Principal–agent conflict

Some concerns regarding governance follows from the potential for conflicts of interests that are a consequence of the non-alignment of preferences between: shareholders and upper management (principal–agent problems); and among shareholders (principal–principal problems),^[22] although also other stakeholder relations are affected and coordinated through corporate governance.

In large firms where there is a separation of ownership and management, the principal–agent problem^[23] can arise between upper-management (the "agent") and the shareholder(s) (the "principals"). The shareholders and upper management may have different interests. The shareholders typically desire returns on their investments through profits and dividends, while upper management may also be influenced by other motives, such as management remuneration or wealth interests, working conditions and perquisites, or relationships with other parties within (e.g., management-worker relations) or outside the corporation, to the extent that these are not necessary for profits. Those pertaining to self-interest are usually emphasized in relation to principal-agent problems. The effectiveness of corporate governance practices from a shareholder perspective might be judged by how well those practices align and coordinate the interests of the upper management with those of the shareholders. However, corporations sometimes undertake initiatives, such as climate activism and voluntary emission reduction, that seems to contradict the idea that rational self-interest drives shareholders' governance goals.^[24]: 3

An example of a possible conflict between shareholders and upper management materializes through stock repurchases (treasury stock). Executives may have incentive to divert cash surpluses to buying treasury stock to support or increase the share price. However, that reduces the financial resources available to maintain or enhance profitable operations. As a result, executives can sacrifice long-term profits for short-term personal gain. Shareholders may have different perspectives in this regard, depending on their own time preferences, but it can also be viewed as a conflict with broader corporate interests (including preferences of other stakeholders and the long-term health of the corporation).

Principal–principal conflict (the multiple principal problem)

The principal–agent problem can be intensified when upper management acts on behalf of multiple shareholders—which is often the case in large firms (see Multiple principal problem).^[22] Specifically, when upper management acts on behalf of multiple shareholders, the multiple shareholders face a collective action problem in corporate governance, as individual shareholders may lobby upper management or otherwise have incentives to act in their individual interests rather than in the collective interest of all shareholders.^[25] As a result, there may be free-riding in steering and monitoring of upper management,^[26] or conversely, high costs may arise from duplicate steering and monitoring of upper management.^[27] Conflict may break out between principals,^[28] and this all leads to increased autonomy for upper management.^[22]

Ways of mitigating or preventing these conflicts of interests include the processes, customs, policies, laws, and institutions which affect the way a company is controlled—and this is the challenge of corporate governance.^[29][30] To solve the problem of governing upper management under multiple shareholders, corporate governance scholars have figured out that the straightforward solution of appointing one or more shareholders for governance is likely to lead to problems because of the information asymmetry it creates.^[31][32][33] Shareholders' meetings are necessary to arrange governance under multiple shareholders, and it has been proposed that this is the solution to the problem of multiple principals due to median voter theorem: shareholders' meetings lead power to be devolved to an actor that approximately holds the median interest of all shareholders, thus causing governance to best represent the aggregated interest of all shareholders.^[22]

Other themes

An important theme of governance is the nature and extent of corporate accountability. A related discussion at the macro level focuses on the effect of a corporate governance system on economic efficiency, with a strong emphasis on shareholders' welfare.^[8] This has resulted in a literature focused on economic analysis.^[34][35][36]

Continental Europe (two-tier board system)

Some continental European countries, including Germany, Austria, and the Netherlands, require a two-tiered board of directors as a means of improving corporate governance.^[38] In the two-tiered board, the executive board, made up of company executives, generally runs day-to-day operations while the supervisory board, made up entirely of non-executive directors who represent shareholders and employees, hires and fires the members of the executive board, determines their compensation, and reviews major business decisions.^[39]

Germany, in particular, is known for its practice of co-determination, founded on the German Codetermination Act of 1976, in which workers are granted seats on the board as stakeholders, separate from the seats accruing to shareholder equity.

