Board internationalization explained from a corporate governance perspective

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Board internationalization explained from a corporate governance perspective

A comparative study of the internationalization of executive and supervisory boards in Western Europe

By Floris de Haan Student number: 1508210

MSc International Business and Management Groningen, December 2007

Faculty of Management and Organization

First supervisor: Dr. K. van Veen Second supervisor: Dr. C. Dörrenbächer

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Board internationalization explained from a corporate governance perspective

A comparative study of the internationalization of executive and supervisory boards in Western Europe

ABSTRACT

This thesis focuses on analyzing the internationalization of executive and supervisory boards of large Western European MNEs from a corporate governance perspective. To study board internationalization from a corporate governance perspective, this thesis makes use of country groups, as defined by Weimer & Pape (1999), for which more or less resembling corporate governance systems can be identified. Each country group has its own specific corporate governance features. The following groups are identified: Anglo-Saxon, Germanic and Latin.

By focusing on differences between the various corporate governance systems, assumptions are made regarding board internationalization. The research sample includes 247 MNEs and 4325 board members, of which 1483 are executives and 2842 are non-executives. It was assumed that the Anglo-Saxon group would have the most international boards, followed by the Germanic and the Latin group respectively. This proved to be partly true. The results of several additional regression analyses seem to indicate that while individual country effects do exert their influence on board internationalization, corporate governance systems do not seem to exert much influence. However one of the features in the Germanic corporate governance system proved to be highly significant. The results showed that the shareholder part of the supervisory board was more international than the employee part. Besides the country groups, the effect of the nomination committee on board composition has been studied. The results show that there is a positive correlation between the international composition of the nomination committee and the executive and the non-executive body respectively. However, the causality of this relationship remains a bit unclear. At the moment the results seem to indicate that an international nomination committee leads to an international board and vice versa, i.e. the two processes occur simultaneously. A longitudinal study, as conducted by Ruigrok et al. (2006), could shed more light on this relationship.

Keywords: Corporate board, internationalization, corporate governance, nomination committee, comparative study

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TABLE OF CONTENTS

1. INTRODUCTION ... 6

1.1 Problem statement... 8

2. LITERATURE REVIEW... 10

2.1 Previous research on the internationalization of corporate boards ... 11

2.1.1 Executive board or TMT ... 11

2.1.2 Supervisory board ... 12

2.1.3 Entire corporate board... 12

2.2 Corporate governance... 13

2.2.1 Defining corporate governance ... 14

2.2.2 Contemporary history of corporate governance... 14

3. CORPORATE GOVERNANCE SYSTEMS... 16

3.1 Boards structures in Western Europe ... 17

3.1.1 One-tier boards... 18

3.1.2 Two-tier boards ... 18

3.2 Corporate governance systems in Western Europe ... 19

3.2.1 Anglo-Saxon country class... 19

3.2.1.1 The United Kingdom and Ireland... 20

3.2.2 Germanic country class ... 20

3.2.2.1 Denmark ... 21

3.2.2.2 Germany ... 21

3.2.2.3 The Netherlands ... 22

3.2.2.4 Sweden ... 23

3.2.2.5 Luxembourg ... 23

3.2.3 Latin country class ... 24

3.2.3.1 France ... 24

3.2.3.2 Italy... 25

3.2.3.3 Belgium ... 26

4. INTERNATIONALIZATION OF CORPORATE BOARDS... 27

4.1 Anglo-Saxon countries ... 27

4.2 Germanic countries ... 28

4.3 Latin countries... 30

4.4 Board committees ... 31

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4.4.1 Nomination committee... 32

5. METHODOLOGY... 34

5.1 Research sample ... 34

5.2 Data collection ... 35

5.3 Measurement ... 36

5.3.1 Dependent variables ... 37

5.3.2 Independent variable ... 37

5.4 Statistical analysis ... 37

6. RESULTS... 40

6.1 Descriptive results ... 40

6.2 Statistical results concerning the formulated hypotheses... 41

6.2.1 Results hypothesis 1 ... 41

6.3 Regression analyses ... 47

6.3.1 The effect of corporate governance systems and countries on the ratio of foreign corporate board members ... 48

6.3.2 The effect of corporate governance systems and countries on the ratio of foreign executive board members... 48

6.3.3 The effect of corporate governance systems and countries on the ratio of foreign non-executive board members ... 49

6.3.4 The effect of the ratio of foreign nomination committee members on the ratio of foreign executive board members ... 49

6.4 Interpretation of the results ... 50

6.4.1 Ratio of foreign corporate board members ... 50

6.4.2 Ratio of foreign executives and non-executives ... 51

6.4.3 Ratio of foreign shareholder and employee representatives ... 53

6.4.4 Ratio of foreign board members on the nomination committee... 53

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6.4.5 Interpretation of the regression analyses... 55

7. CONCLUSION... 58

8. DISCUSSION ... 62

REFERENCES ... 65

APPENDIXES ... 71

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1. INTRODUCTION

In the era of globalization, national borders are becoming more and more transparent. Nation- states, corporations, organizations and people have become increasingly interconnected. This can be seen for instance in the European Union (EU), of which one of its goals is to promote a dynamic common market by encouraging the mobility of workers. Due to this interconnectedness, business has become increasingly international. An example of this is the multinational enterprise (MNE), which conducts its business in a number of different countries. One would expect that one of the hallmarks of the MNE would be the international composition its workforce, since it is active in a variety of countries. Although MNEs can be international at the base of their organization, i.e. they have a diverse workforce in terms of nationalities due to the fact that they have operations in many countries, the question remains if this holds true for the composition of the apex of its organization, i.e. the corporate board.

