Corporate Governance Models

Introduction

This session presents the relative strengths and weaknesses of the three major
current corporate finance models:

The (Anglo-Saxon) Anglo-American Model

The Continental Europe Model

The Far Eastern Model

Sri Lankan situation

The Anglo-American Model of Corporate

Finance

Many large, independent publicly-traded firms, relatively

small shareholders (1-5% average ownership)

External financing relies mostly on public capital markets

rather than on financial intermediaries.

Banks play no corporate governance role

Most external financing is done in the bond market.

Equity issues are also popular but tend to be less frequent than
bond issues

The Anglo-American Model of Corporate

Finance

Capital markets are very large, liquid, efficient, well regulated

Small shareholders' interests are protected by regulations,

corporate governance by-laws, and disclosure requirements

Strong separation of ownership from control.

Corporation are run by qualified professionals who have great

operational independence.

Very active market for corporate control

The Anglo-American Model of Corporate

Finance: Advantages

Corporations can raise large amounts of external financing and

effectively spread the financial risk

Since capital markets are transparent, intensively scrutinized

and relatively efficient, the cost of resource allocation is
minimized.

The Anglo-American Model of Corporate

Finance: Advantages

Corporate control is not inherited (receive as an heir at the

death of previous holder) but rather attained based on
professional credentials. (qualifications)

The existence of well developed equity markets allow growth

companies (such as tech start-ups) to evolve and prosper

The existence of well developed capital markets permits the

existence of privately-financed pension systems

The Anglo-American Model of Corporate

Finance: Disadvantages

Separation of ownership and control leads to managerial entrenchment,

excessive perks consumption, etc. (agency problem)

The monitoring of managers by stockholders is very costly (agency costs)

as long as large institutional investors are barred from taking an active
role

There is a significant opportunity cost associated with information

disclosure

The Continental Europe Model of

Corporate Finance

Many small and medium-sized, privately-held, familycontrolled corporations

Several large and powerful banks play an important role in

external financing and corporate governance

There is no separation between commercial and investment

banking, and banks are universal financiers

Public capital markets are small and have reduced liquidity.

Equity issues are relatively rare (however, their importance is
growing)

The Continental Europe Model of

Corporate Finance

Little mandated information disclosure and little transparency

in corporate finance and corporate governance

External financing relies less on formal regulation and legal

contracting and more on long-term, informal business
relationships

Less reliance on professionally-trained managers, and on

stock-based managerial compensation

Relatively inactive market for takeovers and corporate control

The Continental Europe Model of

Corporate Finance: Advantages

Banks can be very effective corporate monitors and can discipline

managers

Bank involvement in corporate monitoring leads to more direct,

low-cost, transfer of information

Banks seem better at handling financial distress

Banks are better at multi-year continuous financing

The Continental Europe Model of

Corporate Finance: Disadvantages

Conflict of interest when banks are the creditors and the

shareholders of the same firm.

High potential for abuse and self-dealing since disclosure

requirements are very modest and there is little transparency in
corporate financing and corporate governance.

Since banks have a monopoly on external financing, the cost of

raising capital can be high

As information technology evolves, the comparative advantage of

financial intermediaries over public capital markets decreases

The Far Eastern Model of Corporate

Finance

The national economy is dominated by a very small number of large

and powerful industrial groups (Keiretsu in Japan, and Chaebol in
Korea)

Each group include large manufacturing, service, distribution, etc

companies led and coordinated by a major bank.

Group companies own blocs of each-other's shares and there are

frequently interlocking directorships

The industrial groups dominate their home markets and are the major
exporters of that country

The Far Eastern Model of Corporate

Finance

Chaebols are still run by family members or founders

Keiretsus are run mostly by professional managers

Capital markets have little influence in the corporate finance

and corporate governance systems

Corporate takeovers are very rare

The Far Eastern Model of Corporate

Finance: Advantages

Industrial groups represent a model of achieving rapid economic growth

with little reliance on foreign investment

Industrial groups internalize large chunks of the economy and manage

coordinated technological systems.

Industrial groups also bar foreign competition from entering the domestic
market

Effective and low cost of debt financing

Effective management of small-scale financial distress

The Far Eastern Model of Corporate

Finance: Disadvantages

Internalization of the economy leads to less competition and higher

product prices paid by consumers

Industrial groups do not prosper in other countries, i.e., outside

Japan or Korea. They only fit one or two cultural models.

Conclusions: Which system is the best?

What is the objective function to maximize?

Each system can only be judged in relation to very narrowly

defined criteria

There is no all-in-one objective criterion

Each corporate finance system is unique in its own way

CG Practices in Sri Lanka

(Gunathilake, De zoysa and Chandrakumara ,
2011)

promoting dispersed ownerships

increasing size of a board and decreasing directorship per

director

greater involvement of internationally recognized few audit

firms in accounting and auditing functions

professional orientations of company secretariat services.

Size distribution of
Shareholdings

Distribution of Directorships
of Quoted Companies

Concentration of Auditing of
Corporate Sector

Concentration of Corporate
Secretarial Function

Indices of Regulation of
Securities Markets

Issues and challenges of CG in

Sri Lanka

employment of a person not suitable for a job

collapse of number of finance companies

majority of the corporate sector have not yet developed audit

committees

politicians do not allow the legal framework to establish its

root

Political interferences affect the implementation of the

regulations