Emerging Trends in The Social and Behavioral Sciences

Stability and Change in Corporate Governance

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Stability and Change in Corporate Governance

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Stability and Change in Corporate
Governance
GERALD F. DAVIS and JOHAN S. G. CHU

Abstract
Corporate governance describes the process that allocates power and resources
within organizations and the societal institutions that shape how they look, how
they make decisions, and how the proceeds from their activities are divided.
Research and theory traditionally focused on the institutions that overcome the
separation of ownership and control created by dispersed shareholdings. Critics
noted that this problem was distinctively American, and that corporate governance
is shaped by history, culture, and power. We describe several domains for productive
future research that is comparative, historical, and attentive to power dynamics.

INTRODUCTION
Corporate governance describes the process that allocates power and
resources within organizations and the societal institutions that shape how
they look, how they make decisions, and how the proceeds from their
activities are divided. Because corporations are central economic actors
in essentially all advanced economies, understanding how they are governed is an important topic for scholars of business, law, political science,
economics, and sociology, and each of these disciplines has contributed to
understanding corporate governance, making it one of the most vibrant
interdisciplinary topics of research (Blair, 1995; Shleifer & Vishny, 1997).
At the narrowest level, corporate governance concerns the operations of
boards of directors of public corporations. Researchers sought to understand
how boards are staffed, how their decisions are made, how they connect
with their constituencies, and how they influence corporate financial performance. But this narrow conception neglected the broader institutions
in which boards were embedded. In the United States, whose system of
corporate governance has received by far the greatest attention, public
corporations sit at the center of a matrix of institutions that are all more or
less calibrated by the stock market. Executive compensation is designed to
Emerging Trends in the Social and Behavioral Sciences. Edited by Robert Scott and Stephen Kosslyn.
© 2015 John Wiley & Sons, Inc. ISBN 978-1-118-90077-2.

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align the interests of managers with stock price performance. Accounting
firms audit corporate books to verify that they fairly represent the company’s
financial situation. Financial analysts investigate companies and compare
them to competitors to determine whether they are a good investment.
Institutional investors make their preferences known to management and
the board and vote their preferences in annual elections. Corporate law in a
firm’s state of incorporation lays out the responsibilities of management and
the board with respect to shareholders, and stock exchanges promulgate
standards of good governance that listed firms are obliged to follow.
Scholars of law and economics documented the interlocking workings of
these various institutions and along the way created a wiring diagram for
shareholder capitalism, that is, how to organize an economy around publicly traded corporations. After the Mexican debt crisis of 1982, developing
countries around the world opened up stock markets to gain access to foreign investment capital, and with the collapse of the Soviet Union, nations
in Central and Eastern Europe created stock markets as a device to privatize state-owned enterprises, creating thousands of new public corporations
virtually overnight.
By the 1990s, the public corporation had become a pervasive feature of
nearly all industrial economies. As a result, corporate governance became
an essential domain of study across several disciplines. Because the United
States had the most extensive experience with public corporations, and the
largest installed base of governance scholars, theory about corporate governance based on the American experience became a kind of master key to
understanding corporations around the world, both descriptively and prescriptively. Yet as we describe in this article, the American approach to corporate governance was quite idiosyncratic, and experience showed that its
applicability around the world was problematic at best.
In this essay, we describe the history of the study of corporate governance,
particularly in the United States, and how it came to be a performative theory, thus shaping the object it purported to describe. We assess the critiques
that arose, largely within sociology, and how these challenged the status of
this theory. We then describe a set of emerging research domains in corporate governance that merit further development, and suggest specific topics
worthy of future study.
FOUNDATIONAL RESEARCH
The central problem of corporate governance is how to structure corporations, particularly at the top level, so that they pursue their intended ends
effectively. The “intended end” of the corporation is typically assumed to
be profit. “Effectively” pursuing this end commonly means maximizing

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long-term profitability. In the case of privately owned corporations, the
problem is not especially interesting, as the people who own the company
also generally control it. Family businesses and partnerships may be
fascinating in their own right, but their governance is not.
Corporate governance becomes interesting when ownership and control
are separated. This situation began to emerge at a large scale during the first
decades of the twentieth century in the United States, when giant corporations serving continent-wide markets emerged. Companies such as US Steel,
General Electric, and AT&T, created around the turn of the century, required
capitalizations in the hundreds of millions of dollars—far too much to be
met via family ownership—and thus their ownership shares were sold to
the public. Within a few years, the ownership of dozens of large corporations had become so dispersed that no single individual or group owned as
much as 5%. Meanwhile, the executive ranks were increasingly filled with
professional managers, not family members of the founders.
This was the situation described by Berle and Means in their 1932 classic The Modern Corporation and Private Property. Berle (a lawyer) and Means
(an economist) found that nearly half of the 200 largest public companies in
America lacked a significant ownership block, which they argued gave the
executives at the top substantial autonomy to choose their own goals for the
corporation. “Ownership of wealth without appreciable control and control
of wealth without appreciable ownership appear to be the logical outcome of
corporate development … for practical purposes that control lies in the hands
of the individual or group who have the actual power to select the board of
directors.” Moreover, this group was relatively concentrated, as “the ultimate
control of nearly half of industry was actually in the hands of a few hundred
men.”
For the next 40 years, scholars debated the consequences of the separation of ownership and control in corporations for business and for society at
large. Sociologist Ralf Dahrendorf (1959) stated that there was “an astonishing degree of consensus among sociologists on the implications of joint-stock
companies for the structure of industrial enterprises, and for the wider structure of society.” Profit maximization had little relevance to contemporary corporations: “Never has the imputation of a profit motive been further from the
real motives of men than it is for modern bureaucratic managers.” Further,
class conflict between owners and workers had effectively dissolved; contemporary class conflict took place within the enterprise, not in the broader
society.
Economist Carl Kaysen (1957) described how the effective irrelevance
of shareholders had freed corporate managers to pursue broader social
goals: “No longer the agent of proprietorship seeking to maximize return
on investment, management sees itself as responsible to stockholders,

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employees, customers, the general public, and, perhaps most important, the
firm itself as an institution.” Moreover, “Its responsibilities to the general
public are widespread: leadership in local charitable enterprises, concern
with factory architecture and landscaping, provision of support for higher
education, and even research in pure science, to name a few” (Kaysen,
1957, pp. 313–314). So-called managerialist economists such as Robin Marris
(1964) examined the consequences for industry if firms pursued growth
(which served their own interests) rather than profitability (which served
the interests of shareholders).
Yet, not all scholars were convinced that Berle and Means had got it right.
Henry G. Manne, a pioneer in the “law and economics” movement, argued
in 1965 that managers could not completely ignore their shareholders. The
stock market’s evaluation provided a day-to-day report card on managerial
performance, and if companies performed badly enough to drive share price
down to below the company’s true value, outsiders had an incentive to buy
the company from its shareholders (a “hostile takeover”), fire the incumbent
managers, and fix the company for a quick profit. This so-called “market
for corporate control” placed a lower bound on how much managers could
ignore their shareholders and get away with it.
Subsequently, financial economists extended this reasoning even further.
In one of the most frequently cited articles ever published in economics,
Jensen and Meckling (1976) argued that there was a basic logical flaw in
Berle and Mean’s case. Why would shareholders invest their money in
companies run by managers who ignored their interests—not just once, but
over and over again? And how could an entire economy be comprised of
such companies? There must be some hidden order that the conventional
accounts had missed—the corporate equivalent of gravity.
The gravity that ruled the corporate order turned out to be shareholder
value, or more precisely the stock market’s ability to value the corporation
accurately. Finance scholars had showed that share prices responded quite
quickly to new information about a company’s likely future profitability.
The evidence was consistent with the “efficient market hypothesis,” that is,
the claim that financial markets (under some fairly lenient conditions) are
remarkably effective at yielding the best available estimate of a financial
asset’s true intrinsic value. In short, the stock market is smarter than any of
its participants at coming up with a price through the buying and selling
of large numbers of dispersed investors (Malkiel, 1996). Thus, when management makes an announcement about an acquisition, or a new product
launch, or an executive change, the stock market will quickly adjust the
share price to reflect whether this was a good idea. This in turn gave those
who ran the company strong incentives to be able to announce actions that
were good for shareholders.

