The success of companies depends on how well its managers and employees work and pursue the goal of creating value for the corporation. Furthermore, most corporations, especially public corporations have separated ownership and management. In that case, the owners act as principals, while the management can be regarded as the agents. The principal-agent theory shows, that there is an information asymmetry between principal and agent. According to the theorem of homo oeconomicus, the agent pursues to maximize his own benefits. This leads to the problem, that managers may not always follow the same goals as the owners. In most cases, owners want to maximize their shareholder value, while managers may have different targets, like maintaining their position or increasing their reputation. This may not always contribute to the shareholders targets. Due to these circumstances, there has to be a system of guidelines and incentives, which ensures that responsible persons try to reach the shareholders targets. This system is known under the term of Corporate Governance.
There are different understandings of what Corporate Governance means. According to Shleifer and Vishny (1997), it deals with the ways in which suppliers of finance to corporations assure themselves of getting a return on their investment. Other definitions generalize the meaning of Corporate Governance to the relationships of a company to its shareholders, or even further to its relationship to society. To sum it up, Corporate Governance is a system, by which business corporations are directed and controlled. It is a structure, which specifies the distribution of rights and responsibilities among different participants in the corporation.
This paper is structured as follows: After the introduction of why Corporate Governance is important to businesses and a description of the different understandings of Corporate Governance, the following chapter describes the different types of Corporate Governance. An emphasis will be set on how it works especially in Germany. Finally there will be a conclusion which sums up the findings and gives an outlook on the future development.
Types of Corporate Governance
Legal and regulatory requirements
In many countries there are legal requirements for corporations. Mostly they state, that managers of public corporations have to act responsibly towards the interest of investors. For every country, there exists a different set of laws that enforces managers to follow shareholders targets. In Germany, legal requirements are subsumed in the German Stock Corporation Act (Aktiengesetz). The corresponding paragraphs refer to the German Corporate Governance Codex (DCGK) which is a framework with recommendations for stock companies that are listed on stock exchanges.
The German Corporate Governance Codex was introduced on initiative of a government commission by the German Ministry of Justice. It is self-regulated, financed by private businesses and adjusted every year. The target of the codex is to create transparency for national and international investors. According to the German Stock Corporation Act, corporations have to publish a declaration, which states if the recommendations of the German Corporate Governance Codex are fulfilled or not. If not, the corporation has to publish, which recommendations are not fulfilled and why there are deviations from the codex.
Board of directors
The board of directors is elected by the shareholders and has the legal duty to represent them. According to the OECD Principles of Corporate Governance from 2004 they have comprehensive tasks. Besides electing the Chief Executive Officer, the Board of Directors is responsible for providing feedback to the management regarding the organization´s strategy, setting the objectives and major plans of action, setting the risk policy, capital plans and annual budgets. Furthermore, they should align the executive remuneration according to the company´s long-term goals and ensure that appropriate systems of internal control are established. Furthermore, they should assure the accountability of the organization to its investors.
In Germany, the board of directors is restricted to the resolutions of the corporation´s statutes, the supervisory board and the decisions of the annual shareholder´s meeting. According to the German Corporate Governance Index, the Board of Directors should lead the corporation according to the corporation´s interest. This means that they should align their decisions to the interest of the owner, the employees and the different stakeholder with the goal of creating sustainable value for the company. Also, they should comply with laws and internal guidelines and standards and create a Compliance Management system which is orientated at the company´s individual risk exposure. Furthermore, this Compliance Management system should be communicated to the corporation´s stakeholders.
Another way to achieve good Corporate Governance is to provide appropriate compensation plans for managers. Many companies have systems that reward the managers according to the performance of the company. On one side, this can be done through giving out bonuses and incentives, if the wanted performance is achieved. On the other side, owner´s can give stock options to the responsible persons. Especially the last option leads to the managers having a personal stake in the success of the corporation. However, this might cause them to have a rather short-term orientation in increasing the stock value. An increase or significant decrease of the sustainable value can often be seen only after some time, when the former manager´s might already have left the company. However, this is a common instrument to align the managers to the company´s goals.
In Germany there are legal limitations to the compensation plans for managers. The “law for appropriateness of compensation for executives” (VorstAG) regulates the payments for directors. This includes, that stock options for executives can only be used after four years. Furthermore, the supervisory board has a personal liability for director´s compensations that are inappropriately high. Also, the compensation plans have to be aligned according to the sustainable development of the company.
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- Harry Kreil (Autor), 2017, Types of Corporate Governance with an emphasis on Germany, München, GRIN Verlag, https://www.grin.com/document/427002