United States, United Kingdom

The so-called "Anglo-American model" of corporate governance emphasizes the interests of shareholders. It relies on a single-tiered board of directors that is normally dominated by non-executive directors elected by shareholders. Because of this, it is also known as "the unitary system".^[40][41] Within this system, many boards include some executives from the company (who are ex officio members of the board). Non-executive directors are expected to outnumber executive directors and hold key posts, including audit and compensation committees. In the United Kingdom, the CEO generally does not also serve as chairman of the board, whereas in the US having the dual role has been the norm, despite major misgivings regarding the effect on corporate governance.^[42] The number of US firms combining both roles is declining, however.^[43]

In the United States, corporations are directly governed by state laws, while the exchange (offering and trading) of securities in corporations (including shares) is governed by federal legislation. Many US states have adopted the Model Business Corporation Act, but the dominant state law for publicly traded corporations is Delaware General Corporation Law, which continues to be the place of incorporation for the majority of publicly traded corporations.^[44] Individual rules for corporations are based upon the corporate charter and, less authoritatively, the corporate bylaws.^[44] Shareholders cannot initiate changes in the corporate charter although they can initiate changes to the corporate bylaws.^[44]

It is sometimes colloquially stated that in the US and the UK that "the shareholders own the company." This is, however, a misconception as argued by Eccles and Youmans (2015) and Kay (2015).^[45] The American system has long been based on a belief in the potential of shareholder democracy to efficiently allocate capital.

Cheffins & Reddy (2022) argue that after thirty years the UK Corporate Governance Code can (and should) be abolished: 'Early versions of the Code likely fortified governance norms that enhanced managerial accountability. Such norms, however, are now well-accepted, meaning the Code delivers few direct benefits for the ‘premium-listed’ companies that must take the Code into account. In addition, the Code in place has evolved considerably since 1992, and the changes have been detrimental in large measure for listed companies. The Code has grown in size substantially over the years, thereby increasing the disclosure burden for companies obliged to take the Code into account. Moreover, while the UK CGC is theoretically comply-or-explain in orientation, a bias in favour of full compliance arising from an investor predilection for ‘box-ticking’ has pressured companies to introduce what for them may well be sub-optimal governance arrangements. For companies, the costs to companies arising from the Code likely now markedly outweigh whatever benefits it delivers. An additional institutional downside with the Code further strengthens the case in favour of abolition. Over the past few years, the Code has increasingly dealt with matters it is poorly suited to address, particularly in relation to non-shareholder corporate constituencies, commonly referred to as stakeholders. Such matters may be of considerable societal importance. Still, with the Code being dependent on shareholder intervention to foster compliance, it is poorly situated institutionally to address stakeholder issues.'^[46]

Japan

The Japanese model of corporate governance has traditionally held a broad view that firms should account for the interests of a range of stakeholders. For instance, managers do not have a fiduciary responsibility to shareholders. This framework is rooted in the belief that a balance among stakeholder interests can lead to a superior allocation of resources for society. The Japanese model includes several key principles:^[47]

• Security the rights and equal treatment of shareholders
• Appropriate cooperation with stakeholders (other than shareholders)
• Ensuring appropriate information disclosure and transparency
• Responsibility of the board
• Dialogue with shareholders

Founder centrism

An article published by the Australian Institute of Company Directors called "Do Boards Need to become more Entrepreneurial?" considered the need for founder centrism behaviour at board level to appropriately manage disruption.^[48]

Australia

Canada

The Netherlands

Corporate Governance Code 2016-2022

In addition The Netherlands has adopted a Corporate Governance Code in 2016, which has been updated twice since. In the latest version (2022),^[50] the Executive Board of the company is held responsible for the continuity of the company and its sustainable long-term value creation. The executive board considers the impact of corporate actions on People and Planet and takes the effects on corporate stakeholders into account.^[51] In the Dutch two-tier system, the Supervisory Board monitors and supervises the executive board in this respect.

