Chapter 3 Key corporate participants.pdf

# Corporate creditors and their strategies to mitigate risk ### Core idea * Creditors are key corporate participants who provide financing and have distinct interests at stake from shareholders [1](#page=1). * Their primary concern is the repayment of the principal and interest on their loans or credit extended [7](#page=7). * While not directly involved in day-to-day operations, their financial health is crucial for corporate success [1](#page=1) [7](#page=7). ### Key facts * Trade creditors supply goods/services and do not require immediate payment [7](#page=7). * Institutional lenders, most notably banks, are major creditors [7](#page=7). * Depositors within banks are also considered a form of creditor [7](#page=7). * Bond or debenture holders are creditors whose rights are evidenced by company-issued certificates [7](#page=7). * Debt instruments like bonds and debentures are often issued through a trustee to numerous investors [7](#page=7). * Debt contracts universally specify repayment dates, defining the maximum legal duration of the debt [7](#page=7). * Credit periods for suppliers can be short (e.g., 30 or 60 days) [7](#page=7). * Long-standing commercial relationships can develop from short-term credit arrangements [7](#page=7). * Tradable debt instruments like bonds can result in a transitory relationship between investor and company [7](#page=7). * The amount a lender receives under a debt contract is ordinarily fixed, with variation only through renegotiation [5](#page=5). ### Key concepts * **Residual claimants:** Shareholders are considered residual claimants, entitled to what remains after all fixed claims are satisfied [4](#page=4). * **Limited liability:** This corporate feature reduces risk for equity investors, capping their loss at the amount paid for shares [5](#page=5). * **Volatility risk:** This is a risk equity investors face due to highly variable potential returns from shares [5](#page=5). * **Diversification:** Investors can reduce overall equity investment risk by owning shares in a substantial number of companies [5](#page=5). * **Unsystematic risk:** Risk peculiar to each company's shares arising from company-specific perils, reducible by diversification [5](#page=5). * **Systematic risk (Market risk):** Risk arising from share price fluctuations caused by general conditions affecting the entire stock market [5](#page=5). * **Capital Asset Pricing Model (CAPM):** Suggests investment risk is directly correlated with return [5](#page=5). * **Shareholder activism:** Shareholders engaging in efforts to influence corporate behavior, either defensively to protect investments or offensively to agitate for change [6](#page=6). * **Private benefits of control:** Disproportionate returns secured by dominant shareholders at the expense of outside investors [7](#page=7). ### Implications * The fixed nature of creditor returns contrasts with the variable returns of equity, making debt less susceptible to volatility risk [5](#page=5). * Diversification is a key strategy for shareholders to mitigate unsystematic risk [5](#page=5). * Systematic risk cannot be mitigated by diversification, leaving all investors exposed to market-wide fluctuations [5](#page=5). * * * * Creditors' return on debt obligations is a promised rate, not guaranteed due to default risk [8](#page=8). * Creditors have priority over shareholders in liquidation, but this is insufficient if assets don't cover debts [8](#page=8). * Creditors employ various strategies to manage default risk, including screening, higher yields, short repayment periods, and security [8](#page=8). * Diversification across multiple debt obligations is a key strategy for creditors to mitigate overall default risk [8](#page=8). * Creditors normally cannot demand immediate repayment unless a default occurs or the debt contract allows it [8](#page=8). * The yield on a debt contract is typically fixed and does not vary with company fortunes, unlike shareholder returns [8](#page=8). * Default risk is the likelihood a corporate debtor will fail to meet debt obligations [8](#page=8). * Screening involves assessing default probability by gauging market, industry, and management quality before lending [8](#page=8). * Bargaining for security grants creditors the right to seize designated corporate assets upon default [8](#page=8). * Diversification of debt obligations substantially reduces overall default risk for creditors [8](#page=8). * **Time value of money**: Future money is worth less than present money due to foregone investment opportunities [8](#page=8). * **Inflation**: Can erode the purchasing power of money repaid in the future [8](#page=8). * **Fixed claims**: Debts are fixed claims, meaning their return does not fluctuate with company success [8](#page=8). * **Equity cushion**: The residual value of an enterprise after liabilities, protecting creditors when a company is successful [9](#page=9). * **Claim dilution**: Shareholders may favor new debt for opportunities, increasing default risk for existing creditors [9](#page=9). * **Asset withdrawal**: A generous dividend policy can erode the equity cushion, increasing creditor risk [10](#page=10). * **Risky managerial strategies**: High-risk, high-return projects can benefit shareholders more than