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Working backwards from this basic premise, economists derived an entire
theory of the corporation and its surrounding institutions. The theory was
essentially a functionalist theory of corporate governance. Much as sociobiologists deduced the function of various social structures in terms of how they
enhanced reproductive fitness, financial economists deduced the function of
corporate governance in terms of their ability to enhance shareholder value.
The main institutions included the following:
•

•

•

•

•

•

The board of directors, which was argued to be comprised of relevant
experts concerned about their reputation (Fama and Jensen, 1983).
Research here examined questions about the performance implications
of board composition (insiders vs outsiders), size, and structure (e.g.,
was the CEO also the Chairman of the Board), as well as how directors
are recruited and retired.
Ownership structure, that is, the size of outside ownership blocks
and the level of ownership by executives and directors. Studies here
document the causes and performance consequences of large ownership
blocks and the differences among different types of outside owners
(Demsetz & Lehn, 1985).
Executive compensation practices, which should presumably work to
align the incentives of executives with the interest of shareholders by
tying their wealth to share price performance. Scholars have examined
in great detail the antecedents of the amount and composition of managerial salaries and stock grants.
The market for corporate control, that is, the mechanisms by which
outsiders are able to take control from incumbent managers. Here,
researchers have examined why corporations become subject to outside
takeover bids, and what their managers can do in response (Davis &
Stout, 1992).
Corporate law, and in particular how companies choose to incorporate
where they do. In the United States, businesses have great discretion
over what state they choose to incorporate in, and states implicitly
compete to attract this business by enacting business-friendly laws,
with Delaware emerging as the most significant place of incorporation
(Romano, 1993).
Professional gatekeepers such as auditors, underwriters, and financial
analysts, whose job is to uphold standards of transparency and accountability in corporate management (Coffee, 2006).

Critics have contended that the theory of corporate governance in financial
economics was more of a stylized blueprint than an established fact. Yet,
its impact on public policy was undeniable, particularly within the United

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States. The concept that public corporations exist to create shareholder
value, paired with the efficient market hypothesis, created the basis for the
shareholder value movement of the 1980s and 1990s (Useem, 1996). This
movement sought to make reality better match the world described by
financial economists, and in that sense the theory was “performative”: the
theory, to some extent, created the world that it was intended to describe
(Callon, 1998). For example, corporate takeovers were of relatively trivial
importance when Manne (1965) wrote his famous article about the market
for corporate control, and it only gained substantial economic significance
after a set of policy changes put in place by the Reagan White House by
lawyers and economists who had been schooled in Manne’s thinking (Davis
& Stout, 1992). During the decade of the 1980s, more than one-quarter of the
Fortune 500 largest industrial corporations faced a takeover bid, and one in
three ultimately merged or were acquired.
In response to this threat to their control, managerial elites increasingly
sought to demonstrate their allegiance to shareholder value through devices
such as restructurings, layoffs, stock buybacks, and compensation schemes
that relied heavily on stock options. Meanwhile, owing to changes in tax
regulations in 1981 that encouraged companies to sponsor “defined contribution” pension plans, in which employees place their retirement savings in
accounts invested in the stock and bond markets, an increasing proportion
of the US population found themselves investing in the stock market. The
proportion of households owning shares increased from about one in five
in 1980 to more than half by 2000, which further reinforced the ideology of
shareholder capitalism (Davis, 2009).
By the turn of the twenty-first century, shareholder capitalism and the
finance-based theory of corporate governance had substantially reordered
the corporate sector in the United States. Corporations went from being
diversified conglomerates oriented toward ever-increasing growth in revenues, to being lean outsourcers monomaniacally focused on increasing
their share price. Profitability shifted from being the furthest thing from
managers’ minds to the only thing that mattered.
CUTTING-EDGE RESEARCH
Newer scholarship, as well as events in the world, mounted a challenge to the
dominant approach to corporate governance. Theories often face challenges
from occasional anomalies. In the case of the functionalist approach to corporate governance, however, a skeptic might conclude that the theory—so elegant on its own—was empirically wrong in nearly every particular. Research
on boards of directors showed them to be rife with cronyism and conflicts of

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interest, from how appointments are made to who has influence in discussions (e.g., Westphal & Poonam, 2003). The market for corporate control was
shut down by 1990 through the spread of firm-level takeover defenses and
state laws protecting their local companies from unwanted takeovers (Vogus
& Davis, 2005). And the scandals of the early 2000s demonstrated that auditors such as Arthur Andersen, underwriters such as Citigroup, and equity
analysts such as Jack Grubman were rife with conflicts of interest (Davis,
2009). The Panglossian understanding of the corporation proved to be highly
misleading in practice. As a performative theory, on the other hand, this
approach was quite effective in changing the ideology around corporate governance. Within the United States, discussions of corporate purpose almost
inevitably yielded to a single-minded focus on shareholder value.
In this section, we briefly review the critiques and challenges to the functionalist approach. In the next, we describe potentially productive avenues
of future research.
One challenge is that the form of corporate governance that the theory contemplates is distinctively American. The notion that the central problem of
corporate governance is addressing the issues that arise from the separation of ownership and control is premised on an economy similar to that
described by Berle and Means, in which the public corporation with dispersed ownership is the dominant form of economic organization. In fact,
the corporation is of relatively minor importance in many economies around
the world. Most countries in the world do not have a stock market; public
corporations do not exist.
Even in some highly advanced industrial economies, corporations are of
modest importance. For example, by 2010 Germany had roughly 600 public
corporations—about as many as Pakistan, and far fewer than the United
States, with 4300—in spite of being one of the largest exporters in the world
and a global manufacturing powerhouse. Medium-sized private companies,
often family-owned, continue to be a dominant force in the economy, and
relied largely on banks rather than public markets for financing. The public
corporations that do exist generally have labor represented on the board
of directors through up to half of the directors. Japan has historically had
the second-largest economy in the world, and although it has thousands of
public corporations, their ownership is often intertwined through elaborate
cross-shareholding networks with other corporations. Unlike the United
States, where boards have about 10 members, of which 8 or 9 are from
outside the companies, Japanese corporations commonly have boards with
40–50 members, nearly all current or former managers. Romania, on the
other hand, went from having four listed companies in 1994 to 5825 in 1999,
according to the World Bank. (By 2011 it was down below 1300—still twice
as many as Germany.)

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Moreover, those countries that sought to adopt shareholder capitalism
along the lines described by the functionalist theory often failed miserably.
Of the four dozen countries that opened stock markets during the 1980s
and 1990s, many or most found their experiment to be failures (Weber,
Davis, & Lounsbury, 2009). After the bursting stock market bubble of 2000
and the subsequent corporate governance scandals—and the rise of China,
where American-style corporate governance has little relevance—corporate
governance no longer seemed to be an especially relevant prescription for
economic vibrancy.
Some research suggests a number of reasons why shareholder-oriented
corporate governance was unlikely to take hold everywhere in the world. A
series of studies in law and economics (La Porta, Lopez-de-Silanes, Shleifer,
& Vishny, 1998, 1999) showed that the nature of the legal system and related
supporting institutions that articulate with the corporation are essential
for enabling the corporation to survive. Such laws and institutions are by
no means evenly distributed; for instance, former French colonies that had
code law (rather than Anglo-style common law) are effectively immune to
growing a domestic stock market, and therefore public corporations (Weber
et al., 2009).
A second challenge is that corporations wax and wane over time, as
do notions of their purpose. Although corporations are often seen as the
paradigmatic form of economic organization in the United States, there were
fewer than a dozen manufacturers listed on stock markets in the United
States before 1890 (Roy, 1997). By 1910, the United States and Germany
shared relatively similar forms of “finance capitalism” in which a handful
of major banks held substantial positions of influence through shared
directors—a situation that persisted in Germany but disappeared in the
United States around the time of the First World War (Rajan & Zingales,
2003). From Berle and Means until the 1980s, corporations in the United
States were social institutions serving a variety of stakeholders, as described.
But from the early 1980s onward, corporations in the United States increasingly came to look akin to the finance theory of corporate governance. What
had initially been put forward as descriptive theory ended up serving as
prescriptions for how corporations should be operated. Thus, corporate
mission statements almost inevitably alluded to an overriding purpose of
“creating shareholder value,” and compensation systems overwhelmingly
emphasized stock-based incentives.
A third challenge is that the functionalist theory leaves little room for power
and politics. Even during the heyday of the managerialist corporation, critics
such as C. Wright Mills (1956) described how corporate executives and directors formed a “power elite” with privileged access to political power. Berle
and Means had noted that a few dozen men effectively controlled half of the