According to Perlmutter (1969), three attitudes towards building a MNE can be identified:

ethnocentric (home-country oriented), polycentric (host-country oriented) and geocentric (world-oriented). The author states that “the agreement is almost unanimous in both U.S.- and European-based international firms that their companies are at various stages on a route toward geocentrism but none have reached this state of affairs” (Perlmutter, 1969: 14). An interesting avenue of research is the role of management in this internationalization process.

One would expect that, follow the reasoning of Perlmutter (1969), that the management board of today’s MNE has become more and more international in composition, i.e. geocentric.

Franko (1973) notices that “foreign nationals have also become to occupy managerial positions in the headquarters of U.S. and European firms. Nevertheless, such “geocentric”

multinationalization is still exceedingly rare” (Franko, 1973: 38). More recent research by Heijltjes, Olie & Glunk (2003), which focused on the internationalization of top management teams (TMT) in Dutch and Swedish MNEs, shows that, in 1999, only 25% of the companies under review had foreign board members. The authors conclude that the internationalization of TMTs is a relatively recent phenomenon.

This thesis is interested in this recent phenomenon and will research the current state of internationalization at the top of MNEs, i.e. corporate boards. This will be done from a corporate governance perspective. To study board internationalization from a corporate governance perspective, this thesis will make use of country groups, as defined by authors

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such as Weimer & Pape (1999), for which more or less resembling corporate governance systems can be identified. Each country group has its own specific corporate governance features. Differences between these features might lead to different opportunities for foreigners to enter the boards of the companies located in these countries.

Corporate governance has gained an increased amount of attention over the last decade (Mallin, 2006). This attention has been generated in part by diminished confidence in financial reporting among investors and creditors due to scandals (e.g. financial scandals at Royal Ahold) and the collapse of large firms, such as Barings Bank, Enron Corporation and Worldcom, among others. Effective and good corporate governance can prevent such scandals and collapses and restore investor confidence. A number of countries have therefore introduced corporate governance codes and guidelines as a result of this. These codes state how a firm should be governed and should prevent such financial crises, collapses or other similar crises. What is important for this thesis is that, in theory, corporate governance systems can influence board composition in different ways. The role stock markets play in the national economy, the degree of ownership concentration and the importance of different stakeholders differs between countries (Weimer & Pape, 1999). An example of the importance of different stakeholders is the importance of employees. Some Western European countries seem to attach more value to their employees than others, which can be seen in employee representation among the corporate boards. For instance, in some countries (e.g.

Germany), employees have the right to be represented on the board according to their respective corporate governance codes (see for instance Gregory & Simmelkjaer, 2002).

Employees are citizens (and most often nationals) of the country in which they are employed and so the influence of employee representation might adversely influence board internationalization.

Another example of how board composition can be influenced is the use of nomination committees. The nomination committee assists the board by leading the process for board appointments and by making recommendations concerning suitable candidates. This means that this committee can exert an influence on board composition. For instance, in studying nomination committees, Ruigrok et al. (2006) found that the existence of a nomination committee was associated with a higher degree of nationality diversity and that nomination committees which contained foreign board members were positively associated with an increase in the number of foreign board members. This indicates that the nomination

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committee could play an important role in the process of board internationalization and is therefore an important aspect of corporate governance.

There exists little research concerning the direct effect of corporate governance on board internationalization. This thesis attempts to shed light on this particular under explored relationship.

1.1 Problem statement

Previous research in the field of international management has focused on the characteristics of the CEO; see for instance Datta, Guthrie & Rajagopalan (2002). Another stream of research in the field of international management is known as the ‘upper echelon’ theory, as first put forward by Hambrick & Mason (1984). This line of research focuses on the

“dominant coalition of the organization, in particular its top managers” (Hambrick & Mason, 1984: 193). This line of research shifted the focus from the individual leader to the management team as a whole.

Since then, a number of studies have been focusing on TMTs. An example of one such a study is the research by Glunk, Heijltjes & Olie (2001), in which the authors focus on the characteristics of TMT members in three European countries. In a follow-up study (Heijltjes, Olie & Glunk, 2003); the authors researched the internationalization of TMTs in Sweden and The Netherlands. For this research, the authors focused solely on the executive boards of the two respective countries.

A more recent and comprehensive study by van Veen & Marsman (2007) focuses on how open and international executive boards in Western Europe are. The authors try to explain this by focusing on a number of country specific features. For this research, the authors studied the executive boards of 363 companies in fifteen European countries. For a list of countries, see Van Veen and Marsman (2007: 38). This study has also focused solely on the executive boards. As can be seen, first, these studies have not explained board internationalization from a corporate governance perspective and second, no attention has been given to the non- executive directors, or the members of the supervisory board.

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A study which has focused on the individuals on the supervisory board is a recent study by Staples (2007). The author focuses on board globalization in translational corporations from 20 different countries between 1993 – 2005¹. For his study, Staples (2007) only focused on the supervisory board (this pertains only to the European companies, since many European companies have a dual board structure).

As can be seen from the above, there appears to be a lack of research focusing on the entire corporate board, i.e. the inclusion of both the executive board (or the executive part of the board) and the supervisory board (or the non-executive part of the board). The aim of this thesis is to find out if there are differences in the internationalization of executive and supervisory boards in large Western European MNEs. It will focus on differences in corporate governance systems between the respective countries to ascertain if these differences contribute to differences in the internationalization of executive and supervisory boards among the respective countries. To be more specific, this thesis will answer the following main question: “How international are the Executive and Supervisory Boards in Western Europe?”. To answer this question, data from large listed MNEs located in the following countries will be collected and analyzed: Belgium, Denmark, France, Germany, Ireland, Italy, Luxembourg, The Netherlands, Sweden and the United Kingdom. The second question which this thesis will address is: “Can the differences in internationalization between these countries be explained by country specific corporate governance features?”.