creditors, who bear the downside risk [10](#page=10). * Creditors are generally deterred from active involvement in corporate decision-making due to fixed returns and limited downside risk [9](#page=9). * Lenders gain little from corporate prosperity, reducing their incentive to intervene in solvent debtors' affairs [9](#page=9). * Resource limitations and diversification further reduce creditors' incentives to get involved in individual companies' affairs [9](#page=9). * Bargaining for contractual restrictions can limit debtor conduct, such as creating new debt or distributing dividends [10](#page=10). * Competitive pressures in debt finance can lead creditors to forego protective strategies to secure business [10](#page=10). * Monitoring compliance and collecting on large unpaid debts can be costly, limiting the practical use of extensive contractual rights [10](#page=10). ### Bargaining and control strategies * Creditors can stipulate "acceleration clauses" allowing immediate demand for repayment if debt contract terms are breached [10](#page=10). * Requiring regular submission of specified financial information enhances creditor monitoring capabilities [10](#page=10). * * * ## Directors' roles and responsibilities * Directors, especially Non-Executive Directors (NEDs), have dual roles: advising full-time executives and monitoring their decision-making [16](#page=16). * The primary role of a board is to establish company strategy [15](#page=15). * Boards typically delegate significant managerial authority to executive officers [16](#page=16). * NEDs are directors not involved in day-to-day company affairs [16](#page=16). * Unitary board structures integrate all directors into one body, allowing NEDs to advise and monitor [16](#page=16). * Two-tier boards separate management and supervisory boards, with NEDs typically on the supervisory board focused on monitoring [16](#page=16). * Shareholders usually elect directors, especially in unitary board systems [16](#page=16). * Director terms vary significantly by jurisdiction, from one year (e.g., Sweden, Delaware) to six years (e.g., France, Belgium) [16](#page=16) [17](#page=17). * Companies Act 2006 in the U.K. allows shareholders to dismiss directors via ordinary resolution [17](#page=17). * Directors may resign due to personal reasons, shifts in voting control, or fundamental disagreements [17](#page=17). * NED remuneration is typically modest compared to executive pay, often fixed periodically [17](#page=17) [18](#page=18). * For instance, in 2023, UK NED annual remuneration averaged GBP 77,000, while CEO pay averaged nearly GBP 4 million [18](#page=18). * **Director primacy:** The view that the board is the core decision-making body [18](#page=18). * **Monitoring function:** The role of directors in overseeing executive actions [16](#page=16) [18](#page=18). * **Outside/Non-executive directors (NEDs):** Directors who are not full-time employees of the company [16](#page=16). * **Tin parachute clauses:** Severance pay for rank-and-file workers upon a change of control [15](#page=15). * **Directors' and Officers' (D&O) insurance:** Coverage for directors against legal liability and expenses [20](#page=20). * NEDs may be less risk-tolerant than diversified shareholders due to their personal incentives and lack of direct financial upside from risky ventures [19](#page=19). * Conflicts of interest arise when directors represent specific constituencies, such as employees or influential shareholders/creditors [19](#page=19) [20](#page=20). * D&O insurance limits coverage and excludes dishonest conduct, and does not prevent inconvenience or adverse publicity from lawsuits [20](#page=20). * Reconfiguring remuneration to link director pay with firm performance could compromise objectivity [20](#page=20). * The effectiveness of two-tier boards as corporate watchdogs is debated [19](#page=19). ### Common pitfalls * Directors may face conflicts of interest, especially nominee directors who are understood to support their appointers' viewpoints [20](#page=20). * Criticism persists that outside directors fail to adequately monitor wayward corporate executives, with "collegiality trumping independence" [18](#page=18). * * * ### Role of creditors in corporate governance * Creditors are corporate participants who provide finance to companies [22](#page=22). * Their primary concern is the company's ability to repay its debts. * Creditors face risks when companies pursue risky ventures, as this can increase the likelihood of default [26](#page=26). ### Managerial risk preferences and creditor interests * Senior corporate executives, with their human capital tied to the company, tend to be more risk-averse than diversified shareholders [23](#page=23) [25](#page=25). * Executives may shy away from ventures that could jeopardize the company's viability, even if they offer high potential returns, preferring to protect their jobs and existing success [25](#page=25) [26](#page=26). * Creditors generally favour this cautious approach, as it reduces the risk of default and protects their investment [26](#page=26). ### Strategies for risk mitigation * **Contractual mechanisms:** Debt contracts can include restrictions on company conduct to mitigate creditor concerns about risky ventures [26](#page=26). * **Managerial services contracts:** These