UK

US

Organisation for Economic Co-operation and Development principles

One of the most influential guidelines on corporate governance are the G20/OECD Principles of Corporate Governance, first published as the OECD Principles in 1999, revised in 2004 and revised again and endorsed by the G20 in 2015.^[55] The Principles are often referenced by countries developing local codes or guidelines. Building on the work of the OECD, other international organizations, private sector associations and more than 20 national corporate governance codes formed the United Nations Intergovernmental Working Group of Experts on International Standards of Accounting and Reporting (ISAR) to produce their Guidance on Good Practices in Corporate Governance Disclosure.^[56] This internationally agreed^[57] benchmark consists of more than fifty distinct disclosure items across five broad categories:^[58]

• Auditing
• Board and management structure and process
• Corporate responsibility and compliance in organization
• Financial transparency and information disclosure
• Ownership structure and exercise of control rights

The OECD Guidelines on Corporate Governance of State-Owned Enterprises^[59] are complementary to the G20/OECD Principles of Corporate Governance,^[60] providing guidance tailored to the corporate governance challenges unique to state-owned enterprises.

Stock exchange listing standards

Companies listed on the New York Stock Exchange (NYSE) and other stock exchanges are required to meet certain governance standards. For example, the NYSE Listed Company Manual requires, among many other elements:

• Independent directors: "Listed companies must have a majority of independent directors ... Effective boards of directors exercise independent judgment in carrying out their responsibilities. Requiring a majority of independent directors will increase the quality of board oversight and lessen the possibility of damaging conflicts of interest." (Section 303A.01) An independent director is not part of management and has no "material financial relationship" with the company.
• Board meetings that exclude management: "To empower non-management directors to serve as a more effective check on management, the non-management directors of each listed company must meet at regularly scheduled executive sessions without management." (Section 303A.03)
• Boards organize their members into committees with specific responsibilities per defined charters. "Listed companies must have a nominating/corporate governance committee composed entirely of independent directors." This committee is responsible for nominating new members for the board of directors. Compensation and Audit Committees are also specified, with the latter subject to a variety of listing standards as well as outside regulations.

Other guidelines

The investor-led organisation International Corporate Governance Network (ICGN) was set up by individuals centered around the ten largest pension funds in the world 1995. The aim is to promote global corporate governance standards. The network is led by investors that manage 18 trillion dollars, and members are located in fifty different countries. ICGN has developed a suite of global guidelines ranging from shareholder rights to business ethics.^[61]

The World Business Council for Sustainable Development (WBCSD) has done work on corporate governance, particularly on accounting and reporting.^[62] In 2009, the International Finance Corporation and the UN Global Compact released a report, "Corporate Governance: the Foundation for Corporate Citizenship and Sustainable Business",^[63] linking the environmental, social and governance responsibilities of a company to its financial performance and long-term sustainability.

Most codes are largely voluntary. An issue raised in the U.S. since the 2005 Disney decision^[64] is the degree to which companies manage their governance responsibilities; in other words, do they merely try to supersede the legal threshold, or should they create governance guidelines that ascend to the level of best practice. For example, the guidelines issued by associations of directors, corporate managers and individual companies tend to be wholly voluntary, but such documents may have a wider effect by prompting other companies to adopt similar practices.

In 2021, the first ever international standard, ISO 37000, was published as guidance for good governance.^[65] The guidance places emphasis on purpose which is at the heart of all organizations, i.e. a meaningful reason to exist. Values inform both the purpose and the way the purpose is achieved.^[66]

United States

Robert E. Wright argued in Corporation Nation (2014) that the governance of early U.S. corporations, of which over 20,000 existed by the Civil War of 1861–1865, was superior to that of corporations in the late 19th and early 20th centuries because early corporations governed themselves like "republics", replete with numerous "checks and balances" against fraud and against usurpation of power by managers or by large shareholders.^[67] (The term "robber baron" became particularly associated with US corporate figures in the Gilded Age—the late 19th century.)

