Spetch11.qxd 5/18/2001 4:14 PM Page 233 11 Top Management, Company Directors and Corporate Control GERALD F. DAVIS and MICHAEL USEEM Theory and research on the relations among ownership was widely dispersed. Research in top managers, company directors, investors, this tradition flourished in the 1980s, as and external contenders for corporate control – takeovers of under-performing firms became broadly, the field of corporate governance – common and restive institutional investors experienced a remarkable flowering during made their influence known. Studies focused the 1990s. Early work addressed the central on assessing the effectiveness of devices such puzzle raised by the widespread separation of as having boards numerically dominated by ownership and control among large American outsiders, tying compensation to share price, corporations, namely, why would any sensible or ensuring susceptibility to outside takeover person – much less thousands or millions of (Walsh and Seward, 1990, provide a review). them – invest their savings in businesses run Following the dictates of financial economics, by unaccountable professional managers? As ‘effectiveness’ was commonly measured via Berle and Means (1932) framed the problem, stock market reactions to various actions by those who ran such ‘managerialist’ corpora- top management and/or the board. The results tions would pursue ‘prestige, power, or the of these studies provided proof of which gratification of professional zeal’ (1932: 122) actions and structures promoted shareholder in lieu of maximizing profits. Weak share- value, and which promoted ‘managerial holders could do little to stop them. Yet gener- entrenchment’ of the sort feared by Berle and ations of individuals and financial institutions Means. continued to invest in these firms. Why? Corporate governance research during the Answering this question led to the creation 1990s expanded from a narrow focus on large of a new theory of the firm that portrayed the corporations to a broader concern with issues public corporation as a ‘nexus of contracts.’ In of political economy. The transition of state the contractarian model, the managers of the socialist societies to market economies, and corporation were disciplined in their pursuit of the spread of financial markets to emerging shareholder value by a phalanx of mecha- economies around the globe, infused the nisms, from the way they were compensated, puzzle of managerialism with enormous policy to the composition of the board of directors, to relevance. What mechanisms could be put in the external ‘market for corporate control.’ place to inspire the confidence of investors in Taken together, these mechanisms worked to businesses housed in distant and often unfa- vouchsafe shareholder interests even when miliar cultures? The place of financial markets Spetch11.qxd 5/18/2001 4:14 PM Page 234 234 HANDBOOK OF STRATEGY AND MANAGEMENT in the project of globalization, as a means to an empirical theory of the corporation, it can channel investment funds from wealthy equally be considered a prescriptive theory, nations to emerging markets with limited local that is, not an explanation of what is but a capital, assured that corporate governance vision of what could or should be. Its influence would be a topic of intense interest for years on public policy debates during the 1980s is to come. evident in documents of the time (Davis and The decade of the 1990s saw three develop- Stout, 1992) and in the subsequent spread of ments that moved the governance literature the rhetoric of shareholder value. But it is beyond the simple assessment of mechanisms important to recognize that corporate man- in US firms. The first development was the agers are quite skillful in their use of this examination of the governance structure of rhetoric (Useem, 1996). Declarations of share the firm – the set of devices that evolve within buy-backs are met with share price spikes, the organization to guide managerial decision- whether or not they are subsequently imple- making – as an ensemble. Rather than regard- mented (Zajac and Westphal, 1999). The ing any particular aspect of the firm’s structure announcement of a new compensation plan is as essential, researchers began to study them met by more positive reactions from the stock as complements or substitutes. Compensation market when described as means of aligning strongly tied to share price may act as a sub- management with shareholder interests than stitute for a vigilant board, for instance, while when the identical plan is described as a a vigilant board is not sufficient to make up for human resources tool; naturally, managers a poorly integrated top management team. gravitate toward the sanctioned rhetoric Governance structures, in short, were configu- (Westphal and Zajac, 1998). And even earnest rations of interdependent elements (Beatty and attempts to meet the demands of shareholders Zajac, 1994; Anderson et al., 1998). for transparency and accountability, as pre- The second development was the growth of scribed by the agency theory of governance, comparative and historical governance often have unintended consequences. Firms research, which highlighted the idiosyncrasy that improve the quality of their disclosure of the American system. American-style cor- attract more transient institutional investors, porate governance, aimed at ‘solving’ the which in turn increases the volatility of their problems created by the separation of owner- share prices – exactly the opposite of what was ship and control, is only one of several possi- anticipated (Bushee and Noe, 1999). In short, ble governance systems and reflected a the dominance of the American system path-dependent developmental trajectory. A described by the agency theory of governance range of alternatives is consistent with eco- may take the form more of rhetoric than real- nomic vibrancy, and the American system is ity, a point worth bearing in mind in the ongo- not the crown of creation (Roe, 1994). Indeed, ing debates about the convergence of national even among wealthy economies with well- systems of corporate governance. developed corporate sectors, corporations with If the prototypical research question in the separated ownership and control were quite corporate governance literature of the 1980s rare as late as the mid-1990s (LaPorta et al., was ‘Is it better for shareholders for a corpora- 1999). Moreover, empirical findings on the tion’s board to have more “outside” direc- dynamics of the American system often held tors?’, the characteristic question of the early only for specific times; for instance, the 21st century is ‘What ensemble of institutions takeover market of the 1980s, when hostile best situates a nation for economic growth in a ‘bust-ups’ were common, was much different global, post-industrial, information-based eco- from takeovers of the 1990s, when friendly nomy?’ Put another way, the vital questions deals were the norm (Davis and Robbins, going forward are not about why some stalks 1999). The nexus of contracts approach of corn in a field grow taller than others, but seemed increasingly like a theory of US cor- about the characteristics of soil and farming porate governance in the 1980s rather than a techniques that make corn in some fields grow general theory of the firm. taller than in others. Thus, research has come The third development was the articulation to span levels of analysis from within the of a reflexive stance on the theory of gover- organization to the nation-state and beyond. nance. While agency theory can be viewed as Behind this development is a recognition that Spetch11.qxd 5/18/2001 4:14 PM Page 235 CORPORATE CONTROL 235 With and across societies One capitalism or many? Varieties of capitalism Economic institutionalism Dependency theory World systems analysis How do shareholders and How do corporations shape other stakeholders influence society? the corporation? Between the corporation Company impact on national Power and dependency theories and its political economies Stakeholder frameworks stakeholders Political influence of corporate Socially-responsible business elites models Perpetuation of stratification Within the corporation Who are top managers and Does top management company directors? leadership make a difference? Top management teams Comparison of top management Board composition across companies Social origins of company Evaluation of top management’s leaders impact within companies Figure 11.1 Research on top management, company directors and corporate control what works for a particular firm is highly definitively. Much prior research relied on contingent on its institutional surround, that archival data several steps removed from the the institutional surround in a particular nation phenomenon (for example, crudely classifying reflects its history and level of economic devel- directors as ‘insiders’ or ‘outsiders’ depending opment; and that ‘what works’ for a national on whether they were current employees of the economy depends in turn on its place in the firm). Crude data led, unsurprisingly, to crude larger world system. Firms and economies, in results (see Pettigrew, 1992 for a critique). short, are embedded in larger social and insti- Progress has certainly been made in moving tutional structures that critically condition their beyond simple dichotomies of directors as structures and performance (Polanyi, 1957; inside or outside. Pettigrew and McNulty (1995, Granovetter, 1985; Bebchuk and Roe, 1999). 1998), for instance,