Corporatization of Family Companies & International Corporate Governance Principles

Syrian Commission on Financial Markets & Securities 3 rd Conference on Investment and Capital Markets

William P. Mako The World Bank 3 December 2007

Many well-known public companies have emerged from family businesses.

Company Boeing Ford Corning Glass Siemens Ayala Citibank DuPont Doosan Country U.S.A.

U.S.A

U.S.A.

Germany Philippines U.S.A.

U.S.A.

Korea Established 1903 1902 1851 1847 1834 1812 1802 1396 Original business wood products automobiles glass electrical equipment plantations finance chemicals retail

Institutional investors can play an important role in protecting minority shareholders

(stock ownership) Banks Insurance, pension, investment funds Non-financial companies Individuals Other U.S.

7% 39% 0% 49% 5% U.K

10% 58% 1% 21% 10% South Korea 12% 14% 21% 34% 19%

Family businesses go public for various reasons.

 Good reasons  Capital for generally-known business purposes  Family succession, exit  More professional management  Capital market discipline  possible by-product  Bad reasons  Prestige  Capital for hidden business purposes

What can go wrong?

E.g., South Korea, 1990s

 Cross-shareholding and pyramiding  Family ownership minor, in some cases  Lack of holding company structure  Lack of accountability; poor governance   Public subsidiaries & private subs. juxtaposed RPT expropriation of public S/Hs  “growth”  Cross guarantees on debt; unsustainable debt  Bad decisions; bad investments; bankruptcy

OECD Principles: II. Shareholder rights & ownership functions A.

B.

C.

D.

E.

F.

Basic rights Extraordinary transactions Participation in general shareholder meetings Disclosure of anomalous control arrangements Free market for corporate control Free exercise of ownership rights

OECD Principles: III. The equitable treatment of shareholders A.

B.

C.

Including protections for minority shareholders  Prohibitions Insider trading  Abusive self-dealing   Disclosures by management and board Material interest in any transaction or matter Directly, indirectly, or on behalf of 3 rd parties

OECD Principles: V. Disclosure & transparency

A.

B.

C.

Etc.

 Material information, e.g.

Financial and operating results     Company objectives Major share ownership & voting rights Remuneration; info on board members Related party transactions Accounting standards Annual independent audit

OECD Principles: VI. Responsibilities of the Board A.

B.

C.

D.

E.

F.

Fully informed, in good faith, diligent All shareholders treated fairly Ethical standards    Key functions: e.g., Guidance Monitoring Hiring/firing CEO Independent judgment Timely access to relevant information

Good corporate governance helps firm performance, even for family-owned firms.

  Gompers, Ishii, Metrick (2001)  Studied 1500 firms per year during 1990s  Purchase (sale) of firms with strong (weak) S/H rights: +8.5%  Correlation between governance index and valuation LaPorta, et al (2002)   Disconnect between cash flow & control rights  RPT tunneling Low S/H protection  lower valuation

Corporate governance activism & results: South Korea, post-crisis    Activist shareholders (e.g., People’s Solidarity)   Sued bank for lending to a bankrupt steel maker $18 mn. from Samsung for related party shares sale Activist funds   $400 mn. Lazard Korea Corporate Governance Fund $211 bn. California Public Employees Retirement Results    Daehan: register; HoldCo; investor relations; up 127% LG Corp: reorganized as HoldCo; 10x price rise SK Corp: reorganized as Hold Co; up 31% since 7/07