Montréal, 13 mai 2000  /  No 62
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Dr. Younkins is a Professor of Accountancy and Business Administration at Wheeling Jesuit University in West Virginia.
by Edward W. Younkins
           Governance is the exercise of authority which involves not solely the right to direct but also to lead and to control within an organization. Two problems exist regardless of whether the organization operates within political society or within civil society: 1) How to accumulate the power and authority required to achieve the purposes of the association; and 2) How to limit the power and authority to specified areas rather than to allow it to overflow into areas that are not its concern. Although the same problems need to be addressed, governance within enterprise associations such as corporations is not at all like governance within a governmental body. Commercial activity conducted by corporations and by other forms of business is fundamentally different from the types of activity conducted by coercive governments.
Political Governance Requires Restraints of Power 
          Constitutional governments are characterized by specific restraints established by law and imposed on power holders to ensure that citizens' rights will not be transgressed. Constitutionalism embodies the principle that the government is organized by, and operated on behalf of the people, but subject to a series of restraints to keep power from being abused. By dividing power, constitutionalism provides a system of restraints upon coercive state action. 
          The basic idea underpinning restraints rests on the notion of a law higher than positive man-made law, and thus limiting the operation of the state. Natural law provides a criterion by which positive laws are judged. Another basic principle underlying the idea of limited government is that legitimate governments always rest on the consent of the governed. 
          What America has developed from the above ideas are: 1) A political system with a central-local distribution of power; 2) Subordinate distributions of power among agencies with functionally-defined realms of authority; 3) A chronological distribution of power through periodic and regular elections; and 4) A written constitution enforceable by the courts limiting the exercise of political power. Such restraints are appropriate for a system based on ideas such as force, taking and dispensing, obedience and discipline, hierarchy, tradition, loyalty and exclusivity, trust only of insiders, deception for the sake of the assignment, vengeance, ostentatiousness, etc. 
The Mistaken Call for Corporate Constitutionalism 
          Reformers have mistakenly called for constitutionalism, a principle of public government, to be applied to the operation of the private corporation. Their fear is that freedom, without the existence of constitutional restraints, may lead to corporate absolutism in the economic sphere. According to critics, the concentration of the control of property in the hands of a few managers, no matter how dispersed the actual stock ownership may be, threatens the idea of pluralism. What has resulted has been a call for the development of means by which the powers of these « private governments » can be moderated regarding those both inside and outside of the firm. 
          There has been a recent demand for due process in corporations. Critics argue that when a corporation has the power to affect a great many lives, it should be subject to the same constraints under the Constitution that apply to the government. Some have advocated the control of corporation by external agencies (e.g., federal chartering). Others have recommended control through internal, institutional devices such as: 1) stakeholder directors on the board; 2) social audits; 3) the preparation of community impact analyses; 4) the implementation of plant closing restrictions; 5) full-time, outside, professional directors; 6) ethics committees; and 7) separating the board chair (external) from the president (internal). 
          Some critics maintain that corporations, because of their size, special legal status, and economic, political, and social impacts, have as much public power as do states, and therefore, as « private governments » should be federally chartered, constitutionally limited, and held to higher levels of social responsibility than non-corporate firms. They argue that modern corporations represent large concentrations of power and have the potential to effect great changes in society. In other words, social responsibility arises from social power. Because corporations can affect the interests of others, they must be concerned with social responsibility. Advocates of corporate democracy theory even go so far as to call for restraints on the control of shareholders and managers so that the corporation can be run as a democracy in the interests of all of its constituents. Reformers have failed to recognize that commerce is essentially different from government and that methods appropriate to government are not germane to commercial enterprises. Unlike coercive governments, commerce is based on ideas such as trade, voluntary agreements, honesty, openness to strangers, competition, inventiveness, efficiency, initiative and enterprise, thriftiness, dissent for the sake of the job, etc. 
Corporations are Voluntary Associations 
          A corporation, man's voluntary approach to achieving economic competence, is created through the exercise of individual rights (i.e., freedom of association and freedom of contract). Men have an inherent right to form a corporation by contract for their own benefit and in their mutual self-interest. Based upon a consciousness of common interests, the corporation is an association of individuals who engage in a particular type of contractual relationship with one another in order to pursue common business objectives, is governed by rules of the individuals' own making, and is said to be able to assert rights and assume obligations. When rights and obligations are imputed to a corporation, what is really being referred to are the rights and obligations of its members who create and sustain it (i.e., the stockholders, directors, officers, employees, etc.). 
     « Ethically, a corporation's "power" is irrelevant. Unlike governments, they do not enjoy the power of coercion. The idea of a private government is oxymoronic. Only the state can force people to do things through its political, military, and police power. »  
          Corporations are properly viewed as voluntary associations and as private property. Arising from individual contracts, corporations are not the creation of the state – the state simply recognizes and records their creation in a similar fashion as it does with births, marriages, sales of real estate, etc. The corporate charter is merely the articles of incorporation which are not related to state authority and do not obligate the corporation to serve the public interest. Since corporations are not created by the state, the government has no authority to tell them what to do. 
