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Insider vs outsider board types

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PHOTO | SHUTTERSTOCK

An old man crashed his shopping cart into that of a much younger fellow while both were shopping. The elderly man explained apologetically that he had lost track of his wife and was preoccupied searching for her.

His new acquaintance said by coincidence his wife had also wandered off and suggested that it might be more efficient if they jointly looked for the two women.

Agreeing, the older man asked his new companion what his wife looked like. 'She’s a gorgeous curvy young thing,' the fellow answered, ‘and she’s wearing tight white shorts. How about yours?' The senior citizen wasted no words: 'Forget my wife, we’ll look for yours.'

Last week, I looked into Germany, which has an alternative governance model to what we are accustomed to in this neck of the woods. In a 1992 corporate governance paper authored by Sheridan and Kendall, they defined the two global corporate governance systems as "Insider Systems" and "Outsider Systems".

The latter, better known as the Anglo- Saxon system and to which Kenya subscribes, has a separation between ownership and daily control and one where there is little incentive for outside investors to participate in corporate control.

Consequently, they add, there is a climate where costly and antagonistic hostile takeovers are not unusual and, in addition, there is low commitment of outside investors to the long-term financial strategies of the organisation.

Finally, the authors also note, quite obviously, that the interests of stakeholders other than shareholders, are not well represented.

Sheridan and Kendall then go ahead to contrast this with what they refer to as Insider Systems typically found in continental Europe and Japan. These systems tend to have a more concentrated ownership structure with a strong association between ownership and control of the organisation.

These systems tend to have some level of control enforced by related parties such as banks, partners and employees with interest of other stakeholders represented on the board.

What’s interesting about these systems is that there is an absence of hostile takeovers, in fact, in their words there is an aversion to such.

This makes for very different approaches by the boards of directors in the two systems. Other than managing specifically for shareholder value in the Outsider Anglo Saxon system, Gedajlovic, another corporate governance pundit, back in 1993 observed that the Anglo Saxonic director tends to look out for the fiduciary interests of the shareholder.

The dreaded Damoclean sword hanging over director heads is always owing a duty of care and loyalty to the company. This company is ultimately owned by the shareholder so guess who the director is actually serving.

In the Insider System, Gedajlovic observes that the director is looking out for the fiduciary interest of a variety of claimants. Take the German two-tier system, established in 1870, as a case in point. As highlighted last week, the supervisory board is the apex organ and has representatives of the shareholder and the employees.

Their laws require that at least a third of the supervisory board members be employee representatives where there are 500 or less employees and this moves to at least 50 percent if there are more than 2,000 employees.

Members of the supervisory board are the ones who appoint and monitor members of the management board, the latter of which is made up of internal senior management only. Members of both entities are not permitted to sit on either board.

As most German companies traditionally sourced investment capital from the banks rather than capital markets, it is fairly common for bank representatives to sit on supervisory boards either representing themselves or, in some cases, representing shareholders.

So from a stakeholder perspective, the German system is as attractive a model as the gorgeous, young and curvaceous wife.

Employee representatives are involved in selecting and monitoring members of the management board, their ultimate bosses, in what must be a very odd two-step polka dance of the supervisor selecting the supervisee who manages part of the supervisors.

That aside, there is much literature on whether this two-tier system of co-determination improves or diminishes company performance.

Some research points to diminished profitability with a two-tier structure, other research points to increased productivity with reduced earnings in the long run while a third shows neutrality on share prices for companies with these kind of structures.

Look, the grass (or wife, as it were) is always greener on the other side.

That aside, there is much literature on whether this two tier system of co-determination improves or diminishes company performance. Some research points to diminished profitability with a two tier structure, other research points to increased productivity with reduced earnings in the long run while a third shows neutrality on share prices for companies with these kind of structures.

Our own system is borne of our colonial heritage. But it does beg lending some consideration into whether the space exists to lay our own cultural contexts to bear in the way our corporate governance frameworks develop in this East African region. We have enough local precedents to lay local foundations.