Indian firms in which ownership is concentrated in one family do not perform less well than those using Anglo-American corporate governance, according to research by Shantanu Banerjee and Swarnodeep Homroy to be presented at the Royal Economic Society''s 2015 annual conference. Their study concludes that regulators should not try to impose uniform governance structures.
Conventional wisdom holds that a western style of corporate governance system, with dispersed ownership, is more efficient than the interlocked share ownership of firms and relationship-based governance in Japan and Korea, or the state ownership typical of Chinese firms. Yet prominent Western business failures such as Enron and WorldCom cast doubt on whether dispersed ownership is always the best model.
Until now, evidence to support either point of view is weak, because it usually involves comparing companies in different countries, subject to different laws and regulations. India, however, has many examples of businesses with Anglo-American governance structures as well as companies that belong to business groups with cross-holdings. The capital market in India is also well developed, so that comparisons can be made.
The research finds that both governance structures lead to similar outcomes for the business. The authors conclude that although firms in which ownership is concentrated in a family structure are less likely to fire a CEO for poor performance, the threat of loss in personal wealth and the potential damage to the reputation of the group provide enough incentives for the CEO to perform as well as if ownership was dispersed.
The authors conclude that imposing one system of governance will not necessarily improve business performance:
''There seems to be no silver bullet when it comes to efficient corporate governance mechanisms. Governance mechanisms may have deep rooted cultural norms and more than one mechanism can lead to similar outcomes.''
CEO pay and corporate governance has been at the centre of controversy for quite some time now. A common theme of such debates is the alleged failure of the board of directors in monitoring the pay and misaligned incentives of CEOs. Some deep-seated issues with the Anglo-American style of corporate governance have surfaced in recent times (the Enron crisis, the fall of Lehmann brothers, etc.).
Yet conventional wisdom is that the western style of corporate governance system with dispersed ownership is more efficient than the interlocked share ownership of firms and relationship based governance in Japan and Korea, or the state ownership in Chinese firms. The recent corporate scandals and failure of the governance mechanism to monitor errant CEOs calls for a re-evaluation of the performance of, and seek lessons from parallel governance systems.
Is an overhaul of the western-style corporate governance the need of the hour and should we adopt an alternative mechanism? The answers to these questions would be obvious if we can ascertain that one system of corporate governance leads to better outcomes over the other.
But comparisons of different governance systems are inherently fraught with the problem of comparing companies in two different countries with vastly different legal and institutional frameworks. Ideally, one would want to compare companies with different corporate structure and governance within the same country.
India provides a unique setting to compare different governance styles and outcomes within the same institutional framework and macroeconomic structure. A corporation in India can be a widely held company with an Anglo-American governance structure, belong to a business groups with cross holdings or be controlled by the government. The capital market in India is well developed and the results render themselves to comparison easily.
This study compares Indian business group firms with cross-held concentrated family ownership (Oriental-style of corporate governance) with firms having dispersed shareholding (Anglo-American style of corporate governance). The interest of the business group can provide the same monitoring role as that of a professionally hired board of directors leading to similar outcomes. A CEO who is a member of the owner family is not readily replaced for poor performance, but the risk of loss in personal wealth and reputation of the group provides enough incentives for the CEO to perform.
This is contrary to the assertions that Anglo-American style of corporate governance is more efficient and that concentrated shareholding is associated with poor management. These results suggest that though the incentives are different, both structures lead to similar outcomes.
Therefore, there seems to be no silver bullet when it comes to efficient corporate governance mechanisms. Governance mechanisms may have deep rooted cultural norms and more than one governance mechanism can lead to similar outcomes. The new wave of international takeovers is going to create stresses and strains in the organisations, but the regulators should refrain from trying to impose uniform governance structures and allow companies to adjust their governance structure to best suit their profile.
''The Structure of Corporate Holdings and Corporate Governance: Evidence from India'' – Shantanu Banerjee and Swarnodeep Homroy, Lancaster University