1 For a list of countries, see Staples (2007: 27).

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2. LITERATURE REVIEW

International management research has focused on a number of different perspectives.

Important perspectives, which have been the focus of research in this matter, are leadership (in its broadest sense), the CEO and the corporate board. Research on leadership has focused, for instance, on organizational performance (Pfeffer, 1977), leadership concepts and styles (Bryman, 1996; Brodbeck et al., 2000) and boardroom leadership (Conger & Riggio, 2007).

For instance, Brodbeck et al. (2000) studied the concept of leadership among a number of European countries. The authors found that cultural differences have an influence on the concept of leadership. Specifically, they found that clusters of European countries, which share similar cultural norms and values, also share similar concepts of leadership. This

‘leadership perspective’ had a broad focus and studied leadership in general.

Research concerning CEOs of large multinationals entails a more narrow view. The CEO is the sole interest of such studies, focusing for instance on career paths (Piercy & Forbes, 1991;

Datta, Guthrie & Rajagopalan, 2002), charismatic qualities (Khurana, 2002) and the attribution of firm actions and performance to that firm’s CEO. Since organizational leadership is a shared activity (Glunk et al., 2001), the focus should not be on the individual leader or CEO alone, but on the dominant coalition of the organization, as put forward in the

‘upper echelons perspective’ by Hambrick & Mason (1984). These authors argue that organizational outcomes, strategic choices and performance levels, can be partially explained by focusing on the dominant coalition of the organization, in particularly its top managers.

According to Hambrick & Mason, “organizational outcomes … are viewed as reflections of the values and cognitive bases of powerful actors in the organization” (1984: 193).

These powerful actors or the dominant coalition to which Hambrick & Mason (1984) refer are the executives and non-executives comprising the corporate board, although it should be noted that Hambrick & Mason (1984) centered their attention on top managers (executives) in particular. The values and cognitive bases are psychological aspects and are difficult to observe directly. To study these psychological aspects, Hambrick & Mason (1984) focused on observable characteristics, such as age, tenure, functional background, education, socioeconomic roots and financial position.

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Keeping in line with this ‘upper echelon perspective’, focusing on the different nationalities among members of corporate boards is an interesting avenue of research. Hambrick & Mason (1984) did not place an emphasis on nationality. However, next to factors such as personal or professional experience, nationality, to a certain extent, affects the values and cognitive bases of an individual (Hambrick, Davison, Snell & Snow, 1998). Therefore, studying nationality extends the ‘upper echelon perspective’ and therefore might help to explain organizational outcomes. Another reason for studying the nationality of the dominant coalition is that having different nationalities in a team can provide a variety of view points on a number of organizational problems. According to Distefano & Maznevski (2000) multicultural teams have a great potential for creating value. They can create innovative approaches to complex organizational problems and develop new ways of implementing solutions. Since MNEs have to deal with complex issues such as differences in national interests, government policies and national tastes, multicultural teams can facilitate resolving such issues.

2.1 Previous research on the internationalization of corporate boards²

Research concerning the internationalization of corporate boards has focused on three different perspectives; the executive board or TMT, the supervisory board or the entire corporate board.

2.1.1 Executive board or TMT

In their study, Glunk et al. (2001) studied the characteristics and functioning of TMTs in Great Britain, The Netherlands and Denmark. Some of the characteristics the authors focused on were: TMT size, member age, tenure, education and gender. The authors found that significant differences exist among TMTs of these three countries. Olie & Van Iterson (2003) also studied TMTs. According to the authors, TMTs should be studied in their national context. This is because a society’s value system and institutions have an influence on the composition, organization and functioning of top management. The authors formulate a number of propositions, but do not perform empirical research. Two studies, which do perform empirical research are Heijltjes et al. (2003) and Van Veen & Marsman (2007).

Heijltjes et al. (2003) studied the internationalization of Dutch and Swedish TMTs for 1999.

The authors conducted a longitudinal analysis concerning the Netherlands for 1990 – 1999.

2 More information concerning corporate boards and the differences between countries is presented in the third chapter.

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The authors found that in 1999, the internationalization of Dutch and Swedish management boards was rather limited (11% of Dutch board members were foreigners, while 10% of Swedish board members were foreigners). Van Veen & Marsman (2007) conducted a more recent study, which focuses on the internationalization of TMTs³. These authors found that the internationalization of TMTs was still rather limited in 2005. Only 14.9% of the TMT positions were being held by foreigners.

2.1.2 Supervisory board

Staples (2007) has researched the globalization of corporate boards in the US, Europe and Asia. I.e. the author studied how international these boards are. The author replicated an earlier study⁴, which studied board globalization in 80 of the world’s largest TNCs. The author found that there has been a significant increase in board globalization during the last decade. In 1993 36.3% of the companies under review had at least one non-national board member, compared to 75% in 2005.

2.1.3 Entire corporate board

Research focusing on the internationalization of the entire corporate board, i.e. executives and non-executives is, as mentioned before, scarce. Two very recent studies which do just that are Palmer & Varner (2007) and Van Veen & Elbertsen (2007). Palmer & Varner (2007) studied the national composition and the international experience of boards of directors (non- executives) and executives. Their sample is based upon the largest multinational corporations based in the US, Europe and Asia. The goal of their study was to find an answer to how international the boards of directors and executives of US, European and East Asian MNCs are. The authors found that European MNCs have relatively more personnel with international experience among both the board of directors and amongst the executives. When comparing the international experience of the executives to the directors, the authors found that in both the US and Europe, executives were more likely to have international experience than directors. It must be noted that the research by Palmer & Varner (2007) is an exploratory study, the authors do not explain the reasons for differences in board internationalization.