In the immediate aftermath of the Wall Street Crash of 1929 legal scholars such as Adolf Augustus Berle, Edwin Dodd, and Gardiner C. Means pondered on the changing role of the modern corporation in society.^[68] From the Chicago school of economics, Ronald Coase^[69] introduced the notion of transaction costs into the understanding of why firms are founded and how they continue to behave.^[70]

US economic expansion through the emergence of multinational corporations after World War II (1939–1945) saw the establishment of the managerial class. Several Harvard Business School management professors studied and wrote about the new class: Myles Mace (entrepreneurship), Alfred D. Chandler, Jr. (business history), Jay Lorsch (organizational behavior) and Elizabeth MacIver (organizational behavior). According to Lorsch and MacIver "many large corporations have dominant control over business affairs without sufficient accountability or monitoring by their board of directors".

In the 1980s, Eugene Fama and Michael Jensen^[71] established the principal–agent problem as a way of understanding corporate governance: the firm is seen as a series of contracts.^[72]

In the period from 1977 to 1997, corporate directors' duties in the U.S. expanded beyond their traditional legal responsibility of duty of loyalty to the corporation and to its shareholders.^[73]

In the first half of the 1990s, the issue of corporate governance in the U.S. received considerable press attention due to a spate of CEO dismissals (for example, at IBM, Kodak, and Honeywell) by their boards. The California Public Employees' Retirement System (CalPERS) led a wave of institutional shareholder activism (something only very rarely seen before), as a way of ensuring that corporate value would not be destroyed by the now traditionally cozy relationships between the CEO and the board of directors (for example, by the unrestrained issuance of stock options, not infrequently back-dated).

In the early 2000s, the massive bankruptcies (and criminal malfeasance) of Enron and Worldcom, as well as lesser corporate scandals (such as those involving Adelphia Communications, AOL, Arthur Andersen, Global Crossing, and Tyco) led to increased political interest in corporate governance. This was reflected in the passage of the Sarbanes–Oxley Act of 2002. Other triggers for continued interest in the corporate governance of organizations included the financial crisis of 2008/9 and the level of CEO pay.^[74]

Some corporations have tried to burnish their ethical image by creating whistle-blower protections, such as anonymity. In the case of Citi, they call this the Ethics Hotline.^[75] Though it is unclear whether firms such as Citi take offences reported to these hotlines seriously or not.

East Asia

In 1997 the East Asian Financial Crisis severely affected the economies of Thailand, Indonesia, South Korea, Malaysia, and the Philippines through the exit of foreign capital after property assets collapsed. The lack of corporate governance mechanisms in these countries highlighted the weaknesses of the institutions in their economies.

Saudi Arabia

In November 2006 the Capital Market Authority (Saudi Arabia) (CMA) issued a corporate governance code in the Arabic language.^[76] The Kingdom of Saudi Arabia has made considerable progress with respect to the implementation of viable and culturally appropriate governance mechanisms (Al-Hussain & Johnson, 2009).^[77]

Al-Hussain, A. and Johnson, R. (2009) found a strong relationship between the efficiency of corporate governance structure and Saudi bank performance when using return on assets as a performance measure with one exception—that government and local ownership groups were not significant. However, using rate of return as a performance measure revealed a weak positive relationship between the efficiency of corporate governance structure and bank performance.^[78]

Responsibilities of the board of directors

Former Chairman of the Board of General Motors John G. Smale wrote in 1995: "The board is responsible for the successful perpetuation of the corporation. That responsibility cannot be relegated to management."^[83] A board of directors is expected to play a key role in corporate governance. The board has responsibility for: CEO selection and succession; providing feedback to management on the organization's strategy; compensating senior executives; monitoring financial health, performance and risk; and ensuring accountability of the organization to its investors and authorities. Boards typically have several committees (e.g., Compensation, Nominating and Audit) to perform their work.^[84]

The OECD Principles of Corporate Governance (2004) describe the responsibilities of the board; some of these are summarized below:^[55]

• Board members should be informed and act ethically and in good faith, with due diligence and care, in the best interest of the company and its shareholders.
• Review and guide corporate strategy, objective setting, major plans of action, risk policy, capital plans, and annual budgets.
• Oversee major acquisitions and divestitures.
• Select, compensate, monitor and replace key executives and oversee succession planning.
• Align key executive and board remuneration (pay) with the longer-term interest of the company and its shareholders.
• Ensure a formal and transparent board member nomination and election process.
• Ensure the integrity of the corporation's accounting and financial reporting systems, including their independent audit.
• Ensure appropriate systems of internal control are established.
• Oversee the process of disclosure and communications.
• Where committees of the board are established, their mandate, composition and working procedures should be well-defined and disclosed.