can incorporate variable pay linked to shareholder returns, such as stock options and bonuses tied to share performance, aiming to align managerial incentives with shareholder interests * **Capital markets scrutiny:** The process of raising external finance involves scrutiny by investors and financial intermediaries, incentivizing executives to run companies effectively [24](#page=24). * **Market for corporate control:** The threat of takeovers if a company is underperforming can incentivize executives to manage effectively and maintain a high share price [24](#page=24). * **Product and service market competition:** Poor management leading to uncompetitive products or pricing can result in loss of market share and potential insolvency, acting as a disciplinary force [24](#page=24). * **Labour market for executives:** The ambition of executives to secure more lucrative positions elsewhere incentivizes them to perform well in their current roles to impress potential future employers [24](#page=24). ### Limitations of risk mitigation strategies * **Contractual limitations:** No contract is perfect, and gaps inevitably remain, leaving potential for conflicts of interest [26](#page=26). * **Product market competition:** The impact can be delayed, especially if a poorly run company has significant market power [25](#page=25) [26](#page=26). * **Market for corporate control:** Takeovers are expensive and cyclical, limiting their consistent impact on poor management [26](#page=26). * **Market for managerial talent:** High-level job mobility is limited, making it rare for CEOs to be hired from other companies, thus reducing this constraint [26](#page=26). * **Executive overinvestment:** Even with equity-linked pay, executives' substantial investment in their current company can lead them to avoid risky ventures that diversified shareholders might favor, compounding the problem [26](#page=26). * **Timing of attitudes:** Creditors' and employees' preferences can shift dramatically when business failure looms, with shareholders and employees favouring risky gambles, while creditors fear deeper debt [26](#page=26). * **Regulatory justification:** The residual scope for executives to engage in detrimental conduct, despite monitoring and market forces, provides a possible justification for corporate governance regulation [26](#page=26). * * * # Shareholder involvement and considerations ### Core idea * Shareholders are residual claimants entitled to what remains after all other claims are satisfied [4](#page=4). * Their return is a combination of cash distributions and capital gains upon selling shares [4](#page=4). * Shareholder involvement varies significantly between privately held and publicly traded companies [2](#page=2). ### Key facts * In privately held companies, shareholders are typically few and often involved in management [2](#page=2). * Publicly traded companies usually have numerous shareholders with little direct involvement in daily operations [2](#page=2). * Shareholder investment duration is generally open-ended, unlike debt contracts with fixed terms [3](#page=3). * Retail investors trade shares less frequently than institutional investors like pension funds [3](#page=3). * Equity investments are often considered transitory, leading to concerns about short-termism [3](#page=3). * Shareholders are entitled to the company's net cash flow throughout its life, including dividends and liquidation payments [4](#page=4). * Limited liability protects shareholders, capping their loss at the amount paid for shares [5](#page=5). * Shareholders have legal powers including appointing and removing directors and approving fundamental changes [5](#page=5). * Shareholder passivity is a noted phenomenon in publicly traded firms due to various factors [6](#page=6). ### Key concepts * **Residual claimants**: Shareholders are the ultimate beneficiaries of corporate success, receiving what's left after fixed claims [4](#page=4). * **Efficient Capital Market Hypothesis (ECMH)**: Posits that share prices reflect available information, with weak and semi-strong forms being more plausible [4](#page=4). * **Volatility risk**: The inherent variability of returns associated with shares, distinct from the fixed returns of debt [5](#page=5). * **Diversification**: A strategy to reduce unsystematic risk by owning shares in multiple companies [5](#page=5). * **Systematic risk**: Market-wide risk affecting all shares, not mitigated by diversification [5](#page=5). * **Collective action problem**: Shareholders may refrain from disciplining management due to the "free-rider" effect [6](#page=6). * **"Blockholders"**: Individuals or families owning substantial share blocks, often more involved due to concentrated wealth [6](#page=6). * **Shareholder activism**: Can be "defensive" (protecting investment) or "offensive" (agitating for change in undervalued companies) [6](#page=6). * **Private benefits of control**: Dominant shareholders potentially securing disproportionate returns [7](#page=7). ### Implications * Publicly traded firms face pressure for short-term results due to potentially impatient investors [3](#page=3). * Share prices reflect the market's collective estimate of future cash flows, influencing company value [4](#page=4). * Diversification significantly reduces