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An analysis of the differences between Corporate

Governance Structure in Germany


and UK
Claudiu Ghiuzan

1
Claudiu

Ghiuzan

German Corporate Governance Structure


German Corporate Governance principles and procedures are mainly
established on the provisions of the Aktiengesetz (German Stock
Corporation), Mitbestimmungsgesetz (Codetermination Act) and the
German Corporate Governance Code. The Aktiengesellschaft (German
Stock Corporation) typical has a yearly general meeting of shareholders, a
board of management (Vorstand) and a supervisory board (Aufsichtsrat).
Fundamentally the German company law is based on civil code and it has
relied on two-tier board model which describes the principles of separation
of powers within the organization. The average management board size
includes mainly 15 members and the CEO is separated than Chairman. The
main tasks of the board are related to decision making, strategy,
manufacturing, product development, finance, marketing or supply chain
(Tricker, 2012), (Larcker, 2013).
The supervisory board members in Germany are elected in order to
appoint or dismiss the members of the management and additionally to
monitor them during their candidature. Being part simultaneously of
management board and supervisory board is against the law. At the
corporate level the supervisory board represents either the shareholders
or labour force. Further tasks of the supervisory board are represented by
their intervention in the situations when companys interests are seriously
affected or when networking with the stakeholders is necessary in order to
maintain a stable relationship. During the annual meeting the
shareholders are allowed to exercise their vote in accordance with the
Stock Corporation Act. This particularly includes the allocation of retained
earnings, the election of the auditor, the clearance of the board and
supervisory board, modifications to the Articles of Incorporation, stocks,
bonds, warrants, the authorization of different resolutions, the election of
the representatives to the supervisory board, etc., (Tricker, 2012).

British Corporate Governance Structure


British Corporate Governance principles and procedures are established on
the fundamental of the UK Corporate Governance Code (The Code) aimed for
the Premium Listed companies listed on the London Stock Exchange. The

companies comply with the Financial Reporting Council which is accordingly


derived from the Financial Conduct Authoritys Listing Rules. The Listing
Rules are under legal authority of Financial Service and Markets Act 2000
which
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requires that public companies acknowledge how they have followed The
Code. The procedure follows the principles of comply or explain which is a
regulatory approach that avoids binding laws and promote rather the
decision of the companies to choose if they comply with the Code. If the
company does not comply, it is mandatory to explain publicly why they did
not do so. (Legislation.gov.uk, 2000). Fundamentally, the UK company law is
based on common law code and it relies on one-tier board system also
called unitary board structure or Anglo-Saxon model. In particular, there is a
single board of directors but with four feasible structures: board with only
executive directors, board with a majority of executive directors, board with
only non-executive directors (NED) and board with a majority of nonexecutive directors. The average management board size include mainly 12
members and the CEO position is not mandatory separated from Chairman
(Tricker, 2012). The company law system follows the guidelines that all
board members are elected by the shareholders without relying on the
executive or non-executive positions. Moreover the investors have authority
of removing the directors from their position (Jungmann, 2006).

The main role of the non-executive directors (NED) is to constructively


stimulate and advice the management by developing proposals on
strategies. The members are not considered employees but rather
members of the board and therefore are concerned with managerial
issues. Moreover they audit the performance of management in meeting
the agreed targets and they control the stated achievements. In the last
years it has become more apparent that their general task is to keep
under control the entire business without involving themselves in the dayto-day activities. Given that, it is understandable that the company is
managed by senior managers which are required to run the business and
are responsible for the strategic and operational planning. Overall,
compared to the two-tier board, the British system has no black or white
characteristics between the board functions, neither between the
different members nor within a membership itself (Jungmann, 2006).
Leadership Structure
Theoretically, the UK and Germany provide a different format of
administration that may assist the independence of the board through

the separation of decision management from decision control. In practice,


both systems differ in the way they organize their leaderships structure,
the way they make use of committees and how they are centrally
composed (Maassen, 2002).
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Now, if we take the example of CEO and Chairman Office we can see that
the British companies have the right of determining this particular position
within the organization. In other words, the companies must comply with
the code which states that the roles of chairman and chief executive
should not be exercised by the same individual (Council, 2014) or explain
why they did not do so. According to the Financial Reporting Council, in
2014 the majority of companies have complied with the code, however
there were still firms in FTSE 350 which had one individual as both
Chairman and CEO (Council, 2014). In Germany, on the other side, the
separation of those positions is mandatory (Mntysaari, 2006).
Fundamentally, if the positions are combined then the top managerial
officer in the organization will also be the chairperson that is responsible
for monitoring and evaluating the top managerial officer. This can
represents a potential threat to the independence of the board (Maassen,
2002). Indeed, studies have shown that in terms of return of equity, ROI
and profit margin, the firms with independent leadership clearly
outperformed the once with CEO-duality (Maassen, 2002). Another study
published by Dahya et al. in 1996 found support for the hypothesis that
corporate boards are more competent when both positions are not used
by the same people. The analysis pointed out that the separation of
authority of CEO and chairman in a sample of 124 organizations was
resulting in significant and positive market response in the UK. This
reaction was followed by performance improvement of the firms according
to accounting measures in the year following the change (Dahya, 1996).
In essence, with respect to the CEO duality there is a clear evidence that
once the concept is implemented, it makes the company to function
different.