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corporate wealth in America. Mills pointed out that these men all seemed to
know each other or to have friends in common. The potential of this group to
shape national decision making was enormous, and scholars spent decades
documenting the many ways that this group operated as a more-or-less cohesive class. Sociologist Michael Useem (1984) interviewed dozens of directors
in the United States and the United Kingdom to understand the culture and
goals of this elite inner circle, finding that the best-connected directors were
also the ones most prone to enter into politics and to serve on prominent
public policy bodies. He argued that their experience on boards in several
industries gave them a cosmopolitan view of the interests of business that
transcended a parochial industry focus, enabling them to be essentially “corporate diplomats.”
In the subsequent 30 years, the nature of the corporate elite changed. While,
essentially, all members of the inner circle in the 1970s were white males,
typically from elite backgrounds, the demography of the inner circle became
substantially more diverse during the 1980s and 1990s as boards sought to
have more representative compositions (Davis, Yoo, & Baker, 2003). Since the
turn of the twenty-first century, however, the inner circle has substantially
retrenched. While at least 90 directors served on five or more major corporate
boards in 1974 (all male, and almost all white), and 75 directors held five or
more directorships in 1994 (many female and/or nonwhite), by 2010 there
was only one left: Shirley Ann Jackson, president of Rennselear Polytechnic
Institute (Chu, 2012). The inner circle had evaporated.
Finally, the corporation itself is much reduced in its power and “institutionality” within American society, creating the need for a new understanding of
corporate governance. While there were roughly 8800 public corporations in
the United States in 1997, there were only 4100 in 2012, and the number had
declined almost every year since the turn of the millennium. Major corporations that held dominant positions for most of the twentieth century, such as
AT&T, Eastman Kodak, US Steel, and Westinghouse, had either disappeared
or substantially retrenched. The corporation itself is increasingly a dispensable device for economic organization (Davis, 2013).
In the next section, we work through some of the most promising research
implications of this new situation.
KEY ISSUES FOR FUTURE RESEARCH
The developments described in the previous section suggest the need for
research on corporate governance that is comparative and historical. By
stepping beyond the idiosyncratic world of American corporations in the
late twentieth century, we can start building alternative theories to explain
the differential workings of corporate governance across time and space.

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Consider the base premise of agency theory, that the primary problem
to be solved is the separation of ownership and control. This may be a
distinctively American or Anglo-Saxon problem. Does the theory provide
insight in other settings?
In the United States, the dispersion of corporate ownership has been taken
for granted since Berle and Means published their book in the early 1930s.
Yet, this situation was almost completely idiosyncratic to the United States.
As late as 2000, the average foreign firms listing shares on US markets had
a single shareholder that owned 23%; in Chile, the average firm’s biggest
shareholder owned 47% of its shares (Davis & Marquis, 2005). The separation
of ownership and control is irrelevant in these situations.
Even in countries where the formal mechanisms of corporate governance
cleave truer to those in America, a deeper investigation shows that norms
of governance differ. For example, Fiss and Zajac (2004) found that many
of the largest German firms paid lip service to ideas of shareholder value,
but did not substantially implement shareholder-value-oriented reforms.
While agency theory predicts that a shareholder-value orientation will
diffuse under pressure from market forces, Fiss and Zajac instead found
that the adoption or nonadoption of a shareholder-value orientation was
driven by sociopolitical considerations, which were reflected in the interests
and backgrounds of powerful owners and executives. Future research can
document in greater detail what institutional, legal, and cultural factors are
more or less congenial to Anglo-American forms of corporate governance,
and what other forms are prevalent.
In some ways, the diffusion of public corporations and their governance
mechanisms across nations resembles the diffusion of curry around the
world. While curry originated in the Indus Valley, it is now a worldwide
phenomenon, with at least 30 different nations producing their own unique
interpretations. Although all are called “curry” (an Anglicization of the
Tamil word kari) in the English-speaking world, the curries of one country
are different from those of another; some countries’ curry is spicy and
others’ not (e.g., Japan), some countries eat their curries wet and others dry.
In the end, the term “curry” is applied to many dishes in many places, and
there is no single ingredient or characteristic that essentially defines curry
throughout the world.
Similarly, it is hard to find a sine qua non in corporate governance structures
across different countries. For example, if we ask what the purpose of a corporation is, the answers will differ depending on where we ask the question. In
China, the answer may be that corporations exist to create employment and
to confer legitimacy on state-owned enterprises through listings on foreign
exchanges. Lichtenstein corporations serve the function of reducing taxes
for their owners, while increasing Lichtenstein’s national income. Liberian

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corporations similarly serve to provide funds for the state, and Liberian corporate governance is geared to optimizing this revenue.
On the other hand, we may find contingent relationships that hold across
countries. In countries where public corporations are consequential, we may
ask how power relations in society are reflected in the nature of corporate
governance. If the nature of decision-making structures within organizations
reflects power and legitimacy in society (Stinchcombe, 1968), then examining
corporate governance will give us an insight into society, and vice versa. For
example, studying the power of labor in German corporate governance and
the involvement of dominant families in the governance of Chile’s corporations will illuminate power structures in German and Chilean society. Using
corporate governance as a synecdoche for power relations in the broader society is an apt domain for future research.
Political scientists and economists have noted that the structure of business organization reflects the “institutional matrix” in which it is embedded
(North, 1990). A national economy can be analyzed as a configuration of institutions that provide order to product markets, labor markets, capital markets,
education, and social welfare provision (Amable, 2003). For an economy to
function, these elements need to be more or less mutually supportive. The
form of the corporation or other business organizations reflects the format of
this national institutional matrix. Different kinds of business are more likely
to thrive in different kinds of matrix; for instance, Germany hosts high-end
manufacturing firms because medium-sized firms that are privately owned
can credibly promise long-term employment, which encourages workers to
invest in specialized skills that are provided by a craft-oriented educational
system and underwritten by a sturdy social welfare system and a tolerance
for oligopoly. In the United States, the inherent instability of the public corporation discourages workers from learning such specialized skills.
The financial revolution of the past generation greatly expanded the potential for market-based finance in economies around the world. This may have
been a disruptive force for local economies, for better or worse. In Israel,
entrepreneurs needing capital found that they could bypass the Tel Aviv
stock exchange and list shares in the United States, helping to prompt a surge
of new business starts and IPOs in the high-tech sector. Access to foreign capital effectively super-charged the high-tech economy. In Iceland, on the other
hand, three domestic banks found that they were able to lure foreign depositors via the Internet with promises of higher interest rates than the depositors’
domestic banks could pay. Flush with foreign cash, the Icelandic banks went
on a global acquisition spree vastly out of proportion to the domestic economy until the financial crisis of 2008 cratered the economy, leaving thousands
of foreign depositors bereft. One of the great under-researched topics of the

