Coffee (2004); Lazonick and O’Sullivan (2000)]

5. Distribution of Stock Market Holdings by Wealth Class Source: Economic Policy Institute :The State of Working America 2006-2007

6. Median CEO Pay in the US 1980- 2001

7. Out of Control? Corporate CEO Pay in the United States - The Social and Economic Consequences?

8. CEO Centrality ? • Lucian Bebchuk, Martijn Cremers, and Urs Peyer (2007) • The relationship between CEO centrality – the relative importance of the CEO within the top executive team in terms of ability, contribution, or power – and the value, performance and behavior of public firms. • Proxy for CEO centrality is the fraction of the aggregate compensation of the top-five executive team captured by the CEO. • CEO centrality is negatively associated with firm value (as measured by industry-adjusted Tobin's Q). This result is robust to controlling for all standard controls in Q regressions as well as additional controls such as CEO tenure, whether the CEO is a founder or a large owner, and whether the company’s top-five aggregate compensation is high or low relative to peer companies.

9. CEO Centrality ? • CEO centrality also has a rich set of relations with firms’ behavior and performance. In particular, CEO centrality is correlated with: (i) Lower (industry-adjusted) accounting profitability; (ii) Lower stock returns accompanying acquisitions announced by the firm and higher likelihood of a negative stock return accompanying such announcements; (iii) Higher odds of the CEO’s receiving a "lucky" option grant at the lowest price of the month: (iv) Greater tendency to reward the CEO for luck due to positive industry-wide shocks; (v) Lower performance sensitivity of CEO turnover; and (vi) Lower firm-specific variability of stock returns over time.

10. Imperial CEO?

11. The Regeneration of Inequality ? • American business interests have conspired to suborn the state • The lessons to be drawn from the consequences of the rise of the political power of American business ..are universal • Inaction by the gatekeepers left the field open to the untrammelled rapacity of imperial CEOs Sir Adrian Cadbury Governance, March 2008:8

12. The Transfer of Wealth ? “History will look back on the 1990s and early 2000s as a time when the principal officers of American corporations transferred to themselves approximately $1 trillion or ten per cent of the market value of public exchanges. This must be the largest peacetime movement of wealth ever recorded, and it was accomplished through stealth that amounted to theft and in a spirit of regulatory permissiveness that certainly rises near to the level of criminal neglect.” Bob Monks, Corpocracy (2007)

13. Top Ten US Highest Paid CEOs

14. Top Ten Highest Paid Rest of World CEOs

15. Average US Top Ten Ceo Pay vs Rest of World

16. Executive Pay as a Percentage of Workers Pay in the US 1990-2004 (S & P 500)

17. CEO Pay / S & P Index / Profits / Average Pay in US Source: Institute For a Fair Economy (2006).

18. Comparison of CEO Pay and Average Worker Pay Source: Adapted from Ertuk, I., et al. (2005)

19. Top Five US CEOs vs Top Five US Fund Managers CEOs 2005

20. Contemporary Dilemma Instead of Advising, Monitoring and Regulating, Advisors, Monitors and Regulators are often In on the Act

21. Dick Grasso CEO New York Stock Exchange “I’m not giving the money back!”

22. NYSE Annual Profit and CEO’s Annual Compensation(US$ Millions) Source: NYSE Webb Report

23. Pay of National US Regulators

24. Eliot Spitzer

25. Dick Grasso CEO New York Stock Exchange “Do I have to Give the money back?”

26. Germany: Dividends Number of Employees and Personnel Expenditure per Employee Source: Beyer and Hassel (2001) Source: Beyer J. and Hassel Anke (2001)

27. The Distribution of net value added in large German firms, 1992-4 and 1996-8 Source: Beyer J. and Hassel Anke (2001 : 320)

28. Penetration of Active Share Ownership in Some European Countries Sources: Deutsche Bank Corporate Governance Research, TUAC, Eurosif,

