Institutions and Voluntary Compliance: The Disclosure of Individual Executive Pay in Germany

• DOI: http://doi.org/10.1111/j.1467-8683.2008.00689.x
• Date: 01 July 2008
• Published date: 01 July 2008
• Author: Amon Chizema

Institutions and Voluntary Compliance:

The Disclosure of Individual Executive Pay

in Germany

Amon Chizema*

ABSTRACT

Manuscript Type: Empirical

Research Question/Issue: This study seeks to understand why the disclosure of individual executive compensation, as

recommended by the German Code of Corporate Governance, met with resistance in some f‌irms while being a welcome

innovation for others. Employing the theoretical perspective of institutional inertia and change, this paper identif‌ies the

characteristics of a f‌irm likely to embrace or resist a management practice imported from an Anglo-American system of

corporate governance.

Research Findings/Results: Using data on large German f‌irms for the years 2002 through 2005, the study shows that

institutional ownership, dispersed ownership, state ownership, prior adoption of shareholder value-oriented practices, and

f‌irm size are positively and signif‌icantly associated with the disclosure of individual executive compensation. On the other

hand, the size of the supervisory board and f‌irm age are negatively and signif‌icantly associated with individual disclosure

of executive compensation.

Theoretical Implications: This study provides empirical support for the institutional inertia or change perspective at the

national level for the adoption of contested management practices, taken from the Anglo-American system and translated

to the German model. As such, it adds to the argument on convergence/divergence in comparative corporate governance

literature, as well as support for the neo-institutional perspective in helping to further understand institutional change.

Practical Implications: This study offers insights to policy makers who aim to create an institutional environment that

accepts corporate governance practices translated or negotiated from a different variety of capitalism. In addition, it

provides a useful synthesis of the relevance and effectiveness of codes of corporate governance, thus helping policy makers

to recommend continuation with the current elements of the code or to make such provisions compulsory.

Keywords: Management Board, Corporate Governance Codes, Institutional Theory

INTRODUCTION

Germany stands at the crossroads between American-

style stock market capitalism and the stakeholder-

based capitalisms of Western Europe and Asia. Thissituation

is consistent with the big discussion in the literature about

the possibility of governance systems diverging from, or

converging on, the American model. Indeed, Hansmann

and Kraakman (2001) foresee the end of comparative corpo-

rate law as the world converges on the Anglo-American

model. In what has been called an international “clash of

capitalisms” (Ahmadjian and Robbins, 2005), some scholars

have spoken of continued divergence (e.g., Bebchuk and

Roe, 1999) or the possibility of a hybrid or negotiated system

(Vitols, 2004) where elements taken from one system are

“translated” to maintain their legitimacy and to suit the

interests of salient stakeholders (Buck and Shahrim, 2005).

The adoption of corporate governance codes, including

the particularly interesting case of executive pay, goes to the

heart of the question, are corporate governance systems,

including that of Germany, converging on the American

template? To be sure there has been a proliferation of corpo-

rate governance codes worldwide, a situation that could be

attributed to mimetic and coercive pressures (e.g., Polillo

and Guillen, 2005), as many of the countries and their f‌irms

*Address for correspondence: Loughborough University Business School, LE11 3TU,

Leicestershire, UK. Tel: 01509228807; Fax: 44(0)1509223960; E-mail: A.Chizema@

lboro.ac.uk

INSTITUTIONS AND VOLUNTARY COMPLIANCE 359

Volume 16 Number 4 July 2008

© 2008 TheAuthor

Journal compilation © 2008 BlackwellPublishing Ltd

doi:10.1111/j.1467-8683.2008.00689.x

emulate the successful few, seeking foreign f‌inancial

resources (through FDI or portfolio investments) and legiti-

macy (Henisz, Zelner and Guillen, 2005).

A nation’s corporate governance code is generally a vol-

untary set of principles, recommendations, standards, or

best practices, issued by a collective body, and relating to

the internal governance of corporations within a country.

Aguilera and Cuervo-Cazurra (2004) note that codes of cor-

porate governance were designed to address def‌iciencies in

corporate governance systems by recommending compre-

hensive set of norms on good practice to f‌irms. The content

of many of these codes is in line with shareholder value

maximization, of the Anglo-American variant, stipulating

guidelines for board composition, ownership structures,

number of executive versus nonexecutive directors, commit-

tee structures, and executive compensation schemes.

Germany,of course, possesses a very distinct type of capi-

talism (Buck and Shahrim, 2005; Chizema and Buck, 2006)

where a dual board still prevails, with a two-tier system

comprising a management board (Vorstand) and a supervi-

sory board (Aufsichtsrat), with employee representatives

constituting a powerful force on the latter. Despite the fact

that the role of banks as direct shareholders has decreased

(Vitols, 2004), German banks still have strong inf‌luence

within f‌irms, and apart from carrying out lending activities,

they frequently act as agents for other shareholders. Share

liquidity is still limited in f‌irms by the presence of stable,

long-term block-holders, particularly banks, families, and

the generally relational nature of corporate ownership

(Vitols, 2004).