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past two decades is how hypertrophied finance influenced the operation of
domestic economies, for better or worse, and with what social effects.
Variance in corporate governance is not just cross-national, but also
temporal. American corporate governance is currently undergoing a radical
transformation. The rise of financial capitalism and its emphasis on return
on assets has led corporations to favor maintaining low-asset functions
(e.g., brand management, marketing, design) within the firm while outsourcing capital-intensive functions (notably manufacturing) to external,
often foreign contractors. Technology has developed to support the needs
of these now-networked firms, and this, along with an explosion in the
number of organizations offering contract manufacturing and other laborand capital-intensive services, has led to a decoupling in the hitherto strict
relationship between number of employees, capitalization and revenues.
Through outsourcing, companies can be big in revenues and market
capitalization but small in employees.
In a world where large capital investments are no longer required to attain
high revenues, the function of public stock markets is called into question. If
entrepreneurs can obtain sufficient growth funding from private investors,
crowdsourcing and customer sourcing (e.g., Kickstarter), and ongoing operations, they will not need to turn to public markets for their capital needs.
Initial public offerings may become a symbolic action, signifying that the
company is large enough and robust enough to thrive even when burdened
with the costs of the regulatory compliance measures necessitated by listing
in the United States.
Changes in the function of stock market are already in evidence in the dying
“market for corporate control.” While anti-takeover measures adopted in the
late 1980s may have maimed this market, index-based mutual funds and
new IPO structures have effectively killed it. Key executives at Facebook,
Groupon, and Google control the super-majority of votes with a minority
of shares, putting the lie to notions of agency-based market mechanisms for
maximizing shareholder value (Davis, 2013).
Indeed, it now seems plausible to ask whether public corporations exist
to support the stock market’s valuation function rather than the other way
around. Increasingly, even large companies are choosing to forgo public
exchange listing, and previously public companies are choosing to delist.
This trend is bolstered by the proliferation of private equity and hedge funds
that provide alternative sources of financing. These funds, however, have a
business model predicated on eventual (re-)listing of their portfolio companies on public markets. (Although in practice, most private-equity-owned
companies end up being sold to other private equity funds or to other private
companies.) Without at least the facade of an open, efficient marketplace
for corporate shares (Malkiel, 1996), there is no widely accepted alternative

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to value this “exit” option for private equity investors. If the number of
publicly listed corporations in the United States continues its decline, market
participants may be forced to redefine how they agree on corporate value.
One possibility is that we may return to something akin to the stakeholder
model prevalent before the rise of shareholder capitalism. Activists have
already been pushing for nonshareholder-centric ways of valuing corporate
decisions, suggesting pro-social corporate forms such as Certified B Corps
and L3Cs. B Corporations, or “for-benefit” corporations, are chartered
specifically to serve social as well as economic purposes, freeing their boards
and managers to take nonshareholder constituencies into account in their
decisions. L3Cs are “low-profit limited liability companies,” which organize
as limited liability companies (LLCs) and not nonprofits, but pursue social
purposes and are able to accept donations toward their missions. Many of
these suggested alternatives hark back to Kaysen and his conceptions of
managers involved in increasing the public good.
In this section, we have presented a series of stylized facts and questions
about corporations and their governance across the world and in America,
but few answers. As a research community, we have little systematic comparative data on corporations in different countries. We also lack insight into
how the American system of corporate governance will evolve, and cannot
confidently predict what corporations or their descendants will look like in
the future.
American corporations have lent themselves to easy study, regularly
publishing standardized information that can be agglomerated to create
systematic time-series data that are reasonably comparable across corporations. Perhaps because of this easy data access, researchers have shown
a disproportionate interest in the corporation, while tending to ignore
contemporary organizational alternatives, such as mutuals, cooperatives,
and private companies. To attack these questions, researchers will have to
expand their scope of inquiry.
They will also need to be strongly grounded in finance, attentive to institutions, and have an understanding of the dynamics of globalization. Sources
of financing shape (and are shaped by) the organization of production and
the organization of society. Institutions are the devices that channel and constrain economic relations, and the battlefields of conflicting interests. Capital,
goods, and labor are no longer constrained to national boundaries, and nothing exemplifies this as well as the modern corporation.
REFERENCES
Amable, B. (2003). The diversity of modern capitalism. Oxford, England: Oxford University Press.

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Berle, A., & Means, G. C. (1932). The modern corporation and private property. New York,
NY: MacMillan.
Blair, M. M. (1995). Ownership and control: Re-thinking corporate governance for the
twenty-first century. Washington, DC: Brookings Institution.
Callon, M. (1998). Introduction: The embeddedness of economic markets in economics. In M. Callon (Ed.), The laws of the markets (pp. 1–57). Oxford, England:
Blackwell.
Chu, J. S. G. (2012). Who killed the inner circle? The end of the era of the corporate
interlock network. Unpublished, The University of Michigan.
Coffee, J. C. (2006). Gatekeepers: The role of the professions in corporate governance. New
York: Oxford University Press.
Dahrendorf, R. (1959). Class and class conflict in industrial society. Stanford, CA: Stanford University Press.
Davis, G. F. (2009). Managed by the markets: How finance reshaped America. Oxford, England: Oxford University Press.
Davis, G. F. (2013). After the corporation. Politics & Society, 41, 283–308.
Davis, G. F., & Marquis, C. (2005). The globalization of stock markets and convergence in corporate governance. In R. Swedberg & V. Nee (Eds.), The economic
sociology of capitalism (pp. 352–390). Princeton, NJ: Princeton University Press.
Davis, G. F., & Stout, S. K. (1992). Organization theory and the market for corporate control: A dynamic analysis of the characteristics of large takeover targets,
1980–1990. Administrative Science Quarterly, 37, 605–633.
Davis, G. F., Yoo, M., & Baker, W. E. (2003). The small world of the American corporate elite, 1982–2001. Strategic Organization, 1(3), 301–326.
Demsetz, H., & Lehn, K. (1985). The structure of corporate ownership: Causes and
consequences. Journal of Political Economy, 93, 1155–1177.
Fama, E., & Jensen, M. C. (1983). Separation of ownership and control. Journal of Law
& Economics, 26, 301–325.
Fiss, P. C., & Zajac, E. J. (2004). The diffusion of ideas over contested terrain: The
(non)adoption of a shareholder value orientation among German firms. Administrative Science Quarterly, 49, 501–534.
Jensen, M. C., & Meckling, W. H. (1976). Theory of the firm: Managerial behavior,
agency cost, and ownership structure. Journal of Financial Economics, 3, 305–360.
Kaysen, C. (1957). The social significance of the modern corporation. American Economic Review (Papers and Proceedings), 47, 311–319.
La Porta, R., Lopez-de-Silanes, F., Shleifer, A., & Vishny, R. W. (1998). Law and
finance. Journal of Political Economy, 106, 1113–1155.
La Porta, R., Lopez-de-Silanes, F., Shleifer, A., & Vishny, R. W. (1999). The quality of
government. Journal of Law, Economics & Organization, 14, 222–282.
Malkiel, B. G. (1996). A random walk down Wall Street. New York, NY: W.W. Norton.
Manne, H. G. (1965). Mergers and the market for corporate control. Journal of Political
Economy, 73, 110–120.
Marris, R. (1964). The economic theory of “managerial” capitalism. New York, NY: Free
Press.
Mills, C. W. (1956). The power elite. New York, NY: Oxford University Press.

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North, D. C. (1990). Institutions, institutional change and economic performance. New
York, NY: Cambridge University Press.
Rajan, R. G., & Zingales, L. (2003). The great reversals: The politics of financial development in the 20th century. Journal of Financial Economics, 69, 5–50.
Romano, R. (1993). The genius of American corporate law. Washington, DC: American
Enterprise Institute Press.
Roy, W. G. (1997). Socializing capital: The rise of the large industrial corporation in America. Princeton, NJ: Princeton University Press.
Shleifer, A., & Vishny, R. W. (1997). A survey of corporate governance. Journal of
Finance, 52, 737–783.
Stinchcombe, A. L. (1968). Constructing social theories. Chicago, IL: University of
Chicago Press.
Useem, M. (1984). The inner circle: Large corporations and the rise of business political
activity in the US and the UK. Oxford, England: Oxford University Press.
Useem, M. (1996). Investor capitalism: How money managers are changing the face of corporate America. New York, NY: Basic.
Vogus, T. J., & Davis, G. F. (2005). Elite mobilizations for antitakeover legislation,
1982–1990. In G. F. Davis, D. MacAdam, W. R. Scott & M. N. Zald (Eds.), Social
movements and organization theory. New York, NY: Cambridge University Press.
Weber, K., Davis, G. F., & Lounsbury, M. (2009). Policy as myth and ceremony? The
global spread of stock exchanges, 1980–2005. Academy of Management Journal, 52(6),
1319–1347. doi:10.5465/amj.2009.47085184
Westphal, J. D., & Poonam, K. (2003). Keeping directors in line: Social distancing
as a control mechanism in the corporate elite. Administrative Science Quarterly, 48,
361–398.