Stakeholder interests

All parties to corporate governance have an interest, whether direct or indirect, in the financial performance of the corporation. Directors, workers and management receive salaries, benefits and reputation, while investors expect to receive financial returns. For lenders, it is specified interest payments, while returns to equity investors arise from dividend distributions or capital gains on their stock. Customers are concerned with the certainty of the provision of goods and services of an appropriate quality; suppliers are concerned with compensation for their goods or services, and possible continued trading relationships. These parties provide value to the corporation in the form of financial, physical, human and other forms of capital. Many parties may also be concerned with corporate social performance.

A key factor in a party's decision to participate in or engage with a corporation is their confidence that the corporation will deliver the party's expected outcomes. When categories of parties (stakeholders) do not have sufficient confidence that a corporation is being controlled and directed in a manner consistent with their desired outcomes, they are less likely to engage with the corporation. When this becomes an endemic system feature, the loss of confidence and participation in markets may affect many other stakeholders, and increases the likelihood of political action. There is substantial interest in how external systems and institutions, including markets, influence corporate governance.^[85]

"Absentee landlords" vs. capital stewards

In 2016 the director of the World Pensions Council (WPC) said that "institutional asset owners now seem more eager to take to task [the] negligent CEOs" of the companies whose shares they own.^[86]

This development is part of a broader trend towards more fully exercised asset ownership—notably from the part of the boards of directors ('trustees') of large UK, Dutch, Scandinavian and Canadian pension investors:

No longer 'absentee landlords', [pension fund] trustees have started to exercise more forcefully their governance prerogatives across the boardrooms of Britain, Benelux and America: coming together through the establishment of engaged pressure groups […] to 'shift the [whole economic] system towards sustainable investment'.^[86]

This could eventually put more pressure on the CEOs of publicly listed companies, as "more than ever before, many [North American,] UK and European Union pension trustees speak enthusiastically about flexing their fiduciary muscles for the UN's Sustainable Development Goals", and other ESG-centric investment practices.^[87]

Control and ownership structures

Control and ownership structure refers to the types and composition of shareholders in a corporation. In some countries such as most of Continental Europe, ownership is not necessarily equivalent to control due to the existence of e.g. dual-class shares, ownership pyramids, voting coalitions, proxy votes and clauses in the articles of association that confer additional voting rights to long-term shareholders.^[89] Ownership is typically defined as the ownership of cash flow rights whereas control refers to ownership of control or voting rights.^[89] Researchers often "measure" control and ownership structures by using some observable measures of control and ownership concentration or the extent of inside control and ownership. Some features or types of control and ownership structure involving corporate groups include pyramids, cross-shareholdings, rings, and webs. German "concerns" (Konzern) are legally recognized corporate groups with complex structures. Japanese keiretsu (系列) and South Korean chaebol (which tend to be family-controlled) are corporate groups which consist of complex interlocking business relationships and shareholdings. Cross-shareholding is an essential feature of keiretsu and chaebol groups. Corporate engagement with shareholders and other stakeholders can differ substantially across different control and ownership structures.

Proxy access

Particularly in the United States, proxy access allows shareholders to nominate candidates which appear on the proxy statement, as opposed to restricting that power to the nominating committee. The SEC had attempted a proxy access rule for decades,^[93] and the United States Dodd–Frank Wall Street Reform and Consumer Protection Act specifically allowed the SEC to rule on this issue, however, the rule was struck down in court.^[93] Beginning in 2015, proxy access rules began to spread driven by initiatives from major institutional investors, and as of 2018, 71% of S&P 500 companies had a proxy access rule.^[93]

Internal corporate governance controls

Internal corporate governance controls monitor activities and then take corrective actions to accomplish organisational goals. Examples include:

