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E-MailKlaus J. Hopt is former director at the Max Planck Institute for Comparative and International Private Law, Hamburg, Germany; and Patrick C. Leyens is Professor at the University of Bremen, and Professor (hon.) at the Erasmus University Rotterdam. This post is based on their recent paper. Related research from the Program on Corporate Governance includes The Elusive Quest for Global Governance Standards by Lucian Bebchuk and Assaf Hamdani.
The board of directors is the nucleus of internal corporate governance. The internationally predominant board model, as known from the US or the UK, reveals a one-tier structure. In a two-tier structure, as found in continental European countries like Germany, the management and the monitoring tasks are divided between two boards. Despite a trend of functional convergence in internal corporate governance, we observe persisting divergence in regard to board models. As known from major corporate governance reforms, most advances directly or indirectly target the board of directors. It hence appears a long overdue question whether the choice of a particular board model affects the operation of governance strategies. If it does not, private parties should be free to choose the board model that they expect to best suit their interests.
The Board Model as a Basic Governance Structure
In our recent paper on The Structure of the Board of Directors: Boards and Governance Strategies in the US, the UK and Germany we argue that a board model only provides a basic structure which serves to enable the use of more specific corporate governance strategies. The paper continues and advances our earlier research on Board Models in Europe in which we discussed convergence and divergence of internal corporate governance in the UK and Germany, as well as in France and Italy. In our earlier research, we advanced a plea for more flexibility and leaving the choice of the board model to private parties. Our recent paper supports this plea.
Different Roles of Boards in the US, the UK and Germany
We focus on three sample jurisdictions, the US, the UK, and Germany. France and Italy are also considered to round out the discussion of selected issues. We explore the structure of the board of directors’ with a view to the basic governance structure as provided by a board model vis-à-vis techniques of structuring the decision-making body, which can be used independently of the chosen board model. It is known that the corporate laws of our sample jurisdictions attribute different roles to the board in regard to alleviating agency problems between owners and managers in hostile takeovers, controlling and non-controlling shareholders in related party transactions, and shareholder and stakeholder constituencies, especially with a view to employee interests. We show that for most of these matters, it is the use of specific governance strategies, not the choice of a board model, which determines the role of the board.
Boards’ Say on Takeover Defenses in the US and in Germany versus Shareholders’ Say in the UK
We first turn to the market for corporate control that is known as a removal strategy which alleviates the agency problem between owners and managers of potential target companies. To achieve this effect, it must be ensured that takeover defenses are adopted in the interest of shareholders rather than as a means to shield the incumbent board from removal by the acquirer. The governance options include focusing the board structure through the allocation of decision-making power to independent directors (US) or to the supervisory board (Germany), and, as an alternative, reinstalling shareholder decision-making and thus removing the board from its coordination task (UK). On a closer look, it appears that supervisory board approval of defensive measures as foreseen in Germany provides incumbent management boards with a similar or even stronger say on the success of a hostile takeover than a US board. Counter-intuitively, one might group US and German law together, despite differences in their basic board structures and despite the European Union’s adoption of UK-style control shift regulation.
Board Control over Related-Party Transactions in the US and Germany versus Shareholder Control in the UK
Secondly, we show that the three sample jurisdictions follow a similar pattern for securing fairness of related party transactions (RPTs). The UK relies on a structuring of the shareholder body, requiring ex-ante approval of the disinterested shareholders (MOM approval). This strategy is also used in France but in a weaker form due to the possibility of ex-post authorization. US law foresees the MOM rule, but the predominant choice seems to be structuring the board so as to leave the decision over RPTs to independent directors. Italy has, on one hand, sought to enhance this strategy with the obligatory involvement of a minority appointed director but, on the other hand, has also weakened its impact by allowing the board to override a recommendation of the independent directors. Germany also relies on board structuring in that it requires supervisory board approval of RPTs. Compared to the use of independent directors, however, the cooperation between the two boards of a German corporation provides a basis for manager-friendly results one would expect only from a jurisdiction that openly promotes board empowerment.
Employee Voice on German Two-tier Boards versus Advances of Corporate Purpose in the US and the UK
Thirdly, the most far-reaching advance of the corporate purpose debate relates to a further structuring of the board so as to provide employee representatives with a voice. German co-determination is known as the strong(est) form of this strategy. The presence of employee and even of worker union representatives on German supervisory boards results in a reallocation of half of the appointment rights from shareholders to employees. In the US, proposals to adopt a (milder) form of employee co-determination were already made before the turn of the new millennium. These proposals have been rediscovered by some contenders of the recent presidential elections. For the US and, as it seems, also for the UK, it is rather unlikely that those proposals will find their way into legal reform. Proponents of employee co-determination in the US and in the UK should be aware that giving employee or union representatives voice on a one-tier board would provide them with directional power. As far as known, this strategy has never been made use of by private parties, and, where co-determination is prescribed by law, employees take their seats only on the supervisory board. Out of the governance strategies discussed in this chapter, it is hence only employee co-determination that calls for a basic governance structure which solely a two-tier board model can provide.
The complete paper is available for download here.