3 The following countries are part of this study: Austria, Belgium, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, The Netherlands, Portugal, Spain, Sweden and United Kingdom. For more

information see Van Veen & Marsman (2007).

4 Gillies & Dickinson (1999).

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Another study, which focuses on internationalization of the entire corporate board is Van Veen & Elbertsen (2007). These authors studied nationality diversity in corporate boards of large multinationals, which are headquartered in Germany, The Netherlands and The United Kingdom. Each of these countries has its own specific governance regime, offering different opportunities for the recruitment of foreign board members. Among other things, the authors found that there are significant differences concerning the nationality diversity among corporate boards between the three countries. The Netherlands have the largest percentage of foreigners among their corporate boards, i.e. 44.3%. The UK ranks second with 36.7% of foreigners among their corporate boards, while the percentage of foreigners among German corporate boards is a mere 13.3%. The authors conclude that the specific features of the respective governance regimes have a powerful effect on the nationality diversity. Research concerning board internationalization from a corporate governance perspective is quit novel.

Van Veen & Elbertsen (2007) are two of the few authors who studied board internationalization from this perspective. It will be interesting to see if board internationalization can be explained from a corporate governance perspective taking into account a larger set of countries.

There are of course many more factors which can influence board internationalization. On country level, factors such as geographic size (e.g. availability of qualified personnel) or cultural aspects (e.g. language similarity) might influence board internationalization. On company level, one might think of factors such as mergers and acquisitions, international operations or quantitative data concerning ownership structure. The choice for this thesis to focus on one aspect, i.e. corporate governance, has been made because of the novel concept of studying board internationalization from this perspective. This thesis can be seen as being among one of the first to attempt to explain board internationalization from such a perspective. The next section will go into the concept of corporate governance.

2.2 Corporate governance

This section will elaborate on the concept of corporate governance, by providing a definition of corporate governance. This will be followed by a short contemporary history and the origins of corporate governance (codes).

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2.2.1 Defining corporate governance

The term corporate governance raises some ambiguity as to what it is. First of all, the term has two components: corporate, which refers to corporations; and governance, which is the act or manner of governing. It might be the second component which leads to some confusion, especially for English-speakers, because of its allusion to government. This implied reference to government brings a public element into something that is considered private (CEPS, 1995). Second, there does not seem to be a single definition or description as to what corporate governance is. The Cadbury Committee (1992) defines corporate governance as

"the system by which companies are directed and controlled". This definition contains an internal (directed) and an external (controlled) component. A broader definition is provided by The Organization for Economic Cooperation and Development (OECD). The OECD defines corporate governance as follows: "Corporate governance involves a set of relationships between a company's management, its board, its shareholders, and other stakeholders. Corporate governance also provides the structure through which the objectives of the company are set, and the means of attaining those objectives and monitoring performance are determined. Good corporate governance should provide proper incentives for the board and management to pursue objectives that are in the interests of the company and its shareholders and should facilitate effective monitoring." (OECD, 2004a: 11).

Corporate governance practices differ around the world. These practices are influenced by a multitude of country specific institutions (Aguilera & Jackson, 2003). Mintz (2005) states:

“corporate governance systems develop as a result of cultural underpinnings, legal structures and different forms of financing business” (Mintz, 2005: 582). The two chapters that follow will describe some of the key differences in corporate governance practices and the possible consequences that these differences can have on board internationalization.

2.2.2 Contemporary history of corporate governance

Corporate governance is a well discussed and well-known topic nowadays. It is the basis of accountability in companies, institutions and enterprises, balancing corporate economic and social goals on the one hand with community and individual aspirations on the other. A proper governance framework is of fundamental importance in strengthening the performance of economies, in particular those in development and transition, and helping to discourage fraud and mismanagement (European Corporate Governance Institute (ECGI), 2007).

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The UK has played an influential role concerning corporate governance reform globally. A number of financial scandals and collapses, e.g. BCCI and Maxwell, and a perceived general lack of confidence concerning financial reporting of many companies led to the establishment of a committee⁵ in 1991 to address these problems. The committee published a report in December 1992, which became widely known as ‘the Cadbury Report’ and contained a number of recommendations⁶. This resulted in ‘the Cadbury Code’, to which all companies listed on the London Stock Exchange should comply on the basis of a ‘comply or explain’

mechanism. This means that a company should comply with the code and if it cannot comply with the code, it should explain why it is unable to do so (Mallin, 2004). Soon, the influence of the UK spread to France, The Netherlands and other European countries; e.g. Germany, being one of the last to follow this trend, adopted its own corporate code in 2002 (Radenkovic-Jocić, 2006).

Each of the European countries, which are part of this study has its own corporate governance features, which are reflected in their respective corporate governance codes. Weimer & Pape (1999) among others have classified these countries into groups for which a more or less resembling corporate governance system can be identified. One of the features the authors mention is the differences in the importance of stock markets in the national economy.

Companies in countries in which stock markets play an important role might have a more international board when compared to companies in countries where stock markets play a less important role. The simple logic might be that it is relatively easy for foreigners to acquire shares and thus exert an influence on board composition through these shares. The next chapter explores these different corporate governance systems and their respective features and will lay the foundation for making assumptions regarding board internationalization., which will be done in the fourth chapter.

5 The Committee on the Financial Aspects of Corporate Governance. It was established in 1991 and was chaired by Sir Adrian Cadbury.

6 See Cadbury (1992).

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3. CORPORATE GOVERNANCE SYSTEMS

This chapter will describe the various corporate governance systems and their respective features, which can be found in Western Europe.