GERALD F. DAVIS SHORT BIOGRAPHY
Gerald F. Davis is the Wilbur K. Pierpont Collegiate Professor of Management at the Ross School of Business and Professor of Sociology, The University of Michigan. Davis received his PhD from the Graduate School of
Business at Stanford University. Recent books include Social Movements and
Organization Theory (with Doug McAdam, W. Richard Scott, and Mayer
N. Zald; Cambridge University Press, 2005) and Organizations and Organizing: Rational, Natural, and Open System Perspectives (with W. Richard
Scott; Pearson Prentice Hall, 2007). Davis has published widely in management, sociology, and finance. He is currently Editor of Administrative Science
Quarterly and Codirector of the Interdisciplinary Committee on Organization Studies (ICOS) at Michigan. Davis’s research is broadly concerned with
corporate governance and the effects of finance on society. His latest book
Managed By the Markets: How Finance Reshaped America (Oxford University Press, 2009) examines how finance replaced manufacturing at the center
of the American economy, and what the consequences have been for corporations, banking, states, and households in the twenty-first century. In 2010,

16

EMERGING TRENDS IN THE SOCIAL AND BEHAVIORAL SCIENCES

it was awarded the Academy of Management’s George R. Terry Book Award
for Outstanding Contribution to the Advancement of Management Knowledge.
JOHAN S. G. CHU SHORT BIOGRAPHY
Johan S. G. Chu is an assistant professor of Organizations and Strategy at
the University of Chicago’s Booth School of Business. His research focuses
on understanding large-scale change and stasis and examines mechanisms
of elite entrenchment and influence. Johan has a PhD in Physics from the
California Institute of Technology, and a PhD in Management and Organizations from the University of Michigan Ross School of Business. In between
PhD programs, he spent 13 years in the business world as a management
consultant, entrepreneur, and executive search consultant.
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Stability and Change in Corporate
Governance
GERALD F. DAVIS and JOHAN S. G. CHU

Abstract
Corporate governance describes the process that allocates power and resources
within organizations and the societal institutions that shape how they look, how
they make decisions, and how the proceeds from their activities are divided.
Research and theory traditionally focused on the institutions that overcome the
separation of ownership and control created by dispersed shareholdings. Critics
noted that this problem was distinctively American, and that corporate governance
is shaped by history, culture, and power. We describe several domains for productive
future research that is comparative, historical, and attentive to power dynamics.

INTRODUCTION
Corporate governance describes the process that allocates power and
resources within organizations and the societal institutions that shape how
they look, how they make decisions, and how the proceeds from their
activities are divided. Because corporations are central economic actors
in essentially all advanced economies, understanding how they are governed is an important topic for scholars of business, law, political science,
economics, and sociology, and each of these disciplines has contributed to
understanding corporate governance, making it one of the most vibrant
interdisciplinary topics of research (Blair, 1995; Shleifer & Vishny, 1997).
At the narrowest level, corporate governance concerns the operations of
boards of directors of public corporations. Researchers sought to understand
how boards are staffed, how their decisions are made, how they connect
with their constituencies, and how they influence corporate financial performance. But this narrow conception neglected the broader institutions
in which boards were embedded. In the United States, whose system of
corporate governance has received by far the greatest attention, public
corporations sit at the center of a matrix of institutions that are all more or
less calibrated by the stock market. Executive compensation is designed to
Emerging Trends in the Social and Behavioral Sciences. Edited by Robert Scott and Stephen Kosslyn.
© 2015 John Wiley & Sons, Inc. ISBN 978-1-118-90077-2.

1

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EMERGING TRENDS IN THE SOCIAL AND BEHAVIORAL SCIENCES

align the interests of managers with stock price performance. Accounting
firms audit corporate books to verify that they fairly represent the company’s
financial situation. Financial analysts investigate companies and compare
them to competitors to determine whether they are a good investment.
Institutional investors make their preferences known to management and
the board and vote their preferences in annual elections. Corporate law in a
firm’s state of incorporation lays out the responsibilities of management and
the board with respect to shareholders, and stock exchanges promulgate
standards of good governance that listed firms are obliged to follow.
Scholars of law and economics documented the interlocking workings of
these various institutions and along the way created a wiring diagram for
shareholder capitalism, that is, how to organize an economy around publicly traded corporations. After the Mexican debt crisis of 1982, developing
countries around the world opened up stock markets to gain access to foreign investment capital, and with the collapse of the Soviet Union, nations
in Central and Eastern Europe created stock markets as a device to privatize state-owned enterprises, creating thousands of new public corporations
virtually overnight.
By the 1990s, the public corporation had become a pervasive feature of
nearly all industrial economies. As a result, corporate governance became
an essential domain of study across several disciplines. Because the United
States had the most extensive experience with public corporations, and the
largest installed base of governance scholars, theory about corporate governance based on the American experience became a kind of master key to
understanding corporations around the world, both descriptively and prescriptively. Yet as we describe in this article, the American approach to corporate governance was quite idiosyncratic, and experience showed that its
applicability around the world was problematic at best.
In this essay, we describe the history of the study of corporate governance,
particularly in the United States, and how it came to be a performative theory, thus shaping the object it purported to describe. We assess the critiques
that arose, largely within sociology, and how these challenged the status of
this theory. We then describe a set of emerging research domains in corporate governance that merit further development, and suggest specific topics
worthy of future study.
FOUNDATIONAL RESEARCH
The central problem of corporate governance is how to structure corporations, particularly at the top level, so that they pursue their intended ends
effectively. The “intended end” of the corporation is typically assumed to
be profit. “Effectively” pursuing this end commonly means maximizing

Stability and Change in Corporate Governance

3

long-term profitability. In the case of privately owned corporations, the
problem is not especially interesting, as the people who own the company
also generally control it. Family businesses and partnerships may be
fascinating in their own right, but their governance is not.
Corporate governance becomes interesting when ownership and control
are separated. This situation began to emerge at a large scale during the first
decades of the twentieth century in the United States, when giant corporations serving continent-wide markets emerged. Companies such as US Steel,
General Electric, and AT&T, created around the turn of the century, required
capitalizations in the hundreds of millions of dollars—far too much to be
met via family ownership—and thus their ownership shares were sold to
the public. Within a few years, the ownership of dozens of large corporations had become so dispersed that no single individual or group owned as
much as 5%. Meanwhile, the executive ranks were increasingly filled with
professional managers, not family members of the founders.
This was the situation described by Berle and Means in their 1932 classic The Modern Corporation and Private Property. Berle (a lawyer) and Means
(an economist) found that nearly half of the 200 largest public companies in
America lacked a significant ownership block, which they argued gave the
executives at the top substantial autonomy to choose their own goals for the
corporation. “Ownership of wealth without appreciable control and control
of wealth without appreciable ownership appear to be the logical outcome of
corporate development … for practical purposes that control lies in the hands
of the individual or group who have the actual power to select the board of
directors.” Moreover, this group was relatively concentrated, as “the ultimate
control of nearly half of industry was actually in the hands of a few hundred
men.”
For the next 40 years, scholars debated the consequences of the separation of ownership and control in corporations for business and for society at
large. Sociologist Ralf Dahrendorf (1959) stated that there was “an astonishing degree of consensus among sociologists on the implications of joint-stock
companies for the structure of industrial enterprises, and for the wider structure of society.” Profit maximization had little relevance to contemporary corporations: “Never has the imputation of a profit motive been further from the
real motives of men than it is for modern bureaucratic managers.” Further,
class conflict between owners and workers had effectively dissolved; contemporary class conflict took place within the enterprise, not in the broader
society.
Economist Carl Kaysen (1957) described how the effective irrelevance
of shareholders had freed corporate managers to pursue broader social
goals: “No longer the agent of proprietorship seeking to maximize return
on investment, management sees itself as responsible to stockholders,