29. Corporate Governance as Shakespearian Tragedy: Act I The Triumph of the Corporation Act II The Crisis of the Managerial Conglomerate Risk diversification for individuals Early 20th Century Limited liability of shareholder Liquid financial markets Mid 19th Century ACT 1: The Triumph Separation of Ownership and control THE NEED FOR LARGER CAPITAL Excessive liability Of the stock-holder Early 19th Century THE MANAGERIAL CORPORATION: The leading Organisational form Mid 20th Century Creation of the Joint stock corporation Limit of Family owned firm Emerging weaknesses 1980s /1970s Sleepy conglomerate / Productivity slow-down Poor innovation Twin crisis of The growth regime The corporation ACT 2: The demise Adapted from: Boyer (2005)

30. Methods to Realign the interest of manager and shareholder 1990s A response to the Crisis of Fordism Concern for governance Shareholder Value/ value creation FINANCIAL LIBERALISATION 1980s Incentive remuneration of executives Performance related salary Stock options Search for higher returns Rather low return of Managerial corporations New financial investors (pensions funds) Adapted from: Boyer (2005:7-47). Corporate Governance as Shakespearian Tragedy: Act III Financial Liberalisation, Shareholder Value And Stock Options

31. From “GOOD” GOVERNANCE TO INFECTIOUS GREED Creative accounting Difficulties in Delivering the Expected ROE Collusion between Managers, auditors And analysts Late 1990s Innovation: New derivatives Booming stock markets Privacy of Relevant information Speculative bubble SEC 1999 Auditors Lobbying for Removing Any regulation Attractiveness of new instruments Inflow of Employees and Uninformed savings Expectation of high Rate of return Corporate finance Runs into its Own limit Bankruptcy Of the firm Loss of confidence in Fairness of financial markets And honesty of executives 2000 Cashing of stock Options by managers Easy exit of Managers with Golden parachutes 2001 Adapted from: Boyer (2005:7-47). Corporate Governance as Shakespearian Tragedy: ACT IV From “Good Governance” to Infectious Greed to Final Downfall • 2002 Sarbanes-Oxley • Enforces CEO/CFO • Sign off on accounts • Financial disclosure • Auditor Independence

32. Adoption of NYSE/SEC Rules in US Firms (2001-2005) % Source: Adapted from Aggarwal and Williamson (2006).

33. Total Number of US Corporation Earnings Restatements 1997-2005 Source: Adapted from Coffee J. (2002), Glass, Lewis and Co (2006)

34. Trends towards globalisation? • Globalisation of capital markets • Emergence of new financial intermediaries • To tap global financial resources require certain governance conditions • Stronger international competition in product markets • Mandates de facto convergence of cost structures and firm organisation • These pressures could impact upon firm behaviour and decision-making [Nestor and Thompson (OECD 2000)]

35. Evidence of European Convergence? AGAINST • Despite pressures towards adopting Anglo-Saxon standards remains considerable divergence – ‘institutional complementarity thesis’ • Diversity of corporate models at the root of their competitiveness • Stakeholder model closer to the reality of European social democracy

36. Evidence of European Convergence? FOR • Anglo-American logic of corporate governance diffusing beyond major corporations of DAX 30 in Germany • Not just external forces but internal institutional investors • Management introducing shareholder value incentive systems • Small but significant change in distribution of net value added towards shareholders • Orientation of firms towards international financial markets • Change in distribution will threaten viability of diversified quality production [Reberioux(2002); Cernat 2004); Lane (2003); Jurgens, Naumann and Rupp (2000); Beyer and Hassel (2000)]

37. Leverage Differentiation? • Corporate governance systems are embedded in legal traditions, interact in complex ways with other institutional features, and are affected by national political dynamics. • Longitudinal evidence suggests limited international convergence in governance systems in recent decades. • Rather than the abandonment of structures that delivered efficiency and prosperity in the past, there is considerable scope for diversity. • The “one size fits all” approach of convergence advocates is culturally and economically insensitive. • The dominant form of ownership throughout the world remains family ownership. [Guillen(2000); Rhodes and Apeldoorn (1998); Branson (2001)]

38. Multiple Convergence and Divergence

39. Future Direction of European Corporate Governance? • The distinctiveness of Europe has produced some of the most valued corporations in the world, together with an exceptional quality of life in many communities. • Though Europe has embarked on a process of change in corporate governance and company law in recent years to integrate better into international financial and product markets, CEOs have not seized control to the same degree, and shareholder value remains mediated by stakeholder values • There are important signs that the commitment to European institutional diversity, diversified quality production and social cohesion may survive the present transformatory experience.