Nevertheless, changes in corporate governance have been

taking place. For instance, Germany has developed and

adopted its own code (Cromme, 2005). Known as the Kodex,

compliance by f‌irms with this code is voluntary. However,

the executive board and supervisory board must report any

noncompliance in a manner that is permanently accessible

to shareholders, i.e., through annual reports and company

websites. Certain provisions of this code have met with sig-

nif‌icant resistance (Werder, Talaulicar and Kolat, 2005) most

notably in relation to the disclosure of the individual remu-

neration of f‌irms’ boardmembers (Chizema and Buck, 2006).

Institutional actors and contexts, through internal and

external dynamics, have been found to determine organiza-

tional f‌lexibility, i.e., either support or inhibit organizational

innovations (Greenwood and Hinings, 1996; Chizema and

Buck, 2006) and institutionally contested organizational

practices (Sanders and Tuschke, 2007). Thus, the contrasting

style of German capitalism vis-à-vis the Anglo-American

variety, and the potential resistance to innovation by institu-

tional actors such as banks and employees, makes Germany

a potential laboratory in which to study changes and devel-

opments in corporate governance in general, and in execu-

tive pay disclosure in particular.

Given therefore the distinct nature of Germany’s variety

of capitalism (Hall and Gingerich, 2001), supported by

seemingly path-dependent institutions, the objective of this

paper is to determine the extent to which German compa-

nies comply with the Code of Corporate Governance recom-

mendations on board compensation. More importantly,

given the importance of ownership structure and employee

control in Germany (through the law on codetermination),

our paper applies neo-institutional theory as a theoretical

lens, to generate hypotheses in order to understand the role

of institutional actors, e.g., family owners, in company

compliance with these recommendations. How can the

implementation/non-implementation of certain Kodex rec-

ommendations on board compensation be explained? More-

over, what are the characteristics of early adopters versus

late adopters of governance recommendations?

To date, studies on corporate governance codes have been

mainly descriptive (Oser, Orth and Wader, 2003; Werder

et al., 2005), based on comparisons of different code contents

(Weil and Manges, 2003), analyses of the rationale for the

adoption of code regulation by nation states (Aguilera and

Cuervo-Cazurra, 2004), and how organizations are regu-

lated through codes (Seidl, 2006). However, the literature

has neglected the theoretical and empirical analysis of the

institutional context in which code provisions are imple-

mented or complied with in economic systems made up of

conf‌licting interests. For example, Werder et al. (2005)

provide descriptive statistics on the compliance levels of

variousprovisions of the code and note that compliance with

the recommendation on individual disclosure of executive

compensation is lower when compared with other provi-

sions. This study builds on this f‌inding by considering the

institutional characteristics of compliance or noncompliance

with the recommendation on individual disclosure of execu-

tive compensation.

This study seeks to contribute to the development of

literature on the disclosure of individual executive com-

pensation. The only previous German study (Werner and

Zimmermann, 2006) considered the effects on disclosure of

f‌inancial variables (e.g., leverage, free cash f‌low, takeover

announcement), but without a theoretical framework. From

a different perspective, our study explores the institutional

pressures from actors’ interests and values (e.g., through

various forms of ownership), and the degree of a f‌irm’s

embeddedness in the national context (e.g., f‌irm experience)

as determinants of disclosing individual compensation. As

such, we analyze the adoption of a code recommendation

through a theoretical lens, i.e., institutional inertia and

change, with an emphasis on power dependencies and the

interests and commitments of organizational actors.

Thus, by considering the power dependencies and value

commitments exerted and displayed under different forms

of ownership structure, in response to exogenous pressures,

our study contributes to the literature on how organizations

adapt to their environmental changes (Suarez and Oliva,

2005). Moreover, our study, unlike Werner and Zimmer-

mann’s (2006), includes models that capture the effect of

time on the disclosure process; observing the dynamics of

the factors that inf‌luence this process at two different

periods (i.e., the early/late disclosure of individual execu-

tive compensation).

Additionally, the sample in this study is broader, includ-

ing DAX (Deutsche Aktien Xchange), MDAX, and SDAX (i.e.

smaller, listed) f‌irms, with data covering the whole period

when the disclosure of individual pay was voluntary.

Indeed, studies on the adoption of management practices

are better understood by including small, medium, and

large f‌irms as innovations have often been observed among

peripheral/smaller f‌irms (e.g., Sherer and Lee, 2002). Thus,

360 CORPORATE GOVERNANCE

Volume 16 Number 4 July 2008 © 2008 TheAuthor

Journal compilation © 2008 BlackwellPublishing Ltd