• Monitoring by the board of directors: The board of directors, with its legal authority to hire, fire and compensate top management, safeguards invested capital. Regular board meetings allow potential problems to be identified, discussed and avoided. Whilst non-executive directors are thought to be more independent, they may not always result in more effective corporate governance and may not increase performance.^[95] Different board structures are optimal for different firms. Moreover, the ability of the board to monitor the firm's executives is a function of its access to information. Executive directors possess superior knowledge of the decision-making process and therefore evaluate top management on the basis of the quality of its decisions that lead to financial performance outcomes, ex ante. It could be argued, therefore, that executive directors look beyond the financial criteria.
• Internal control procedures and internal auditors: Internal control procedures are policies implemented by an entity's board of directors, audit committee, management, and other personnel to provide reasonable assurance of the entity achieving its objectives related to reliable financial reporting, operating efficiency, and compliance with laws and regulations. Internal auditors are personnel within an organization who test the design and implementation of the entity's internal control procedures and the reliability of its financial reporting.
• Balance of power: The simplest balance of power is very common; require that the president be a different person from the treasurer. This application of separation of power is further developed in companies where separate divisions check and balance each other's actions. One group may propose company-wide administrative changes, another group review and can veto the changes, and a third group check that the interests of people (customers, shareholders, employees) outside the three groups are being met.
• Remuneration: Performance-based remuneration is designed to relate some proportion of salary to individual performance. It may be in the form of cash or non-cash payments such as shares and share options, superannuation or other benefits. Such incentive schemes, however, are reactive in the sense that they provide no mechanism for preventing mistakes or opportunistic behavior, and can elicit myopic behavior.
• Monitoring by large shareholders and/or monitoring by banks and other large creditors: Given their large investment in the firm, these stakeholders have the incentives, combined with the right degree of control and power, to monitor the management.^[96]

In publicly traded U.S. corporations, boards of directors are largely chosen by the president/CEO, and the president/CEO often takes the chair of the board position for him/herself (which makes it much more difficult for the institutional owners to "fire" him/her). The practice of the CEO also being the chair of the Board is fairly common in large American corporations.^[97]

While this practice is common in the U.S., it is relatively rare elsewhere. In the U.K., successive codes of best practice have recommended against duality.

External corporate governance controls

External corporate governance controls the external stakeholders' exercise over the organization. Examples include:

• competition
• debt covenants
• demand for and assessment of performance information (especially financial statements)
• government regulations
• managerial labour market
• media pressure
• takeovers
• proxy firms
• mergers and acquisitions

Financial reporting and the independent auditor

The board of directors has primary responsibility for the corporation's internal and external financial reporting functions. The chief executive officer and chief financial officer are crucial participants, and boards usually have a high degree of reliance on them for the integrity and supply of accounting information. They oversee the internal accounting systems, and are dependent on the corporation's accountants and internal auditors.

Current accounting rules under International Accounting Standards and U.S. GAAP allow managers some choice in determining the methods of measurement and criteria for recognition of various financial reporting elements. The potential exercise of this choice to improve apparent performance increases the information risk for users. Financial reporting fraud, including non-disclosure and deliberate falsification of values also contributes to users' information risk. To reduce this risk and to enhance the perceived integrity of financial reports, corporation financial reports must be audited by an independent external auditor who issues a report that accompanies the financial statements.

One area of concern is whether the auditing firm acts as both the independent auditor and management consultant to the firm they are auditing. This may result in a conflict of interest which places the integrity of financial reports in doubt due to client pressure to appease management. The power of the corporate client to initiate and terminate management consulting services and, more fundamentally, to select and dismiss accounting firms contradicts the concept of an independent auditor. Changes enacted in the United States in the form of the Sarbanes–Oxley Act (following numerous corporate scandals, culminating with the Enron scandal) prohibit accounting firms from providing both auditing and management consulting services. Similar provisions are in place under clause 49 of Standard Listing Agreement in India.

