This is the substantive difference between the two primary models of corporate governance namely the outsider model, which is used in Anglo-American countries such as the United States or United Kingdom 1 and the insider model, which is used predominantly in European countries such as Germany or France The outsider model, also known as the Anglo American model of corporate governance because it is predominantly used in Anglo American states like the United States and United Kingdom, is consistent with the narrow definition of corporate governance in that it has a bias towards shareholders over other stakeholders in the corporation 2.
This bias is justified on the premise that in most instances, other stakeholders have recourse to protect their interests through contractual agreement, whereas the shareholder remains unprotected as corporate decisions and activities cannot be predicted in advance 3.
Since the shareholders carry the risk of the investment decisions made by the corporation, it is argued they should have the primary say in corporate governance. The justification for this ideology is that the primary function of a corporation is the creation of wealth 4.
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Permitting corporations to focus on profit maximizations as their primary function ensures that businesses create economic growth as oppose to dealing with social considerations which distract them from this objective. It has been argued that directors are not sufficiently experienced in balancing social interests with economic ones and as a result to require them to do so would result in an inefficient system, which would not promote the economic welfare of the market.
The Anglo American model starkly contrasts to the stakeholder-oriented approach which is commonly associated with European countries such as Germany and France 5. Under this model, corporations must not only take into account the interest of shareholders but also those of a wide range of constituencies, as well as of the communities within which they operate 6. This helps to assure that corporations operate for the benefit of society as a whole and not solely in the interests of its shareholders.
Such a system places less emphasis on the interests of shareholders for the benefit of the wider community 7. There are several characteristics which distinguish the Anglo American model from the stakeholder-oriented approach.
Those unique to the Anglo American model are discussed below. The effective functioning of a corporation is dependent on the interrelationship and interaction of its various institutions 1. These institutions consist of the board of directors, the executive management and shareholders 2. The shareholders of the corporation are the owners who have financially invested in the corporation and the board of directors, as well as executive management, are responsible for the operation of the corporation 3.
The executive management is charged with the responsibility of operating the company with the view to maximising shareholder profit. The CEO chooses the management team and, from a practical perspective, has the final say in many issues relating to the corporation despite the provisions of many corporate statutes and procedures. The Board exists primarily to be an effective corporate governance mechanism for hiring, firing, monitoring and compensating management The Board of Directors is therefore the main organ of the company and acts as agents for its owners by supervising the actions of the managers.
There are two popular forms of boards of directors namely, the unitary one-tier and dual two-tier boards 6. The Anglo American model favours the unitary board 7. The Board consists of executive directors EDs , who are considered employees of the corporation, and non-executive directors NEDs , who tend to be professionals or experts that are independent of the corporation 9.
As independent third parties, they should have no conflict of interest and are therefore equipped to monitor the performance of the EDs impartially to the benefit of the shareholders should EDs try to deviate from their principal objective. The success of the Anglo American model is dependent on the extent to which the Board can effectively supervise the actions of the executive management While legislation and regulations seek to ensure a balance between the two entities, in practice the executive management is by far more powerful than the Board The nature of publicly held companies is that the executive management has a great deal of flexibility in determining how they discharge their responsibilities in attaining the objectives of the corporation To encourage them to do so, they are more often than not enticed with substantial compensation packages with performance based remuneration.
This problem is further compounded by the dominant role the CEO plays in the relationship between the executive management and the Board. While in board meetings the Board is technically supervising the CEO and his management team, the former have a large degree of control over the meetings. The CEO sets the agenda for board meetings and decides what information is to be provided to other directors. With this sort of control, it is very easy for the CEO to limit the powers of the Board However, over the past few years, the dominance of the CEO has been challenged not only by the increasing influence of the board of directors 17,but also by legislation.
