Corporate Governance and the Impact of Controlling Shareholders

Bernard S. Sharfman

Abstract

Good corporate governance practices at a publicly held firm will not necessarily be good practices at a publicly traded firm in which there is a controlling shareholder. This is because board independence, a key concept in structuring appropriate corporate governance practices, has a different meaning when a controlling shareholder is present.

However, identifying whether or not a board is truly independent is just the first step in evaluating the quality of corporate governance at a controlled corporation. After all, a controlling shareholder still has the power to dominate an independent board through his direct voting power and by threats of removal. Therefore, a proper evaluation requires knowledge of those corporate governance practices that a controlled company uses to monitor and manage the decision-making influence of the controlling shareholder. Furthermore, to make sure these practices are optimal, a subjective analysis of just how the controlling shareholder interacts with the board is required. In addition, the focus of such a subjective analysis must go primarily to an evaluation of the character of the controlling shareholder and his/her motivations regarding the welfare of the company.

This paper explores how the personality of the controlling shareholder will also play a role in determining the most optimal corporate governance practices. In doing so, this paper takes the perspective of an institutional investor who is a current or prospective shareholder of a controlled corporation and is trying to evaluate the company’s corporate governance practices or determine what changes may be necessary at the controlled company to increase value to all shareholders. An institutional investor will often find it necessary to do so because a significant number of public companies worldwide have controlling shareholders.