The Role of Shareholders


Historically, the companies represented by German two-tier board model
have relied heavily on banks rather than capital markets for their
operating expenses. For example, Deutsche Bank owned shares in 2001 at
Daimler AG (12, 1%) and Mnchener Rckversicherungs AG (7, 5%) but
also at Allianz (4, 2%) and similarly Allianz owned shares at Mnchener

Rckversicherungs (29, 8 %), at Deutsche Bank (4, 6% ) and at Daimler (1,


6% ) (Larcker,
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2013). Since banks benefit from a position in the supervisory boards it


makes unclear whether the institutions in Germany act in the shareholder
s interest or they use the voting power for their own benefits (Starks,
2003). In a study conducted by Franks and Mayer in 1998, they found
evidence that the role of banks in certain takeovers was egocentric, which
means that the institutions were acting basically on their own interest
rather than protecting the shareholders rights (Mayer, 1998).
Nevertheless, the development of liberalization of capital markets in the
last years and the shift of investment from bank financing to stock
market started to open some new features in the German Corporate
Governance System. In this way we can probably see in the future more
major changes in corporate ownership (Larcker, 2013).
In the UK system, it is estimated that the institutional investors own
between 65% and 80% in the equity market (Starks, 2003) and despite
their legal rights to vote the firms are not exercise it. A study conducted
by Mallin in 1995 on 250 UK companies, suggested that the institutions
were reporting voting levels of less than 52% (Mallin, 1995). In other
words, in UK the institutions tend not to vote their shares systematically
and they get involved in companies management just in crisis
circumstances.
Looking to the form of corporate ownership and voting rights between
both systems and with respect to the evidence reviewed in the studies
above, the companies in Germany can be exposed more to agency
problems in comparison with those in the UK. The agency problems usually
refer to the conflict of interest between shareholders and senior managers.
Considering also this particular aspect of lending institution being part of
the board, it is possible that the banks would have a comparative
advantage in monitoring the organizations because of their access to
inside information (Starks, 2003). This is also a reason to believe that
Germanys model might influence the performance of the companies
together with its general functions.
General Types of Board Committees
In order to better understand the different functionalities of both Corporate
Governance Systems it is essential to analyse the general types of board

committees. As we can see in the table 1, Harrison (1987) has characterized


the various forms of committees and he composed two general categories.
The first type called operating committee or management
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support has the function of integrating decision management with


decision control in boards of directors. In the British system, most often
the composition of these committees are controlled by executive directors.
The second category of committee involves the control roles of boards.
This committees are made with the purpose of protecting the
shareholders interests and supporting the separation of decision
management from decision control (Maassen, 2002). The table below, was
taking out from the paper of Francesco Maassen called An International
Comparison of Corporate Governance Models and it illustrates better
those differences.
Table 1
Attributes

Operating
Committees

Composition

Insider
dominated

Purpose

Advice to

Monitoring
Committees

Outsider
dominated

Accountability and

management
Function

Examples

Integration of

legitimacy

Separation of

decision
management
with

decision

decision control

decision control

Executive
committee
Finance
committee
Strategy
committee

management from

Audit committee

Compensation
committee

Nominating
committee

Source 1: Maasseen (2002) Original Source:


Harrison (1987)
If we look to the board committees, the differences can be illustrated by
displaying the distinctive procedures of committees structures within the
corporation. In the UK, board committees have a substantial administrative
function due to the lack of legal two-tier board. For instance, the audit

committee of a British public companies consist of independent nonexecutive members who oversees the executive directors. On the contrary,
in Germany the aim of supervisory committees and management
committees is to
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make board work more effective. Legally, in a two-tier board structure, a