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EMERGING TRENDS IN THE SOCIAL AND BEHAVIORAL SCIENCES

employees, customers, the general public, and, perhaps most important, the
firm itself as an institution.” Moreover, “Its responsibilities to the general
public are widespread: leadership in local charitable enterprises, concern
with factory architecture and landscaping, provision of support for higher
education, and even research in pure science, to name a few” (Kaysen,
1957, pp. 313–314). So-called managerialist economists such as Robin Marris
(1964) examined the consequences for industry if firms pursued growth
(which served their own interests) rather than profitability (which served
the interests of shareholders).
Yet, not all scholars were convinced that Berle and Means had got it right.
Henry G. Manne, a pioneer in the “law and economics” movement, argued
in 1965 that managers could not completely ignore their shareholders. The
stock market’s evaluation provided a day-to-day report card on managerial
performance, and if companies performed badly enough to drive share price
down to below the company’s true value, outsiders had an incentive to buy
the company from its shareholders (a “hostile takeover”), fire the incumbent
managers, and fix the company for a quick profit. This so-called “market
for corporate control” placed a lower bound on how much managers could
ignore their shareholders and get away with it.
Subsequently, financial economists extended this reasoning even further.
In one of the most frequently cited articles ever published in economics,
Jensen and Meckling (1976) argued that there was a basic logical flaw in
Berle and Mean’s case. Why would shareholders invest their money in
companies run by managers who ignored their interests—not just once, but
over and over again? And how could an entire economy be comprised of
such companies? There must be some hidden order that the conventional
accounts had missed—the corporate equivalent of gravity.
The gravity that ruled the corporate order turned out to be shareholder
value, or more precisely the stock market’s ability to value the corporation
accurately. Finance scholars had showed that share prices responded quite
quickly to new information about a company’s likely future profitability.
The evidence was consistent with the “efficient market hypothesis,” that is,
the claim that financial markets (under some fairly lenient conditions) are
remarkably effective at yielding the best available estimate of a financial
asset’s true intrinsic value. In short, the stock market is smarter than any of
its participants at coming up with a price through the buying and selling
of large numbers of dispersed investors (Malkiel, 1996). Thus, when management makes an announcement about an acquisition, or a new product
launch, or an executive change, the stock market will quickly adjust the
share price to reflect whether this was a good idea. This in turn gave those
who ran the company strong incentives to be able to announce actions that
were good for shareholders.

Stability and Change in Corporate Governance

5

Working backwards from this basic premise, economists derived an entire
theory of the corporation and its surrounding institutions. The theory was
essentially a functionalist theory of corporate governance. Much as sociobiologists deduced the function of various social structures in terms of how they
enhanced reproductive fitness, financial economists deduced the function of
corporate governance in terms of their ability to enhance shareholder value.
The main institutions included the following:
•

•

•

•

•

•

The board of directors, which was argued to be comprised of relevant
experts concerned about their reputation (Fama and Jensen, 1983).
Research here examined questions about the performance implications
of board composition (insiders vs outsiders), size, and structure (e.g.,
was the CEO also the Chairman of the Board), as well as how directors
are recruited and retired.
Ownership structure, that is, the size of outside ownership blocks
and the level of ownership by executives and directors. Studies here
document the causes and performance consequences of large ownership
blocks and the differences among different types of outside owners
(Demsetz & Lehn, 1985).
Executive compensation practices, which should presumably work to
align the incentives of executives with the interest of shareholders by
tying their wealth to share price performance. Scholars have examined
in great detail the antecedents of the amount and composition of managerial salaries and stock grants.
The market for corporate control, that is, the mechanisms by which
outsiders are able to take control from incumbent managers. Here,
researchers have examined why corporations become subject to outside
takeover bids, and what their managers can do in response (Davis &
Stout, 1992).
Corporate law, and in particular how companies choose to incorporate
where they do. In the United States, businesses have great discretion
over what state they choose to incorporate in, and states implicitly
compete to attract this business by enacting business-friendly laws,
with Delaware emerging as the most significant place of incorporation
(Romano, 1993).
Professional gatekeepers such as auditors, underwriters, and financial
analysts, whose job is to uphold standards of transparency and accountability in corporate management (Coffee, 2006).

Critics have contended that the theory of corporate governance in financial
economics was more of a stylized blueprint than an established fact. Yet,
its impact on public policy was undeniable, particularly within the United

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EMERGING TRENDS IN THE SOCIAL AND BEHAVIORAL SCIENCES

States. The concept that public corporations exist to create shareholder
value, paired with the efficient market hypothesis, created the basis for the
shareholder value movement of the 1980s and 1990s (Useem, 1996). This
movement sought to make reality better match the world described by
financial economists, and in that sense the theory was “performative”: the
theory, to some extent, created the world that it was intended to describe
(Callon, 1998). For example, corporate takeovers were of relatively trivial
importance when Manne (1965) wrote his famous article about the market
for corporate control, and it only gained substantial economic significance
after a set of policy changes put in place by the Reagan White House by
lawyers and economists who had been schooled in Manne’s thinking (Davis
& Stout, 1992). During the decade of the 1980s, more than one-quarter of the
Fortune 500 largest industrial corporations faced a takeover bid, and one in
three ultimately merged or were acquired.
In response to this threat to their control, managerial elites increasingly
sought to demonstrate their allegiance to shareholder value through devices
such as restructurings, layoffs, stock buybacks, and compensation schemes
that relied heavily on stock options. Meanwhile, owing to changes in tax
regulations in 1981 that encouraged companies to sponsor “defined contribution” pension plans, in which employees place their retirement savings in
accounts invested in the stock and bond markets, an increasing proportion
of the US population found themselves investing in the stock market. The
proportion of households owning shares increased from about one in five
in 1980 to more than half by 2000, which further reinforced the ideology of
shareholder capitalism (Davis, 2009).
By the turn of the twenty-first century, shareholder capitalism and the
finance-based theory of corporate governance had substantially reordered
the corporate sector in the United States. Corporations went from being
diversified conglomerates oriented toward ever-increasing growth in revenues, to being lean outsourcers monomaniacally focused on increasing
their share price. Profitability shifted from being the furthest thing from
managers’ minds to the only thing that mattered.
CUTTING-EDGE RESEARCH
Newer scholarship, as well as events in the world, mounted a challenge to the
dominant approach to corporate governance. Theories often face challenges
from occasional anomalies. In the case of the functionalist approach to corporate governance, however, a skeptic might conclude that the theory—so elegant on its own—was empirically wrong in nearly every particular. Research
on boards of directors showed them to be rife with cronyism and conflicts of

Stability and Change in Corporate Governance

7

interest, from how appointments are made to who has influence in discussions (e.g., Westphal & Poonam, 2003). The market for corporate control was
shut down by 1990 through the spread of firm-level takeover defenses and
state laws protecting their local companies from unwanted takeovers (Vogus
& Davis, 2005). And the scandals of the early 2000s demonstrated that auditors such as Arthur Andersen, underwriters such as Citigroup, and equity
analysts such as Jack Grubman were rife with conflicts of interest (Davis,
2009). The Panglossian understanding of the corporation proved to be highly
misleading in practice. As a performative theory, on the other hand, this
approach was quite effective in changing the ideology around corporate governance. Within the United States, discussions of corporate purpose almost
inevitably yielded to a single-minded focus on shareholder value.
In this section, we briefly review the critiques and challenges to the functionalist approach. In the next, we describe potentially productive avenues
of future research.
One challenge is that the form of corporate governance that the theory contemplates is distinctively American. The notion that the central problem of
corporate governance is addressing the issues that arise from the separation of ownership and control is premised on an economy similar to that
described by Berle and Means, in which the public corporation with dispersed ownership is the dominant form of economic organization. In fact,
the corporation is of relatively minor importance in many economies around
the world. Most countries in the world do not have a stock market; public
corporations do not exist.
Even in some highly advanced industrial economies, corporations are of
modest importance. For example, by 2010 Germany had roughly 600 public
corporations—about as many as Pakistan, and far fewer than the United
States, with 4300—in spite of being one of the largest exporters in the world
and a global manufacturing powerhouse. Medium-sized private companies,
often family-owned, continue to be a dominant force in the economy, and
relied largely on banks rather than public markets for financing. The public
corporations that do exist generally have labor represented on the board
of directors through up to half of the directors. Japan has historically had
the second-largest economy in the world, and although it has thousands of
public corporations, their ownership is often intertwined through elaborate
cross-shareholding networks with other corporations. Unlike the United
States, where boards have about 10 members, of which 8 or 9 are from
outside the companies, Japanese corporations commonly have boards with
40–50 members, nearly all current or former managers. Romania, on the
other hand, went from having four listed companies in 1994 to 5825 in 1999,
according to the World Bank. (By 2011 it was down below 1300—still twice
as many as Germany.)

