SOX and Globalisation

Squeezing a balloon at one end results in a bulge at the other end. Economists use this “balloon effect” to describe occurrences where a squeeze on supply of a good or service in one location leads to a price rise for that good or service which in turn stimulates suppliers to find other supply locations. It has been used to describe failed policies, for example, in drug enforcement and the provision of healthcare services. To that list can now be added corporate governance.

The “squeeze” is represented by the Sarbanes Oxley Act (known inelegantly as “SOX”), legislation enacted in the United States in response to scandals such as Enron, Global Crossing and WorldCom. Amongst other things such as detailed reporting requirements and elevated auditing standards, this legislation prescribes severe sanctions against corporate officers who fall foul of its provisions.

The “bulge” is the unsurprising result of this heightened corporate risk whereby non-US companies seeking to list their shares on a global basis have started to show a marked preference for the London Stock Exchange (LSE) as opposed to New York. Why expose yourself to criminal liability if you do not have to? When asked what the strategy was to make London the world’s premier financial centre, London’s mayor Ken Livingstone is reported to have replied simply “Sarbanes Oxley”. A report commissioned by New York’s mayor, Michael Bloomberg, forecasts 60,000 job losses in the big apple over the next five years. In 2006, for the first time ever, more money was raised on the LSE than on the New York Exchange and Nasdaq (which is itself trying to take control of the LSE).

On the one hand this is a case study on how regulation can have unintended consequences and on the other it highlights the tensions of national governance systems in a globalised world. Corporate governance is affected by globalisation in two ways. First, as trade barriers erode and firms compete internationally the competitiveness or otherwise of a specific governance regime becomes an issue for national policy makers. Secondly, cross border investment drives shareholders to avoid firms with perceived sub optimal governance in favour of those with a regime more likely to increase the value of their stock. So there is a strong pressure for convergence of global governance standards. At the same time, national governance regimes are the products of different legal, cultural and historical traditions and a countervailing pressure exists for national governance features to persist.

Anglo American governance is a case in point. The US and UK appear to share a model of corporate governance with both having a common law legal system, transparent disclosure regimes, unitary company board structures, shareholder value and market confidence as corporate objectives, dispersed share ownership with institutional ownership of most shares. The reality is that great differences exist. In the UK the Combined Code of corporate governance is the cornerstone of a “comply or explain” principles based approach. It is backed up by a robust system of company law and market regulation. Shareholders hold real power and influence to hold boards to account. The US approach is a regulator led system mainly enforced through the SEC, listing rules and state law. There is no governance code and shareholders’ main means of board engagement is through proposing non-binding resolutions for companies’ annual meetings during the spring and smaller autumn proxy seasons.

The flight to London is a nice demonstration of both globalisation factors at work. First, speculation is firming that US policy makers in Congress (now solidly Democrat after the mid term elections) will ease SOX in response to business concerns in return for measures sought by shareowners, such as majority rule for director elections and “access to the proxy” so investors can nominate and challenge board members. Secondly, firms listing in London over New York can be seen to be aiding firm value by avoiding the great cost and complexity of SOX compliance.

With historical ties to the UK model and with strong and immediate ties to the Australian model, New Zealand is still influenced by US trends. At the same time the Indian, Chinese and Asian markets are developing their own distinctive governance models. As a small and distant exporting nation looking to raise exports and key productivity measures New Zealand has a strong interest in both the competitiveness of its national governance regime and the attraction of its firms’ governance to investors and stakeholders.