board committees is not monitoring the job of the rest of the board and
the members do not have to be
independent (Mntysaari, 2006). Usually, within a British company the
audit committee creates a two-tier board structure inside the legal onetier board, whereas in Germany is not the case. The German audit
committee or Prfungsausschuss cannot be accordingly directly compared
with the UK audit committee because the both structures do not have
identical powers (Mntysaari, 2006) and furthermore do not function the
same.
However, if we look at the recent tremendous scandals such as Enron,
Parmalat, Worldcom or Philipp Holzmann we can see that the two-tier boards
systems started to consider the introduction of identical roles such as NonExecutive Directors and other methods like the three committees defined in
the Cadbury report. The Cadbury report is a British set of recommendations in
regards to the organization boards and accounting structures aim to reduce
the corporate governance risks and failures. The implementation of this
procedures happens with the purpose of overcoming future wrongdoing which
can affect the integrity of the company. Namely, in Germany, the majority of
public companies have already adopt this committees (Hopt, 2004). It can be
noticed for example at Infineon Technologies and Schering Konzern that both
have approved a structure with four committees such as: Strategy and
Technology, Executive Committee, Meditation Committee, but also
Investment, Finance and Audit-Committee. This aspect may shows us that
despite their great differences between board structures, the common
scandals might bring the systems together.

Compensation Committees
Another key point in regards to monitoring functions and which
emphasize the difference in functionality between the both systems, are
the compensation committees. In Germany for instance, the companies
are dealing with the issues of raising the level of executive compensation
as the organizations have become larger and they needed to compete for
their talented work force. For this purpose the compensation levels have

begun to increase (Larcker, 2013).


It is important to realize that both institutional and cultural differences
between Germany and UK results in different managerial compensation
structures. The distinct characteristics
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are reflected in the governance of German Code Law which is stakeholder


oriented and UK Common Law which is shareholder oriented. This
differences have led to remuneration structures that differ in their
framework as well as in their levels (Tuschke, 2003). Markedly, the
structure of compensation are differentiated by the stock ownership and
stock option pay (Conyon, 2000) (Tuschke, 2003). Historically, the UK CEOs
received more stock options in comparison with their German counterparts
and especially because of the cultural factors such as egalitarianism which
in Germany it focuses on supporting the interest of various categories of
stakeholders (e.g., labour, customers, institutions and society in general)
(Conyon, 2000). In 2007 for example, Wendelin Wiedeking, the CEO of
Porche, was criticized by media and politicians for accepting 68 million in
compensation after the companys net earnings almost tripled compared
to previous year. In Germany a payment of this size is considered
unacceptable by the cultural standards (Larcker, 2013).
Although this may be valuable, in the last years an important shift in
payment has been signalized due to internationalization of the markets
and development of liberalization. A study conducted by Vlerick Business
School in 2014, shows that the German multinationals are catching up
with those in United Kingdom in regards to executive compensation levels.
The report has surveyed 512 organizations in Germany, UK, The
Netherlands, France and Belgium and identified that the best-paid CEOs
are Germans. Moreover the study shows that the executives receive an
average total payment of 3.4 million, which is slightly higher than in the
UK (Calnan, 2015).
Empirically, the different compensation committees and the distinct
forms of remuneration can certainly influence the way the organization
functions and therefore it has an impact on the companys performance
and managerial behaviour (Tuschke, 2003). Looking from this perspective
we can recognize that both systems have different compensations
committees but in the end they come the same closure.

Conclusion
I have emphasized that theoretically the Corporate Governance system in

Germany function differently from the system in the UK and the


fundamental philosophies, of how to address the importance of corporate
governance are made different in both countries. In the same
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time, I indicated that both systems practically are using the same
procedures in staying globally effective.
If we highlight this differences we can see that in the UK, the corporate
governance is viewed as something done by individuals while in Germany
is recognized as something done by a group of individuals. In Germany is
the legislators job to monitor the management format of the companies
while in the UK the focus is on the members who cooperate in the
governance of the organizations (Mntysaari, 2006).
The legal procedures and tools applied by these two systems tend to
reflect the general administrative approach towards companies.
Mainly, the guidelines applicable in the German companies are more
standardised and certain if compared to the British rules (Mntysaari,
2006).
We can say that the UK and Germany represent the best examples of two
competing structures which makes the matter difficult to admit that one
system is more effective that the other. Effective corporate governance
control means that an institution is well administrated and all actions of
the executives are well reviewed. In fact, both structures include
weaknesses and strengths where further improvements are necessary. In
the end, the society in which an organization performs will strongly
influence their behaviour and the elements that might be acceptable in
some societies are considered wrong in others. This influence the sort of
activities that managers are willing to participate in and the tendency of
self-serving behaviours (Larcker, 2013). The cultural factors have an effect
also on the relationship between the organization and its shareholders and
stakeholders, as I stated above, and is important to mention that they play
an essential role in shaping the governance systems (Larcker, 2013).

References
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Conyon, J. S., 2000. Executive compensation: evidence from the UK


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Mayer, F. J. a. C., 1998. Bank Control, Takeovers and Corporate


Governance in Germany.
Journal of Banking and Finance, 10/11(22), pp. 1385 - 1403.
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