The ability of a shareholder to exercise its ownership rights and protect its investment is a key to the Anglo American model of corporate governance. Due to the fact that the focus of the Anglo American system focus is on the interest of shareholders, this model tends to focus on the nature of ownership and the ability of that ownership to protect its investment 0. One of the clear challenges which arise from the separation of ownership and management is to strike the right balance between the rights of the owners with the control of the managers 1.
There are several mechanisms which the Anglo American model utilises to deal with this issue 2.
These come in the form of rights which are afforded to the shareholders which enable them to monitor and control the managers of the corporation 3. Most of the largest corporations in the US and UK are quoted on the stock market and offer their shares to the general public 4. This sort of dispersed ownership is a main feature of this type of model. It has been argued that the reason for this is because the general public in these communities prefer not to own a high percentage of equities in large firms 6.
Relevance And Importance Of Corporate Governance
Having said so, even countries who share a similar trend in ownerships are not always identical. For example, one major difference between the US and UK in terms of ownership is the stronger presence of institutional shareholders in the UK 7. This trend towards ownership by institutional shareholders has an impact on the efficiency of the Anglo American model. The institutional shareholder represents a large number of smaller investors and therefore has the clout to effectively monitor and address managerial misconduct 8.
In the UK context, it has become conventional wisdom that prompting institutional investors to consider their responsibility as an important corporate constituent is an additional way to improve managerial accountability 9. Unfortunately, this has not always been the case primarily because many institutional shareholders are driven by short term strategies which may not have as their paramount concern the long term welfare of the corporation.
In addition, it has been shown that when dissatisfied with the performance of a corporation, many institutional shareholders would prefer to sell their shareholding than to play some sort of supervisory or monitoring role in the corporation Another problem facing institutional shareholders is how to reconcile their roles as shareholders owning shares in many listed companies with their role as investors of funds Given that their primary motivation is to make profit for their investors, they compete fiercely with each other to attract funds in order to ensure a high return on their investments Consequently, when faced with mismanagement it is easier for them to sell than to hold management to account.
One of these is what is commonly referred to as the motivation factor. Institutional shareholders have different priorities and agendas at any one time. It may be difficult to pool resources to tackle together what to some institutional shareholders may not be a problem at all.
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In light of the challenges institutional shareholders face in monitoring management of companies, the Anglo American model can only be successful if there are other mechanisms in place which can be used to protect shareholders The main focus of the Anglo American model is in the protection of shareholders In this respect, both the UK and US system are similar in the way corporate directors and senior managers are held accountable to their shareholders Both systems encourage shareholders to work as monitors over managers and senior executives To facilitate this monitoring process, shareholders have many statutory rights and common law rights.
The main right afforded to shareholders that provide them with a means of controlling the management of the company is their statutory right to vote on decisions at the Annual General Meeting AGM The AGM is an annual meeting which shareholders are entitled to attend At this meeting, the shareholders are informed about the previous and future activities of the corporation You're not signed up.
Close navigation. Why is Corporate Governance Important? By: Leo Sun. Corporate governance is the way a corporation polices itself. In short, it is a method of governing the company like a sovereign state, instating its own customs, policies and laws to its employees from the highest to the lowest levels. Corporate governance is intended to increase the accountability of your company and to avoid massive disasters before they occur.
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Failed energy giant Enron, and its bankrupt employees and shareholders, is a prime argument for the importance of solid corporate governance. Well-executed corporate governance should be similar to a police department's internal affairs unit, weeding out and eliminating problems with extreme prejudice. A company can also hold meetings with internal members, such as shareholders and debtholders - as well as suppliers, customers and community leaders, to address the request and needs of the affected parties. Small Business.
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Adam Colgate. What is an S Corporation? Deciding which type of corporation is the best for your business can be a confusing and tedious task. Two types of corporations are recognized by the Internal Revenue Service for the purpose of federal income tax imposition: C corporations and S Read more. Leo Sun. The Role of Stakeholders in Your Business.
In business, a stakeholder is usually an investor in your company whose actions determine the outcome of your business decisions. Stakeholders don't have to be equity shareholders.
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