Systemic problems

• Demand for information: In order to influence the directors, the shareholders must combine with others to form a voting group which can pose a real threat of carrying resolutions or appointing directors at a general meeting.^[101]
• Monitoring costs: A barrier to shareholders using good information is the cost of processing it, especially to a small shareholder. The traditional answer to this problem is the efficient-market hypothesis (in finance, the efficient market hypothesis (EMH) asserts that financial markets are efficient), which suggests that the small shareholder will free ride on the judgments of larger professional investors.^[101]
• Supply of accounting information: Financial accounts form a crucial link in enabling providers of finance to monitor directors. Imperfections in the financial reporting process will cause imperfections in the effectiveness of corporate governance. This should, ideally, be corrected by the working of the external auditing process.^[101]

Executive pay

Increasing attention and regulation (as under the Swiss referendum "against corporate rip-offs" of 2013) has been brought to executive pay levels since the financial crisis of 2007–2008. Research on the relationship between firm performance and executive compensation does not identify consistent and significant relationships between executives' remuneration and firm performance. Not all firms experience the same levels of agency conflict, and external and internal monitoring devices may be more effective for some than for others.^[74][102] Some researchers have found that the largest CEO performance incentives came from ownership of the firm's shares, while other researchers found that the relationship between share ownership and firm performance was dependent on the level of ownership. The results suggest that increases in ownership above 20% cause management to become more entrenched, and less interested in the welfare of their shareholders.^[102]

Some argue that firm performance is positively associated with share option plans and that these plans direct managers' energies and extend their decision horizons toward the long-term, rather than the short-term, performance of the company. However, that point of view came under substantial criticism circa in the wake of various security scandals including mutual fund timing episodes and, in particular, the backdating of option grants as documented by University of Iowa academic Erik Lie^[103] and reported by James Blander and Charles Forelle of the Wall Street Journal.^[102][104]

Even before the negative influence on public opinion caused by the 2006 backdating scandal, use of options faced various criticisms. A particularly forceful and long running argument concerned the interaction of executive options with corporate stock repurchase programs. Numerous authorities (including U.S. Federal Reserve Board economist Weisbenner) determined options may be employed in concert with stock buybacks in a manner contrary to shareholder interests. These authors argued that, in part, corporate stock buybacks for U.S. Standard & Poor's 500 companies surged to a $500 billion annual rate in late 2006 because of the effect of options.^[105]

A combination of accounting changes and governance issues led options to become a less popular means of remuneration as 2006 progressed, and various alternative implementations of buybacks surfaced to challenge the dominance of "open market" cash buybacks as the preferred means of implementing a share repurchase plan.

Separation of Chief Executive Officer and Chairman of the Board roles

Shareholders elect a board of directors, who in turn hire a chief executive officer (CEO) to lead management. The primary responsibility of the board relates to the selection and retention of the CEO. However, in many U.S. corporations the CEO and chairman of the board roles are held by the same person. This creates an inherent conflict of interest between management and the board.

Critics of combined roles argue the two roles that should be separated to avoid the conflict of interest and more easily enable a poorly performing CEO to be replaced. Warren Buffett wrote in 2014: "In my service on the boards of nineteen public companies, however, I've seen how hard it is to replace a mediocre CEO if that person is also Chairman. (The deed usually gets done, but almost always very late.)"^[106]

Advocates argue that empirical studies do not indicate that separation of the roles improves stock market performance and that it should be up to shareholders to determine what corporate governance model is appropriate for the firm.^[107]

In 2004, 73.4% of U.S. companies had combined roles; this fell to 57.2% by May 2012. Many U.S. companies with combined roles have appointed a "Lead Director" to improve independence of the board from management. German and UK companies have generally split the roles in nearly 100% of listed companies. Empirical evidence does not indicate one model is superior to the other in terms of performance. However, one study indicated that poorly performing firms tend to remove separate CEOs more frequently than when the CEO/Chair roles are combined.^[108]

Shareholder apathy

Certain groups of shareholders may become disinterested in the corporate governance process, potentially creating a power vacuum in corporate power. Insiders, other shareholders, and stakeholders may take advantage of these situations to exercise greater influence and extract rents from the corporation. Shareholder apathy may result from the increasing popularity of passive investing, diversification, and investment vehicles such as mutual funds and ETFs.