U.S. Corporate Governance, Part I: An Invisible Individual

It is difficult to miss that we are in perhaps the most contentious election season in our lifetimes. I think it is important to look at the larger picture of the U.S. political scene before getting too excited about the prospect of Democratic gains in November. Of course, I look forward to the day when many of the GOP congressmen turn in their public official status for pricey jobs as think tank consultants, pundits, lobbyists, or corporate directors, but I have to be realistic. Any Democrat, and most conservatives, would be far superior to the current class of rubber stampers (to follow GWB's wordmaking). However, the nature of political discourse in this country is limited to a very small portion of what is actually legitimate debate.

The reason for this, I believe, lies in the legal structure of our corporate governance. It will take some time to explain, but I refer to this concept often in many other posts and I want to make sure that at some point, I explain exactly and clearly what I mean.

The corporation is a group of people, but is a separate entity from those people. In our legal system, we have afforded that entity the legal status of a person (more on that to come).

Back to the people who make up the corporation, there are several classifications of people in the corporation. The most important distinction to make is between 1.) the people who own the corporation (who can be called members, investors, owners, shareholders) and 2.) the employees of the corporations. Either of these groups can be members of the other, but that is not necessary. Often an employee, or a board member (which we will come to soon) will own shares and be a member of both groups. In large corporations until recently employees often participated in ownership through stock option programs. It is not mandatory for an employee to own shares in a corporation.

Now that we have some idea of the people in the corporation, let's spend a minute on which of those people control the corporation. Under all of the corporate governance statutes in the U.S. ,the board of directors is responsible for the conduct of the corporation's business. However, the corporation's board of directors usually delegates the day-to-day responsibility to the officers and employees (who may or may not also be its owners, remember). The chair(man or woman) of the board is the person who runs the meetings of the board of directors and usually has somewhat elevated status thought not necessarily any more authority than any other director.

The title of President or Chief Executive Officer (CEO) is bestowed upon the person who manages the day-to-day responsibility, hired by the board. The CEO is responsible for hiring the staff and implementing the policies that the board sets.

Finally, a few words are due about the owners or shareholders. While they technically own the corporation, they have very little say in the operation of it. In theory, they have certain checks on the operation of the corporation such as they can vote for directors, initiate derivative lawsuits, or sign letters to the board demanding a CEO be fired, but their real power is essentially limited to selling off their shares if they disagree. Obviously, if enough people do this, the share price drops and the board is forced to change course (which usually means laying off 5,000-10,000 employees). However, a single shareholder, while technically a partial owner, has virtually no power.

There are publicly traded corporations whose shares are available on exchanges and closely held corporations which cannot be bought and sold on the open market. A corporation is formed with its founders or promoters incorporate, meaning they create a separate entity through which they can continue to do business, but for which they cannot be held liable. There are many reasons people form corporations but most of them have to do with protecting their investment which ultimately means maximizing their profit. Therefore, the corporation is an ideal way to do this although some tax implications may make a Limited Liability Company or Limited Liability Partnership more appropriate. Often an insurance carrier will only agree to ensure a business if it is a separate entity like an LLP, LLC, or a corporation.

Another word or two is necessary about the theory and practice of a corporation.These organizations are often very large with millions of dollars of capital and thousands of employees, but in the end, they always start with few member, promoters, or employees. Therefore, most of them reach the highest peak of the corporate world--to become a publicly traded, through the personality cult of its founders. They are often visionaries for good or for evil.See Apple, Microsoft, Cisco, or HP. You can safely include Enron in this group as well. These individuals are required to adhere to strict regulations from the Securities and Exchange Commission. Often these regulations do not fit well into the management structure that existed before the corporation become publicly traded.

When laws make powerful people feel oppressed, they agitate for change. Of course, that is not the only reason these people influence laws. They also do it in order to create environments in which their investment will flourish--to maximize their profit. The subject of Part II will discuss the legal responsibilities of the shareholders, officers and directors of the corporation.

Tags: corporate governance, corporation, board of directors, CEO