National differences in corporate governance systems are usually conceptualized as two dichotomous models, i.e.: the Anglo-American⁷ and the Continental European model⁸ (Moerland, 1995a, b; Hall & Soskice, 2001; Aguilera & Jackson, 2003; OECD, 2004a;

Aguilera & Cuervo-Cazurra, 2004; Becht, Bolton & Röell, 2005). Some of the characteristics of the Anglo-American model are short term financing through equity, widely dispersed ownership, active markets for corporate control and a flexible labor market, while characteristics of the Continental European model are long term financing through debt because of the central role of banks, large-block ownership, weak markets for corporate control and rigid labor markets. While it is a simple and intuitive approach to conceptualize corporate governance systems as two dichotomous models, there is always the risk of oversimplifying matters. Especially when analyzing corporate governance systems in Western Europe, this approach is not suited.

An approach, which is suited for studying corporate governance in a Western European context is described by authors such as de Jong (1991, 1995), Moerland (1995a, b), Gelauff &

Den Broeder (1996) and Weimer & Pape (1999) among others. These authors have classified the relatively rich and industrialized countries into three groups, for which more or less resembling corporate governance systems can be identified. The following groups are identified: Anglo-Saxon countries (the USA, the UK, Canada and Australia), Germanic countries (Germany, the Netherlands, Switzerland, Sweden, Austria, Denmark, Norway and Finland) and Latin countries (France, Italy, Spain and Belgium). Some authors (such as Moerland, 1995a, b and Weimer & Pape, 1999) have classified a fourth group which consists of only one country, viz. Japan (which is considered an isolate). Table 1 displays the four country groups and their characteristic corporate governance features.

[INSERT TABLE 1 ABOUT HERE]

7 This model is also known as: the outsider, common law, market-oriented, share holder-centred or liberal model.

8 This model is also known as: the insider, civil law, block holder, bank-oriented, network-oriented, stakeholder- centred, coordinated or Rhineland model.

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Since this thesis is interested in the international composition of the executive and supervisory boards in Western Europe, a description of the different board structures is at place. In some countries the executive as well as the non-executive board members are seated on the same board, i.e. the board of directors. This type of board structure is known as a one-tier board structure, an example of a country applying this type of board structure is the United Kingdom. A different type of board structure is the two-tier board structure. In this board structure, the executive and non-executive board members are separated. The executive directors are seated on the executive board, while the non-executive directors are seated on the supervisory board. An example of a country applying a two-tier board structure is Germany.

The remainder of this chapter is therefore as follows; the upcoming part will describe the different board structures and their characteristics. This will be followed by a description of the various corporate governance systems, which can be found in Western Europe.

Classifying the Western European countries as being part of a corporate governance system with specific features can be helpful in inferring how international Western European boards are. These features include differences in the importance of shareholders, the importance of stock markets in the national economy and differences in ownership concentration. For instance, companies in countries with a high degree of ownership concentration might have a less international board when compared to companies in countries with a low degree of ownership concentration. This is because large owners can dominate the entire group of shareholders and make sure that is difficult for foreigners to develop powerful positions so they will have difficulties when it comes to influencing board composition. This will be described in the fourth chapter.

3.1 Boards structures in Western Europe

Board structures differ among Western European countries. Most researchers (e.g. Weimer &

Pape, 1999; Maassen, 2002; Mallin, 2004) distinguish two types of board structures: one- and two-tier structures⁹. Countries classified as being Anglo-Saxon apply a one-tier structure, Germanic countries apply a two tier structure and Latin countries, in general, apply a one-tier structure according to Weimer & Pape (1999). There are however countries, which do not

9 These structures are also known as unitary and dual board structures.

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apply a fully one-tier or a fully two-tier structure. Heidrick & Struggles (2005) distinguish a third type of board structure, which falls somewhere in between the two previously mentioned types of board structures. An example of a country, which can be categorized as being somewhere in between the one-tier and the two-tier structure is Sweden¹⁰. Some researchers categorize Sweden as having a one-tier board structure (Gregory & Simmelkjaer, 2002), while other classify it as having a two-tier board structure (Heijltjes, et al., 2003).

For the purpose of this thesis, Sweden will be categorized as having a two-tier board structure.

This is because this thesis focuses on country groups, as proposed by researchers such as de Jong (1991, 1995), Moerland (1995a, b), Gelauff & Den Broeder (1996) and Weimer & Pape (1999), which share a number of similar characteristic corporate governance features, of which the board structure is but one feature.

3.1.1 One-tier boards

A one-tier board structure is characterized by a single board (the board of directors), in which both executive and non-executive directors are seated. Classic examples of countries which apply a one-tier board system are the UK and the US. The executive and non-executive directors work together to achieve the same ends and the board as a whole is responsible for all the aspects of the company’s activities. The directors are elected by the shareholders at the company’s general meeting, however, the non-executive directors appoint the executive directors (Mallin, 2004).

Executive directors perform management functions, while non-executive directors perform monitoring functions. In a one-tier board structure, there is no clear separation between the functions of monitoring and management, as in the two-tier board structure, since the directors are seated on the same board. The main advantages of a one-tier board system are closer relationships and a better information flow compared to a two-tier structure.

3.1.2 Two-tier boards

Two-tier boards structures are comprised of a supervisory board and an executive board of management. A classical example of a country applying a two-tier board structure is Germany. Unlike the one-tier board structure, two-tier board structures have a clear separation between the functions of monitoring and management. The supervisory board, which consists of non-executive directors, monitors the management of the company, while the executive or

10 See the Swedish Code of Corporate Governance (2004).

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management board is responsible for managing the day to day business. Some countries (such as Germany) take into account a broad set of constituents, i.e. stakeholders. This characteristic feature comes to the fore when looking at the composition of the supervisory board members, because employees may elect some of its members¹¹. The members of the supervisory board (other than the employee members) are elected by the shareholders and the supervisory board in turn appoints the members of the management board (Mallin, 2004). As can be seen from the above the two different board structures differ in the way they take into account their constituents. In one-tier structures the emphasis is on shareholders, while in two-tier structures the emphasis is on wider set of stakeholders (e.g. employees, government, environmental groups etc.)¹².