          The state grants a charter as a legal technicality and neither creates nor changes the essence of these voluntary associations whose success depends upon the social bonds that unite their members and upon the human need for group membership. The state may choose to recognize these units but in so doing it simply acknowledges that which already exists. Corporateness is a right common to all persons. The corporation is an association of human beings bound together in order to achieve a purpose. Positive law alone cannot provide the community of purpose necessary for a corporation to exist. In fact, the equivalent of a corporation frequently exists in the absence of legal action. 
Corporate Governance Requires the Freedom to Create and to Execute 
          Michael Novak observes in The Fire of Invention: Civil Society and the Future of the Corporation that corporations are nothing like states. In government, executive power is feared and thus checked – in the corporation it is desired and therefore fostered. Since a corporation is not a political community, checks and balances are not appropriate to it. In a corporation the whole idea is to accomplish certain goals and to create something new. In government the point is to keep leaders from doing anything beyond their stated powers. In corporations we value swift action. Contrariwise, in government we desire judiciousness and deliberation. 
          Corporations are created by investors who have an idea, combine their resources, and attempt to create new wealth. The corporation can only survive and prosper if it meets the needs of its customers and the purposes of its investors including the provision of goods or services at a profit along with fiduciary care for resources invested in it.  
          A corporation is created to attain specific purposes. It follows that the problem of corporate governance is not to check power – it is to summon up and channel power toward the accomplishment of organizational objectives. No one should desire a « separation of powers » within a corporation. Executives must be permitted to execute. 
          With respect to corporate governance, owners are in sufficient control via the buying and selling of shares and other actions. Discontented shareholders may theoretically bring suit against the directors and managers when they spend the shareholders' money on unauthorized projects that are not in the owners' interest or engage in other ultra vires acts. However, it is more likely that they will vote against such directors, remove the managers, or simply sell their shares. 
          In a publicly owned corporation, the owners may be located all over the world. However, it is more probable that a large percentage of the shares of any major firm will be owned by particular mutual funds and pension plans, who act as proxies for a large number of individuals. The relationships between shareholders and corporate managers and shareholders and money managers are principal-agent relationships. The growth of mutual funds and pension plans means broader stock ownership and stronger pressure on behalf of stockholders to keep managers in line. Since directors of mutual funds and pension plans want to invest in highly profitable firms, there is a powerful motivation for corporate directors and managers to continue to work hard and creatively. Money managers, as agents of the absentee-owner shareholders, can vote a CEO out of office by taking control of the board of directors of his company or can sell the stock of companies from which they no longer expect competitive returns. 
          We are in an era of fiduciary capitalism in which there is a concentration of ownership in the hands of a relatively small number of decision makers. However, in fact, legal ownership is still widely dispensed and the fiduciary duty of the money managers of mutual funds and pension plans gives them the responsibility to exercise the powers of ownership. The fiduciary standard requires that the fiduciary take only those actions that a prudent person would take regarding the management of the resources entrusted to the fiduciary. In discharging their fiduciary duty, money managers purchase securities and vote proxies. In essence, they exercise ownership rights, although on behalf of their beneficiaries. 
          The idea of the morality of the principal-agent relationship is certainly not new. For example, consider the Biblical Parable of the Talents in which the master entrusted assets to three servants and then departed the country, thereby creating a situation involving the separation of ownership and control. Two of the servants invested the assets, were very productive, and therefore were rewarded when the master returned. The third buried the assets, returned them without every earning any interest on them, and was punished. This story clearly illustrates the idea that separating control from ownership does not strip the owner of his rights. Today, we've simply added the idea of the fiduciary responsibility of the mutual fund or pension plan manager as a middleman, between the owners and the managers of a corporation. 
Corporations Do Not Possess the Power of Coercion 
          Not only would constitutional measures reduce the efficiency and effectiveness of corporations, some (e.g., proposals for stakeholder and outside directors) would also ensure directors with relatively little relevant experience. More importantly, these measures would restrict the rights of private property owners. Ethically, a corporation's « power » is irrelevant. Unlike governments, they do not enjoy the power of coercion. The idea of a private government is oxymoronic. Only the state can force people to do things through its political, military, and police power. When a business offers a quid pro quo to its potential customers, employees, and others, it simply adds to their existing set of options – this in no way constitutes an exercise of power. Therefore, only governments should be constitutionally limited by legal restraints imposed on power holders to keep power from being abused. 
          What about the possibility of the abuse of power by individual managers over employees within a corporation? Certainly, corporations need to give authority to command others and provide the means necessary to gain obedience to these commands. Authority, the right to be obeyed by others, requires power. In a firm, authority and power should be restricted to assigned legitimate areas. Power exercised without authority is illegitimate. Surely, any well-run firm will have internal due process policies and procedures to provide some assurance of non-arbitrariness by requiring those who exercise authority to justify their actions. In a free society, if management's order is not agreeable to a worker who believes it to be arbitrary or not within the manager's legitimate sphere of authority the worker can choose to: 1) initiate the firm's due process procedures; 2) practice constancy by ignoring the manager's overstepping of his authority by looking toward longer-run goals; or 3) terminate his relationship with the company. 
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