unsystematic risk, making collective investment vehicles popular [5](#page=5). * Shareholder involvement is crucial for corporate governance but often limited by rationality and collective action problems [6](#page=6). * * * # The role and considerations of employees in corporate governance ### Core idea * Employees are crucial corporate participants whose relationship with employers involves authority, internal administrative systems, and bargaining elements [11](#page=11). * Analyzing employment dynamics requires considering factors like duration, risk, return, control, conflicts of interest, and bargaining [11](#page=11). ### Key facts * Employees typically accept a zone of acceptance, expecting to follow employer directions [11](#page=11). * Labour market norms significantly influence employment terms offered by companies [11](#page=11). * Employer authority can be explained by efficiency considerations, not just power dynamics, for coordination and order [11](#page=11). * Employment offers employees predictability in working hours and fixed wages, aiding personal and financial planning [11](#page=11). * In the UK, statutes and common law protect against immediate dismissal without just cause [12](#page=12). * The US generally operates under "at will" employment, allowing discharge with immediate effect and without cause [12](#page=12). * Firm-specific training can compromise employee mobility if skills become too specialized for other employers [12](#page=12). * Employee returns primarily consist of wages and benefit packages, representing fixed claims [12](#page=12). * Employee share ownership and profit-sharing schemes can supplement fixed wages [13](#page=13). * The primary risk for employees is job loss, with significant potential costs [13](#page=13). * Employees can influence decisions via equity stakes or through worker representatives on boards [13](#page=13). * Many European countries provide for worker representation on company boards [13](#page=13). * Conflicts of interest arise between employees (agents) and shareholders/creditors (principals) [14](#page=14). * "Tin parachute" clauses provide severance pay for workers in case of hostile takeovers [15](#page=15). * Collective agreements between unions and employers are typically more detailed than individual contracts [15](#page=15). * Statutes in many jurisdictions regulate employment topics like health and safety and anti-discrimination [15](#page=15). ### Key concepts * **Zone of acceptance**: Employees' expectation to follow employer directions [11](#page=11). * **Firm-specific training**: Employee skill development tailored to a particular company, potentially reducing their external mobility [12](#page=12). * **Fixed claims**: Employee entitlements (wages, benefits) that a corporation is obliged to pay regardless of its financial performance, unless it ceases to operate [12](#page=12). * **Employee share ownership schemes**: Programs where employees hold stock in their company, linking their return to corporate performance [12](#page=12). * **Profit-sharing arrangements**: Schemes where employees receive a portion of the company's profits [12](#page=12). * **Agency costs**: Costs imposed on principals (shareholders/creditors) by agents (employees) who may act in their own self-interest [14](#page=14). * **"At will" employment**: Employment where either party can terminate the relationship at any time, with or without cause [12](#page=12) [15](#page=15). ### Implications * * * # Roles and responsibilities of corporate directors ### Core idea * Directors are formally vested with managerial authority, holding the core decision-making power in corporations [18](#page=18). * Their primary role involves monitoring management, acting as a check on day-to-day executives, and providing advisory capacity [18](#page=18). * Directors face various risks including reputational damage and potential, though rarely realized, personal financial liability [18](#page=18). * Conflicts of interest can arise, particularly for nominee directors representing specific constituencies [19](#page=19) [20](#page=20). ### Key facts * Directors typically serve one-year terms in large U.S. public companies, though terms vary internationally [17](#page=17). * Shareholders can usually dismiss a director by ordinary resolution, even if the company's constitution differs [17](#page=17). * Directors may resign for personal reasons, after a change in voting control, or due to fundamental disagreements [17](#page=17). * Longer service (over nine years) for NEDs in the UK can impair independence according to the Corporate Governance Code [17](#page=17). * Directors are entitled to fees for board meetings and duties, distinct from executive pay [17](#page=17). * Directors' fees are generally modest compared to executive compensation and are typically fixed periodically [17](#page=17) [18](#page=18). * Liability risks for outside directors are often mitigated by company indemnification or D&O insurance [18](#page=18). * Reputational risk is significant, incentivizing directors to maintain good judgment and prudent handling of matters [18](#page=18). * Shareholders elect most directors in publicly traded firms, influencing director priorities [19](#page=19). * D&O insurance covers legal liability and expenses for directors arising