3.2 Corporate governance systems in Western Europe

As explained at the beginning of this chapter, Western European countries can be categorized into three groups. These groups share a number of similar characteristic corporate governance features. Due to these similar features the countries in these groups can be identified to have a more or less resembling corporate governance system, although (some) individual differences between the countries within the same group will remain. This section elaborates on these three country groups.

3.2.1 Anglo-Saxon country class

The Anglo-Saxon country class consists of the USA, the UK, Canada and Australia (de Jong 1991; Moerland, 1995a, b; Gelauff & Den Broeder, 1996 and Weimer & Pape, 1999). As can be seen from the above, Ireland is not mentioned as being part of this group of countries (this is because the above mentioned authors do not refer to Ireland literally). However, de Jong (1995) does classify Ireland as being Anglo-Saxon. Therefore, this thesis includes Ireland in the Anglo-Saxon country class.

11 See section 3.3.2 ‘Germanic country class’ for more information on the role of employees in the supervisory board.

12 This thesis will only focus on employees. The reason for this is that, in certain countries, employees have the right to be represented on the board. This makes the effect these constituents can have on board

internationalization directly visible.

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3.2.1.1 The United Kingdom and Ireland

The UK and Ireland, which are part of the Anglo-Saxon country group, both apply a one-tier board system. The executive, as well as the non-executive directors are elected by the shareholders at the annual general meeting. The non-executive directors have a prime role in appointing and where necessary removing executive directors, although it is the nomination committee who recommends suitable candidates (the nomination committee makes recommendations concerning both executive as well as non-executive directors)¹³. The directors together (i.e. both the executive as well as non-executive) appoint the CEO of the firm (Maassen, 2002). One of the marked features of this type of governance system is the role of shareholders. The role of shareholders is strongly institutionalized in these countries and by law, shareholders are strongly protected. As can be expected, stock markets play an important role in Anglo-Saxon countries compared to the Germanic and the Latin country countries. As can be seen from table 1, Anglo-Saxon countries focus on the shareholder as being the salient stakeholder. This stands in sharp contrast to, for instance, some countries in the Germanic country group. These countries take into account a wider group of constituents such as employees, which may have representation on the supervisory board. Another difference between the country groups, which follows from the importance of the national stock markets, is related to ownership structures, i.e. the concentration of ownership. In general, ownership concentration is low amongst firms in Anglo-Saxon countries (i.e. firms are widely held) compared to Germanic and especially Latin countries (Weimer & Pape, 1999).

3.2.2 Germanic country class

The group of Germanic countries consists of Germany, the Netherlands, Switzerland, Sweden, Austria, Denmark, Norway and Finland (de Jong 1991; Moerland, 1995a, b; Gelauff & Den Broeder, 1996 and Weimer & Pape, 1999). Luxembourg is not included in this list, however, de Jong (1995) classifies Luxembourg as belonging to the Germanic country group.

Luxembourg is therefore classified as Germanic for the purpose of this thesis.

In Germanic countries, the two-tier board structure is predominant. As opposed to the Anglo- Saxon country group, which focuses on shareholders, Germanic countries focus on a wider

13 This holds true for both the UK (see the Combined Code, 2003) as well as Ireland (see the Irish Association of Investment Managers, 1999), which endorses the UK Combined Code.

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group of constituents. This feature is reflected in the fact that in some countries employees may have representation on the supervisory board. There are however some differences in characteristics between the countries in this group, compared to the Anglo-Saxon country group, which warrants a short description per country.

3.2.2.1 Denmark

In Denmark, the shareholders elect the board of directors (bestyrelsen). The board of directors then in turn appoint a managing director or a management board made up of several managers (direktion). Denmark can not be categorized as having a full one-tier or two-tier structure, instead it seems to fall somewhere in between. However, the Danish board system is best described as two-tier according to the Danish Commerce and Companies Agency (Gregory &

Simmelkjaer, 2002). Therefore, Denmark is classified as having a two-tier board structure, which is in line with the classification by researchers such as Weimer & Pape (1999).

Employees in large firms14 have the right to be represented on the board of directors. At least two members are selected by the employees and these members have the same rights and duties as those board members elected by the shareholders (Gregory & Simmelkjaer, 2002).

According to the Danish Corporate Governance Code (2003), the opinions in Denmark over the expediency of using supervisory board committees. On the basis of the typical size of the supervisory board of a Danish listed company, it is generally recommended that no supervisory board committees be used.

3.2.2.2 Germany

The German board system can be classified as two-tier and consists of a supervisory board (Aufsichtsrat) and a management board (Vorstand), thus effectively providing a complete separation between management and the supervision of management (Weimer & Pape, 1999).

The supervisory board members (non-executive directors) are selected by the shareholders and the employees. The supervisory board in turn appoints the members of the management board (executives). Employees are considered stakeholders in the firm and play an important role in Germany, which is reflected in the significant voice they have to elect he supervisory board. By law, employees of companies of a certain size have the right to be represented on

14 When a corporation has employed on average more than 35 workers for three years, the employees gain the right to elect at least two members of the board of directors (Gregory & Simmelkjaer, 2002).

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the supervisory board. In large firms¹⁵, employees may select one-half of the supervisory board. Involving employees in decision-making is called co-determination in Germany (Gregory & Simmelkjaer, 2002). According to the Cromme Code (2003), 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.