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EMERGING TRENDS IN THE SOCIAL AND BEHAVIORAL SCIENCES

Moreover, those countries that sought to adopt shareholder capitalism
along the lines described by the functionalist theory often failed miserably.
Of the four dozen countries that opened stock markets during the 1980s
and 1990s, many or most found their experiment to be failures (Weber,
Davis, & Lounsbury, 2009). After the bursting stock market bubble of 2000
and the subsequent corporate governance scandals—and the rise of China,
where American-style corporate governance has little relevance—corporate
governance no longer seemed to be an especially relevant prescription for
economic vibrancy.
Some research suggests a number of reasons why shareholder-oriented
corporate governance was unlikely to take hold everywhere in the world. A
series of studies in law and economics (La Porta, Lopez-de-Silanes, Shleifer,
& Vishny, 1998, 1999) showed that the nature of the legal system and related
supporting institutions that articulate with the corporation are essential
for enabling the corporation to survive. Such laws and institutions are by
no means evenly distributed; for instance, former French colonies that had
code law (rather than Anglo-style common law) are effectively immune to
growing a domestic stock market, and therefore public corporations (Weber
et al., 2009).
A second challenge is that corporations wax and wane over time, as
do notions of their purpose. Although corporations are often seen as the
paradigmatic form of economic organization in the United States, there were
fewer than a dozen manufacturers listed on stock markets in the United
States before 1890 (Roy, 1997). By 1910, the United States and Germany
shared relatively similar forms of “finance capitalism” in which a handful
of major banks held substantial positions of influence through shared
directors—a situation that persisted in Germany but disappeared in the
United States around the time of the First World War (Rajan & Zingales,
2003). From Berle and Means until the 1980s, corporations in the United
States were social institutions serving a variety of stakeholders, as described.
But from the early 1980s onward, corporations in the United States increasingly came to look akin to the finance theory of corporate governance. What
had initially been put forward as descriptive theory ended up serving as
prescriptions for how corporations should be operated. Thus, corporate
mission statements almost inevitably alluded to an overriding purpose of
“creating shareholder value,” and compensation systems overwhelmingly
emphasized stock-based incentives.
A third challenge is that the functionalist theory leaves little room for power
and politics. Even during the heyday of the managerialist corporation, critics
such as C. Wright Mills (1956) described how corporate executives and directors formed a “power elite” with privileged access to political power. Berle
and Means had noted that a few dozen men effectively controlled half of the

Stability and Change in Corporate Governance

9

corporate wealth in America. Mills pointed out that these men all seemed to
know each other or to have friends in common. The potential of this group to
shape national decision making was enormous, and scholars spent decades
documenting the many ways that this group operated as a more-or-less cohesive class. Sociologist Michael Useem (1984) interviewed dozens of directors
in the United States and the United Kingdom to understand the culture and
goals of this elite inner circle, finding that the best-connected directors were
also the ones most prone to enter into politics and to serve on prominent
public policy bodies. He argued that their experience on boards in several
industries gave them a cosmopolitan view of the interests of business that
transcended a parochial industry focus, enabling them to be essentially “corporate diplomats.”
In the subsequent 30 years, the nature of the corporate elite changed. While,
essentially, all members of the inner circle in the 1970s were white males,
typically from elite backgrounds, the demography of the inner circle became
substantially more diverse during the 1980s and 1990s as boards sought to
have more representative compositions (Davis, Yoo, & Baker, 2003). Since the
turn of the twenty-first century, however, the inner circle has substantially
retrenched. While at least 90 directors served on five or more major corporate
boards in 1974 (all male, and almost all white), and 75 directors held five or
more directorships in 1994 (many female and/or nonwhite), by 2010 there
was only one left: Shirley Ann Jackson, president of Rennselear Polytechnic
Institute (Chu, 2012). The inner circle had evaporated.
Finally, the corporation itself is much reduced in its power and “institutionality” within American society, creating the need for a new understanding of
corporate governance. While there were roughly 8800 public corporations in
the United States in 1997, there were only 4100 in 2012, and the number had
declined almost every year since the turn of the millennium. Major corporations that held dominant positions for most of the twentieth century, such as
AT&T, Eastman Kodak, US Steel, and Westinghouse, had either disappeared
or substantially retrenched. The corporation itself is increasingly a dispensable device for economic organization (Davis, 2013).
In the next section, we work through some of the most promising research
implications of this new situation.
KEY ISSUES FOR FUTURE RESEARCH
The developments described in the previous section suggest the need for
research on corporate governance that is comparative and historical. By
stepping beyond the idiosyncratic world of American corporations in the
late twentieth century, we can start building alternative theories to explain
the differential workings of corporate governance across time and space.

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EMERGING TRENDS IN THE SOCIAL AND BEHAVIORAL SCIENCES

Consider the base premise of agency theory, that the primary problem
to be solved is the separation of ownership and control. This may be a
distinctively American or Anglo-Saxon problem. Does the theory provide
insight in other settings?
In the United States, the dispersion of corporate ownership has been taken
for granted since Berle and Means published their book in the early 1930s.
Yet, this situation was almost completely idiosyncratic to the United States.
As late as 2000, the average foreign firms listing shares on US markets had
a single shareholder that owned 23%; in Chile, the average firm’s biggest
shareholder owned 47% of its shares (Davis & Marquis, 2005). The separation
of ownership and control is irrelevant in these situations.
Even in countries where the formal mechanisms of corporate governance
cleave truer to those in America, a deeper investigation shows that norms
of governance differ. For example, Fiss and Zajac (2004) found that many
of the largest German firms paid lip service to ideas of shareholder value,
but did not substantially implement shareholder-value-oriented reforms.
While agency theory predicts that a shareholder-value orientation will
diffuse under pressure from market forces, Fiss and Zajac instead found
that the adoption or nonadoption of a shareholder-value orientation was
driven by sociopolitical considerations, which were reflected in the interests
and backgrounds of powerful owners and executives. Future research can
document in greater detail what institutional, legal, and cultural factors are
more or less congenial to Anglo-American forms of corporate governance,
and what other forms are prevalent.
In some ways, the diffusion of public corporations and their governance
mechanisms across nations resembles the diffusion of curry around the
world. While curry originated in the Indus Valley, it is now a worldwide
phenomenon, with at least 30 different nations producing their own unique
interpretations. Although all are called “curry” (an Anglicization of the
Tamil word kari) in the English-speaking world, the curries of one country
are different from those of another; some countries’ curry is spicy and
others’ not (e.g., Japan), some countries eat their curries wet and others dry.
In the end, the term “curry” is applied to many dishes in many places, and
there is no single ingredient or characteristic that essentially defines curry
throughout the world.
Similarly, it is hard to find a sine qua non in corporate governance structures
across different countries. For example, if we ask what the purpose of a corporation is, the answers will differ depending on where we ask the question. In
China, the answer may be that corporations exist to create employment and
to confer legitimacy on state-owned enterprises through listings on foreign
exchanges. Lichtenstein corporations serve the function of reducing taxes
for their owners, while increasing Lichtenstein’s national income. Liberian

