Corporate Governance

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Corporate Governance Germany

• The Two-Tier Board

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Management Board

• Tasks and Responsibilities4.1.1 The Management
  Board is responsible for independently managing
  the enterprise. In doing so, it is obliged to act
  in the enterprise's best interests and undertakes
  to increase the sustainable value of the
  enterprise.4.1.2 The Management Board develops
  the enterprise's strategy, coordinates it with
  the Supervisory Board and ensures its
  implementation.4.1.3 The Management Board
  ensures that all provisions of law are abided by
  and works to achieve their compliance by group
  companies.4.1.4 The Management Board ensures
  appropriate risk management and risk controlling
  in the enterprise.
• http//www.corporate-governance-code.de/eng/kodex/
  4.html

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Supervisory Board

• Tasks and Responsibilities5.1.1 The task of
  the Supervisory Board is to advise regularly and
  supervise the Management Board in the management
  of the enterprise. It must be involved in
  decisions of fundamental importance to the
  enterprise.5.1.2 The Supervisory Board
  appoints and dismisses the members of the
  Management Board. Together with the Management
  Board it shall ensure that there is a long-term
  succession planning. The Supervisory Board can
  delegate preparations for the appointment of
  members of the Management Board to a committee,
  which also determines the conditions of the
  employment contracts including compensation.For
  first time appointments the maximum possible
  appointment period of five years should not be
  the rule. A re-appointment prior to one year
  before the end of the appointment period with a
  simultaneous termination of the current
  appointment shall only take place under special
  circumstances. An age limit for members of the
  Management Board shall be specified.5.1.3 The
  Supervisory Board shall issue Terms of
  Reference.
• http//www.corporate-governance-code.de/eng/kodex/
  4.html

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The German Stock Corporation Act

• requires a clear separation of management
  oversight functions therefore strictly
  prohibits simultaneous membership on both boards.
• Members of the management board the
  supervisory board must exercise the standard of
  care of a prudent diligent business person when
  carrying out their duties
• Members must not only take into account the
  interests of shareholders, as would typically be
  the case with a U.S. board of directors, but also
  the interests of other constituents, such as the
  companys employees and creditors, and to some
  extent, the public interest.

5
Employee Representation

• On the basis of the Works Constitution Act it
  provides workers representation a) on the
  shop-floor level and b) in the supervisory board.
• At the level of individual plants, in companies
  with five or more employees, the employees have
  the right to elect a works council. The number
  of works council members is proportionate to the
  number of employees. The councils purview
  covers three areas, namely co-operation in
  social, personnel, and economic matters. Social
  matters in which it has full co-determination
  rights including fixing rest periods, leave,
  shift plans, and the like, as well as company pay
  structures and piece and bonus rates. Personnel
  matters include employment, classification,
  reclassification, where each case the works
  council has to be informed in advance and ask for
  its approval.
• In companies with more than 500 employees
  (whatever their legal status), the representation
  of workers on supervisory boards is mandated by
  the Works Constitution Act of 1952. Under this
  act, one third of the supervisory board members
  are employee representatives
• In companies with more that 2,000 employees, the
  Co-Determination Act of 1976 goes further and
  stipulates that labor should take half the
  seats on the board. The representatives of
  capital retain the right to nominate the chairman
  of the supervisory board who has the casting vote
  when the two sides are deadlocked.
• The Co-Determination in the Coral, Iron, and
  Steel Industry Act provides an even more
  extensive form of co-determination for the coal
  and steel industry.

6
Share Ownership

• A share of 25 gives a blockholder the power to
  veto decisions
• In Germany, many key decisions requires the
  consent of more than 75 of the votes at the
  general meeting
• In the mid 1990s there was one blockholder with
  more than 25 of the voting rights in more than
  four fifths of German listed corporations

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The Influence Factor Gerum Study

• 71 publicly traded companies selected in 1979
  were analyzed to determine the influence the
  supervisory board had on company policy
• Gerum made a distinction between 2 types of
  boards.
• The first type represented supervisory boards
  dominated by shareholders (or other
  stakeholders).
• The second supervisory board he identified was
  one seeking to influence business policy and
  those confining themselves to their formal,
  legally, stipulated role.

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The Influence FactorGerum Study

• Gerum identified 4 types of supervisory board
  management board relations
• Dominating Supervisory Board Representatives of
  capital have the majority of seats on the board
  determine the chairman. By defining a detailed
  list of decisions requiring their approval, the
  supervisory board exerts complete control over
  the management board. 13
• Controlling Supervisory Board Shareholders
  dominate the board, which refrains from defining
  decisions requiring approval. Thus, the
  supervisory board only controls management
  decisions ex post. 20
• Company Policy Oriented Supervisory Board
  Shareholders do not dominate the supervisory
  board at the same time the board defines
  decisions requiring approval and by this means
  actively influences company policy. 37
• Consultative Supervisory Board Supervisory
  Board dominated by labor and decisions requiring
  assent have not been defined. The board confines
  itself to an advisory and supportive role
  vis-à-vis the management board. 30
• The German System of Corporate Governance
  Characteristics Changes

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Optimal Board Structure?

• There is little doubt that compared to the
  Anglo-American model of corporate governance,
  German employees have more influence on
  decision-making in firms. However, influence
  flows in both directions, with employee views and
  attitudes being affected by their board
  representation and thereby potentially helping to
  foster the more consensual relationship.
• OECD

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Optimal Board Structure?

• If co-determination is beneficial to both
  stockholders and labor, why do we need laws which
  force firms to engage in it? Surely, they would
  do so voluntarily. The fact that stockholders
  must be forced by law to accept co-determination
  is the best evidence we have that they are
  adversely affected by it.
• Michael Jensen

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Optimal Board Structure?

• It use to be a largely consistent insider
  control system with all of the typical strengths
  of such a system, allowing management to take a
  longer-term perspective in its planning and
  strategies. Because of the need to conclude
  incomplete and implicit contracts, it offered the
  advantage of flexibility, and it created stronger
  incentives to undertake relationship-specific
  investments, including those in firm-specific
  human capital, than a market-based and purely
  shareholder-oriented outsider control system.
• Reinhard H. Schmidt

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Optimal Board Structure?

• Critics maintain that its centerpiece, the
  supervisory board, does not function in the way
  in which it was supposed to functionAmong the
  chief weaknesses of an insider control system,
  which relies heavily on informal contracting, are
  its lack of transparency and its anti-competitive
  effects. It also leads to a systematic neglect
  of the stock market, and it offers opportunities
  to abuse power.
• Reinhard H. Schmidt

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Thoughts/Comments