3.2.2.3 The Netherlands

The Dutch board system is classified as being two-tier. In general, Dutch companies have a management board (Raad van Bestuur), made up of senior executives, and an independent supervisory board (Raad van Commissarissen)¹⁶. One of the idiosyncratic features of Dutch governance was the system of co-optation, which was a key difference compared to the rest of the EU Member States (Gregory & Simmelkjaer, 2002). Co-optation applied to firms which operated according to the structure regime. Co-optation entailed that the supervisory board members were selected by the supervisory board (i.e. self-selected) instead of being selected directly by the shareholders. This limited the powers of shareholders through the general meeting (Gelauff & Den Broeder, 1996). The supervisory board (under the structure regime) is responsible for appointing the members of the management board (Gregory & Simmelkjaer, 2002). Employees in the Netherlands are not represented on the supervisory board (Gelauff &

Den Broeder, 1996), however they do provide an advisory role concerning important corporate decisions. Companies with fifty or more employees must have a works council. The works council has the right to advise on the appointment of supervisory board members (Gregory & Simmelkjaer, 2002).

As can be seen, shareholders had little power to influence the composition of the supervisory board. This has all been changed by the implementation of a new corporate governance code (Tabaksblat Code, 2003). The new code advocates the consent of shareholders when new management and supervisory board members are elected, thus giving more power to the shareholders. Concerning the formation of a nomination committee, the Tabaksblat Code

15 In companies with between 500 and 2000 employees, employees select one-third of the supervisory board. In companies with 2000 or more employees, employees select one-half of the supervisory board (Gregory &

Simmelkjaer, 2002).

16 There are three legal regimes that dictate the governance structure of a Dutch company: the common regime, the structure regime and the mitigated regime. In general, the rules of the structure regime apply to large

companies, which meet certain criteria regarding the number of employees and the amount of subscribed capital.

The structure regime mandates the formation of a supervisory board (Gregory & Simmelkjaer, 2002).

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(2003) states that if the supervisory board consists of more than four members, it shall appoint a selection and appointment committee from among its members.

3.2.2.4 Sweden

As mentioned before, the Swedish system falls somewhere in between the one and two-tier structure, but will be classified as having a two-tier structure for the purpose of this thesis¹⁷. Swedish companies must have a board of directors, the board consists primarily of non- executive directors. Other members include the managing director and employee representatives. The non-executives are elected by the shareholder at the shareholders’

meeting. The board of directors is in turn responsible for selecting the managing director. A managing director is mandatory in Swedish companies. The managing director is responsible for managing the day-to-day business but, unlike the two-tier board model, the managing director is subordinate to the board. Employees have the right to be represented on the board.

In large companies, employees have the right to appoint three representatives and two deputies¹⁸ (Swedish Code of Corporate Governance, 2005). Furthermore, the Swedish Code (2005) states that a company is to have a nomination committee that represents the company’s shareholders.

3.2.2.5 Luxembourg

Every EU member state has issued at least one corporate governance code, with the exception of two states, i.e. Austria and Luxembourg (Gregory & Simmelkjaer, 2002). This makes classifying Luxembourg either as a one-tier or two-tier board system difficult, moreover, there exists little research on the corporate governance topic as a whole concerning Luxembourg.

There is one researcher, de Jong (1995), who classifies Luxembourg as belonging to the Germanic country group and following the reasoning of Weimer & Pape (1999) one would say that Luxembourg applies a two-tier board structure. However, Gregory & Simmelkjaer (2002) classify Luxembourg as applying a one-tier board structure. This is probably the case, because Luxembourg falls somewhere in between the one and two-tier structure, as do Denmark and Sweden. Since in 2005, Luxembourg had not issued any corporate governance code¹⁹, companies registered in Luxembourg had to comply with the company law of 10

17 See section 3.1 ‘Boards structures in Western Europe’.

18 This is the case in companies with a minimum of 1000 employees, in companies with at least 25 employees, employees may appoint two representatives and two deputy members (Swedish Code of Corporate Governance, 2005).

19 Luxembourg issued its first corporate governance code in 2006.

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august 1915. The description concerning the board structure of Luxembourg is therefore based on this law. Employees in Luxembourg have the right to be represented in public companies, which have more than 1000 employees. The board of directors must consist of at least nine members and employees are entitled to select one-third (Gregory & Simmelkjaer, 2002).

As can be seen from the above, one of the main differences between the Germanic and the Anglo-Saxon countries is employee representation. While this feature is absent in Anglo- Saxon countries, it is one of the main features of Germanic countries, albeit in different degrees. To operationalize employee representation, the annual reports of the companies which are part of this study have been consulted. Where board members were registered as being employee representatives according to the annual reports, they have been registered as such in the database. More information concerning the data collection process can be found in the fifth chapter. Another common feature of the Germanic countries is the ownership structure. While ownership concentration is low in Anglo American countries, ownership concentration in Germanic countries is moderate to high. Another difference between the two country groups is that stock markets plays a less important role in the economies of the Germanic countries than they do in the economies of Anglo-Saxon countries²⁰.

3.2.3 Latin country class

The Latin country class consists of France, Italy, Spain and Belgium (de Jong 1991;

Moerland, 1995a, b; Gelauff & Den Broeder, 1996 and Weimer & Pape, 1999). In general, the Latin countries can be seen to apply a one-tier board structure²¹ (Gregory & Simmelkjaer, 2002), however, in Italy a board of auditors²² is also required (Mallin, 2004). Each of the Latin countries has its own specific corporate governance features. A short description of these features per country are presented below.

3.2.3.1 France

The one-tier structure was the only structure that was available in France prior to 1966.

However, changes to the legislation in 1966 allowed companies to choose a two-tier structure.