Stability and Change in Corporate Governance

11

corporations similarly serve to provide funds for the state, and Liberian corporate governance is geared to optimizing this revenue.
On the other hand, we may find contingent relationships that hold across
countries. In countries where public corporations are consequential, we may
ask how power relations in society are reflected in the nature of corporate
governance. If the nature of decision-making structures within organizations
reflects power and legitimacy in society (Stinchcombe, 1968), then examining
corporate governance will give us an insight into society, and vice versa. For
example, studying the power of labor in German corporate governance and
the involvement of dominant families in the governance of Chile’s corporations will illuminate power structures in German and Chilean society. Using
corporate governance as a synecdoche for power relations in the broader society is an apt domain for future research.
Political scientists and economists have noted that the structure of business organization reflects the “institutional matrix” in which it is embedded
(North, 1990). A national economy can be analyzed as a configuration of institutions that provide order to product markets, labor markets, capital markets,
education, and social welfare provision (Amable, 2003). For an economy to
function, these elements need to be more or less mutually supportive. The
form of the corporation or other business organizations reflects the format of
this national institutional matrix. Different kinds of business are more likely
to thrive in different kinds of matrix; for instance, Germany hosts high-end
manufacturing firms because medium-sized firms that are privately owned
can credibly promise long-term employment, which encourages workers to
invest in specialized skills that are provided by a craft-oriented educational
system and underwritten by a sturdy social welfare system and a tolerance
for oligopoly. In the United States, the inherent instability of the public corporation discourages workers from learning such specialized skills.
The financial revolution of the past generation greatly expanded the potential for market-based finance in economies around the world. This may have
been a disruptive force for local economies, for better or worse. In Israel,
entrepreneurs needing capital found that they could bypass the Tel Aviv
stock exchange and list shares in the United States, helping to prompt a surge
of new business starts and IPOs in the high-tech sector. Access to foreign capital effectively super-charged the high-tech economy. In Iceland, on the other
hand, three domestic banks found that they were able to lure foreign depositors via the Internet with promises of higher interest rates than the depositors’
domestic banks could pay. Flush with foreign cash, the Icelandic banks went
on a global acquisition spree vastly out of proportion to the domestic economy until the financial crisis of 2008 cratered the economy, leaving thousands
of foreign depositors bereft. One of the great under-researched topics of the

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EMERGING TRENDS IN THE SOCIAL AND BEHAVIORAL SCIENCES

past two decades is how hypertrophied finance influenced the operation of
domestic economies, for better or worse, and with what social effects.
Variance in corporate governance is not just cross-national, but also
temporal. American corporate governance is currently undergoing a radical
transformation. The rise of financial capitalism and its emphasis on return
on assets has led corporations to favor maintaining low-asset functions
(e.g., brand management, marketing, design) within the firm while outsourcing capital-intensive functions (notably manufacturing) to external,
often foreign contractors. Technology has developed to support the needs
of these now-networked firms, and this, along with an explosion in the
number of organizations offering contract manufacturing and other laborand capital-intensive services, has led to a decoupling in the hitherto strict
relationship between number of employees, capitalization and revenues.
Through outsourcing, companies can be big in revenues and market
capitalization but small in employees.
In a world where large capital investments are no longer required to attain
high revenues, the function of public stock markets is called into question. If
entrepreneurs can obtain sufficient growth funding from private investors,
crowdsourcing and customer sourcing (e.g., Kickstarter), and ongoing operations, they will not need to turn to public markets for their capital needs.
Initial public offerings may become a symbolic action, signifying that the
company is large enough and robust enough to thrive even when burdened
with the costs of the regulatory compliance measures necessitated by listing
in the United States.
Changes in the function of stock market are already in evidence in the dying
“market for corporate control.” While anti-takeover measures adopted in the
late 1980s may have maimed this market, index-based mutual funds and
new IPO structures have effectively killed it. Key executives at Facebook,
Groupon, and Google control the super-majority of votes with a minority
of shares, putting the lie to notions of agency-based market mechanisms for
maximizing shareholder value (Davis, 2013).
Indeed, it now seems plausible to ask whether public corporations exist
to support the stock market’s valuation function rather than the other way
around. Increasingly, even large companies are choosing to forgo public
exchange listing, and previously public companies are choosing to delist.
This trend is bolstered by the proliferation of private equity and hedge funds
that provide alternative sources of financing. These funds, however, have a
business model predicated on eventual (re-)listing of their portfolio companies on public markets. (Although in practice, most private-equity-owned
companies end up being sold to other private equity funds or to other private
companies.) Without at least the facade of an open, efficient marketplace
for corporate shares (Malkiel, 1996), there is no widely accepted alternative

Stability and Change in Corporate Governance

13

to value this “exit” option for private equity investors. If the number of
publicly listed corporations in the United States continues its decline, market
participants may be forced to redefine how they agree on corporate value.
One possibility is that we may return to something akin to the stakeholder
model prevalent before the rise of shareholder capitalism. Activists have
already been pushing for nonshareholder-centric ways of valuing corporate
decisions, suggesting pro-social corporate forms such as Certified B Corps
and L3Cs. B Corporations, or “for-benefit” corporations, are chartered
specifically to serve social as well as economic purposes, freeing their boards
and managers to take nonshareholder constituencies into account in their
decisions. L3Cs are “low-profit limited liability companies,” which organize
as limited liability companies (LLCs) and not nonprofits, but pursue social
purposes and are able to accept donations toward their missions. Many of
these suggested alternatives hark back to Kaysen and his conceptions of
managers involved in increasing the public good.
In this section, we have presented a series of stylized facts and questions
about corporations and their governance across the world and in America,
but few answers. As a research community, we have little systematic comparative data on corporations in different countries. We also lack insight into
how the American system of corporate governance will evolve, and cannot
confidently predict what corporations or their descendants will look like in
the future.
American corporations have lent themselves to easy study, regularly
publishing standardized information that can be agglomerated to create
systematic time-series data that are reasonably comparable across corporations. Perhaps because of this easy data access, researchers have shown
a disproportionate interest in the corporation, while tending to ignore
contemporary organizational alternatives, such as mutuals, cooperatives,
and private companies. To attack these questions, researchers will have to
expand their scope of inquiry.
They will also need to be strongly grounded in finance, attentive to institutions, and have an understanding of the dynamics of globalization. Sources
of financing shape (and are shaped by) the organization of production and
the organization of society. Institutions are the devices that channel and constrain economic relations, and the battlefields of conflicting interests. Capital,
goods, and labor are no longer constrained to national boundaries, and nothing exemplifies this as well as the modern corporation.
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GERALD F. DAVIS SHORT BIOGRAPHY
Gerald F. Davis is the Wilbur K. Pierpont Collegiate Professor of Management at the Ross School of Business and Professor of Sociology, The University of Michigan. Davis received his PhD from the Graduate School of
Business at Stanford University. Recent books include Social Movements and
Organization Theory (with Doug McAdam, W. Richard Scott, and Mayer
N. Zald; Cambridge University Press, 2005) and Organizations and Organizing: Rational, Natural, and Open System Perspectives (with W. Richard
Scott; Pearson Prentice Hall, 2007). Davis has published widely in management, sociology, and finance. He is currently Editor of Administrative Science
Quarterly and Codirector of the Interdisciplinary Committee on Organization Studies (ICOS) at Michigan. Davis’s research is broadly concerned with
corporate governance and the effects of finance on society. His latest book
Managed By the Markets: How Finance Reshaped America (Oxford University Press, 2009) examines how finance replaced manufacturing at the center
of the American economy, and what the consequences have been for corporations, banking, states, and households in the twenty-first century. In 2010,

16

EMERGING TRENDS IN THE SOCIAL AND BEHAVIORAL SCIENCES

it was awarded the Academy of Management’s George R. Terry Book Award
for Outstanding Contribution to the Advancement of Management Knowledge.
JOHAN S. G. CHU SHORT BIOGRAPHY
Johan S. G. Chu is an assistant professor of Organizations and Strategy at
the University of Chicago’s Booth School of Business. His research focuses
on understanding large-scale change and stasis and examines mechanisms
of elite entrenchment and influence. Johan has a PhD in Physics from the
California Institute of Technology, and a PhD in Management and Organizations from the University of Michigan Ross School of Business. In between
PhD programs, he spent 13 years in the business world as a management
consultant, entrepreneur, and executive search consultant.
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