40. Transcendence of US Model? Shareholder Value In the United States

41. The Recent Origins of Shareholder Value Three phases in US corporate governance and strategy – From ‘retain and invest’ to ‘downsize and distribute’: • 1960s-1970s Managerial Capitalism • 1980s Market for Corporate Control • 1990s Shareholder Value [Coffee (2004); Lazonick and O’Sullivan (2000)]

42. Retain and Invest • 1960s-1970s Managerial Capitalism • Revenues invested in corporate growth • Conglomerates mitigate the business cycle • Diversified portfolio could cross-subsidise • Maximised sales, profit satisfied rather than maximised • Balanced interests of different constituencies • Shareholders only one interest • Managers intent on increasing own security and reward

43. Retain and Invest • Rise of International Competition • Higher skills higher quality overseas competitors • US manufacturing too centralised and lacked innovation • Agency Theory • Need market for corporate control to discipline management • Rate of return on corporate stock the measure of corporate performance • The maximisation of shareholder value the driving focus [Coffee (2004); Lazonick and O’Sullivan (2000)]

44. Downsize and Distribute I • 1980s Market for Corporate Control • Shift in Wall St from focus on longer term investment activities (bonds) to stock • Deregulation of institutions investors (ERISA 1978) permitted investment in equities and junk bonds rather than high grade corporate and government bonds • Pension funds, insurance companies and savings ( S & L) companies entered the junk bond market • Unwieldy conglomerates unwound in takeovers and management buyouts • Takeovers served to ‘disgorge the free cash flow’ from companies (Jensen 1989) • Managers needed to sell assets to meet new financial obligations and maintain market value

45. Downsize and Distribute I • New Incentives for Managers • Goal of leveraged buyout firms link management interest to firm’s market value • Institutional investors encouraged use stock options to increase management sensitivity to the market • Congress levied punitive tax on executive ‘parachute payments’ (1984) and denied a tax deduction to public corporations that paid top executives more than $1 million • Restriction on cash compensation promoted shift to equity compensation [Coffee (2004); Lazonick and O’Sullivan (2000)]

46. Downsize and Distribute II • 1990s Shareholder Value • Institutional investors, deregulatory environment, the longest bull market, and hyperactive analysts and media increased both the sensitivity of managers to their firm’s market price, and their willingness to take risks to increase their stock price • The median equity-based compensation of top US executives at S & P 500 industrial companies rose from 0 per cent in 1984 to 8 per cent in 1990, and to 66% in 2001 (Hall 2003:23) • In 1991 the SEC relaxed the holding period requirements for stock options if held for six months or longer, meant most executives free to sell stock on the same day they exercised options • This meant executives could exploit a temporary spike in the price of the firm’s shares and this became the prevailing pattern

47. Downsize and Distribute II • High Market Valuations • Aggressive earnings forecasts drove a firm’s stock price up • Recognising income prematurely, misappropriating it from future periods • “Advancing the moment of revenue recognition” • Investors, analysts, auditors and other gatekeepers abandon scepticism in bubble euphoria [Coffee (2004); Lazonick and O’Sullivan (2000)]

48. Germany Long Term Strong Manufacturing Base Bank Equity and Credit Finance Organic Growth High Corporate Taxation Large Owner Managed Firms More Concerned With Operations Emphasis on Sales and Volume UK Short Term Weak Manufacturing Base Short Term Market Equity Legitimacy of Takeovers Low Corporate Taxation Impersonal Ownership Finance More Concerned With Strategy Emphasis on Profit and Marketing Business Orientation and Environment (Pugh1991)

49. The External Market: Fluid Capital and Dedicated Capital United States Transient owners Owners with little influence Transaction- driven Fluid Capital Valuation-driven buy-sell choices Fragmented stakes Outside Information Source: Porter, Capital Choices (1992)

50. The External Market: Fluid Capital and Dedicated Capital Japan and Germany Permanent owners Significant over influences Relationship- driven Dedicated Capital Valuation does not affect buy-sell choices Significant stakes Inside Information Source: Porter, Capital Choices (1992)