20 Table 1, which can be found at the beginning of the third chapter, lists the various differences between the country groups.

21 In France, the type of board structure is optional.

22 Italian companies are required to have a board of statutory auditors to oversee the accounting and financial reporting functions. Members of the board of statutory auditors are not to be members of the board of directors (Gregory & Simmelkjaer, 2002).

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Most French firms apply a one-tier board structure, nevertheless, the option exists to apply a two-tier board structure (Gregory & Simmelkjaer, 2002; Mallin, 2004).

In a one-tier structure, the shareholders elect the board of directors (conseil d’administration), however, it’s usually the board itself who proposes board nominees. The board as a whole then appoints a president, the board also has the authority to appoint one or several general managers, who assist the president in the day to day management.

In a two-tier board structure the shareholders elect the supervisory board (conseil de surveillance). The supervisory board members then in turn appoints the management board (directoire). Employees in France do not have the same rights concerning representation as employees in some of the Germanic countries. French workers may form a works council and representatives of this council may attend board meetings in an advisory capacity. If employees hold at least three percent of the company’s share, one or more employee shareholder representatives (which are nominated by the employee shareholders) must be appointed to the board (Gregory & Simmelkjaer, 2002). According to the French Corporate Governance Code (2003), each board should appoint from among its members a committee for the appointment or nomination of directors and corporate officers.

3.2.3.2 Italy

Italy has a one-tier board system, Italian firms are governed by a board of directors (consiglio d’amministrazione). By law, Italian firms are also required to have a separate board of auditors, of which its members are not to be members of the board of directors. As is the case in other one-tier countries (e.g. the UK and Ireland), the Italian board of directors is responsible for appointing and dismissing executive managers. However, the shareholders elect the board of directors at the general meeting. According to the Italian code of corporate governance (2002), companies should comply with a transparent selection procedure regarding nominees for the board of directors. Concerning the formation of a nomination committee, the Italian Code (2002) states that the Committee has envisaged the possibility of listed companies to establish a nomination committee as to propose candidates for election, indicating that it is not mandatory to establish such a committee. How useful this Italian variant of the nomination committee is in ensuring a transparent selection procedure remains to be seen. For instance, the OECD (2004b) states that in Italy ”a nominee’s name and qualifications are not even included in [the] proxy documents” (2004b: 99).

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3.2.3.3 Belgium

The one-tier structure is the predominant board structure in Belgium. Belgian firms are governed by a board of directors, who may delegate the day-to-day management of the company to one or more executive directors. Often, an executive committee or management committee (comité de direction) is appointed by the board. This committee consists of executive directors and may also consist of managers who are not board members. The committee as a whole is responsible for the day-to-day management of the company.

According to the Belgian Corporate Governance Code (2004), the board should set up a nomination committee. This committee should make recommendations to the board regarding the appointment of directors. The board of directors then makes proposals to the general meeting of shareholders for the appointment or re-election of certain directors, i.e. the company’s shareholders elect the board of directors. The board of directors is in turn responsible for the hiring and dismissal of managers, which are entrusted with the day-to-day management (Gregory & Simmelkjaer, 2002).

As can be seen from the above, the Latin countries apply a one-tier board structure in general, with the exception of France where the type of board structure is optional. Another feature of the Latin countries and a noticeable difference when compared to the Germanic countries and especially the Anglo-Saxon countries is the dense ownership structure. From these three country categories, the Latin countries have the highest ownership concentration and the importance of stock markets is the lowest (Weimer & Pape, 1999). This is reflected in the stakeholders of firms in the Latin countries. Financial holdings, the government and families are salient stakeholders in Latin country firms (de Jong, 1995; Weimer & Pape, 1999). Hostile takeovers occur infrequently when compared to the Anglo-Saxon countries. This is because ownership and control are not as separated as in the Anglo-Saxon countries due to the fact that ownership in the Latin countries is strongly vested in family control among others (de Jong, 1995).

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4. INTERNATIONALIZATION OF CORPORATE BOARDS

The above mentioned description of the three corporate governance systems and their specific features makes it possible to make assumptions regarding the internationalization of corporate boards. Each of the corporate governance systems offers different opportunities for foreigners to enter the corporate boards. This section will describe the different opportunities.

However, this raises the question that although there may be different opportunities for foreigners to enter the boards, who is to say that they will do so? If a foreigner acquires sufficient shares to influence board composition, who is to say that this foreigner will choose a representative who shares the same nationality as him or her? A foreigner might also choose someone with a different nationality to represent him or her. The author of this thesis argues that if there is a list of board candidates who are all equally qualified to serve on the board and the only difference between the candidates is their nationality, that a shareholder (or board member) will choose the candidate who is most similar to him or her, i.e. someone who has the same nationality. This can be seen as an issue of trust. When the candidates share the same qualities and the only difference is their nationality, the choice is then which of these candidates the shareholder will trust the most to do a good job. When the issue of trust arises the shareholder will be inclined to trust the candidate who is in some important aspect similar to him or her, “feelings toward strangers are positively affected by self-other similarity”

(Chiasson & Charbonneau, 1996: 234). In short, people will favor people who are most similar to them. This is known as the similarity-attraction paradigm (Byrne, 1971). It argues that people tend to be attracted to and influenced by those whom they perceive to be similar to them. This rationale will be used implicitly in this section.

4.1 Anglo-Saxon countries

Compared to the Germanic and the Latin corporate governance system, features of the Anglo- Saxon corporate governance system are: the important role of shareholders, the prominent role of stock markets in the national economy and low ownership concentration. These features indicate that prospective shareholders can relatively easy acquire shares and that, as a result of this, firms in Anglo-Saxon countries have many different owners. What does this mean for the internationalization of corporate boards in the Anglo-Saxon countries?