from their service [20](#page=20). ### Key concepts * **Director primacy:** The view that the board is the central decision-making body, balancing competing interests [18](#page=18). * **Monitoring management:** A key function where directors act as a check on executive actions [18](#page=18). * **Nominal liability vs. out-of-pocket liability:** Nominal liability involves a court finding or settlement, while out-of-pocket liability means the director personally pays [18](#page=18). * **Reputational risk:** The potential harm to a director's public image and professional standing, serving as a non-pecuniary incentive [18](#page=18). * **Director conflicts of interest:** Situations where a director's loyalties or interests diverge from those of the company or shareholders [19](#page=19). * **Nominee directors:** Directors appointed to represent specific shareholder groups, employees, or creditors, potentially creating loyalty conflicts [19](#page=19) [20](#page=20). * **Two-tier boards:** Systems where a supervisory board monitors management, theoretically allowing for a more detached perspective than unitary boards [19](#page=19). ### Implications * The divergence in risk tolerance between diversified shareholders and cautious outside directors can lead to boards acting as a brake on risky ventures [19](#page=19). * Nominee directors face a challenging balancing act to support their appointers while considering other corporate constituencies [20](#page=20). * Reconfiguring remuneration to link it more closely with firm performance to align with shareholder interests might compromise director objectivity [20](#page=20). * Boards have historically faced criticism for failing to adequately check corporate executives, despite promises of increased vigilance [19](#page=19). ### Common pitfalls * * * # Executive compensation and contracts ### Core idea * Top executives hold managerial authority delegated by the board and make key strategic decisions [21](#page=21). * Executive compensation comprises salary, variable performance-based pay, and perks [22](#page=22). * Executives face personal risks related to reputation and future employment, influencing their preference for remuneration structure [23](#page=23). ### Key facts * Managerial services contracts often include clauses on duration, with fixed periods or notice periods [21](#page=21). * In the U.S., CEO contracts for public companies typically range from one to five years, with three years being common [21](#page=21). * The U.K. Corporate Governance Code suggests notice periods of one year or less unless hiring externally [21](#page=21). * CEOs without explicit contracts work "at will" with no severance entitlement [22](#page=22). * Average CEO tenure in public companies has decreased, from nearly eight years in the 1990s to five years by the late 2010s [22](#page=22). * Executive remuneration typically includes a base salary, bonus schemes, and share options [22](#page=22). * "Perks" or "benefits in kind" can include company cars, office accommodation, and event tickets [22](#page=22). * Company pension plans are often the most lucrative corporate "perks" [22](#page=22). * Senior executives are generally not personally liable for corporate debts, barring specific legislation [22](#page=22). * CEO turnover is more frequent after periods of poor firm performance [23](#page=23). * Dismissed CEOs under age 60 are often treated as "forced" departures in academic studies [23](#page=23). ### Key concepts * **Duration:** Refers to the length of an executive's employment contract, impacting potential damages for wrongful termination [21](#page=21). * **Notice period:** The time an employee or employer must give to terminate an employment agreement, affecting severance calculations [21](#page=21). * **Severance pay:** Compensation provided to an executive upon termination, often negotiated when dismissal occurs without justifiable cause [21](#page=21). * **Performance-oriented pay:** Remuneration components (bonuses, share options) tied to the achievement of specific company performance targets [22](#page=22). * **Share options:** Rights to buy company equity at a set price, offering profit potential if the share price increases [22](#page=22). * **Human capital:** An executive's professional reputation, specialized training, and knowledge, which is tied to their job [23](#page=23). * **Overinvestment:** Executives' situation of having substantial human capital tied to their company, making them prefer less remuneration directly linked to company fortunes [23](#page=23). * **Forced departure:** Executive leaving a company not voluntarily, but due to company decisions, performance issues, or acquisitions [23](#page=23). * **Control:** The discretion managers have to act without substantial constraints, extending beyond formal decision-making authority [23](#page=23). ### Implications * Executives may prefer less variable pay due to significant human capital investment in their company [23](#page=23). * Being compelled to leave a senior executive role can severely jeopardize future employment prospects [23](#page=23). ### Common pitfalls * * * ## Common mistakes to avoid * Review all topics thoroughly before exams * Pay attention to formulas and key definitions * Practice with examples provided in each section * Don't memorize without understanding the underlying concepts

| Term | Definition | |------|------------| | Agency Costs | Costs incurred by principals (e.g., shareholders) due to conflicts of interest with their agents (e.g., managers), arising from the separation of ownership and control in corporations. | | Bargaining | The process by which corporate participants negotiate and agree on terms to resolve potentially contentious issues, aiming to establish clear arrangements for their interactions. | | Blockholders | Individuals or groups, such as founders or families, who own a substantial percentage of a public company's shares, often leading to greater involvement in corporate affairs to protect their investment. | | Bonds/Debentures | Debt instruments issued by a company to evidence a right to payment, typically sold to a number of investors through a trustee. | | Collective Action Problem | A situation where individuals acting rationally and in their own self-interest fail to take actions that would benefit the group as a whole, often seen in shareholder activism where individual shareholders may "free ride" on the efforts of others. | | Contract of Adhesion | A standardized contract offered on a "take it or leave it" basis, where one party has little to no power to negotiate its terms, common in consumer agreements and publicly traded company share purchases. | | Corporate Governance | The system of rules, practices, and processes by which a company is directed and controlled, involving the relationships and interests of stakeholders such as shareholders, creditors, and management. | | Creditors | Individuals or entities to whom a company owes money or has other financial obligations, including trade creditors, institutional lenders, and bondholders. | | Default Risk | The likelihood that a corporate debtor will fail to meet its debt obligations, either partially or in full, a primary concern for creditors. | | Defensive Shareholder Activism | Shareholder activism undertaken by a blockholder with the intention of protecting the value of their existing investment in a company. | | Diversification | An investment strategy that involves spreading investments across a variety of assets or companies to reduce overall risk. For creditors, it means holding a portfolio of debt obligations, and for shareholders, it means owning shares in multiple companies. | | Efficient Capital Market Hypothesis (ECMH) | A theory suggesting that asset prices fully reflect all available information. The weak form posits that prices reflect past prices, the semi-strong form that prices reflect all publicly available information, and the strong form that prices reflect all knowable information. | | Shareholder | An owner of shares in a company, who is entitled to a portion of the company's residual profits and assets after all fixed claims have been satisfied. | | Privately Held Company | A company with a small number of shareholders, who are often involved in the day-to-day operations and management of the firm. | | Publicly Traded Company | A company whose shares are listed on a stock exchange, typically having numerous shareholders with very few involved in the daily operations. | | Residual Claimants | Shareholders are characterized as residual claimants because they are entitled to whatever is left over after all fixed claims against the company have been met. | | Volatility Risk | A type of risk faced by equity investors characterized by a highly variable potential return on their investment, due to fluctuations in a company's net profit flow over time. | | Unsystematic Risk | Risk that is peculiar to an individual company's shares, arising from company-specific perils, which can be substantially reduced through diversification. | | Systematic Risk | Risk that arises from share price fluctuations caused by general conditions affecting the entire stock market, to which investors remain exposed even with a diversified portfolio. | | Capital Asset Pricing Model (CAPM) | A model that suggests investment risk is directly correlated with return, implying that to "beat the market," an investor must select a stock portfolio riskier than the market average. | | Appointment Rights | Significant legal powers bestowed upon shareholders, often including the right to appoint and remove directors of the company. | | Decision Rights | Shareholder powers that can potentially influence or override the authority of the board of directors and management, often requiring shareholder approval for fundamental corporate changes. | | Zone of Acceptance | The range of directions and tasks that employees expect to follow when agreeing to work for a company, signifying their acceptance of the employer's authority. | | Firm-Specific Knowledge | Specialized information, skills, and expertise that an employee acquires through training and experience directly related to a particular company's operations and needs. | | Fixed Claims | Financial obligations of a corporation to its employees, such as wages and benefits, that must be paid regardless of the company's financial performance, unless it ceases to operate. | | Employee Share Ownership Schemes | Programs that allow employees to own shares in the company they work for, potentially linking their remuneration to the company's success and providing them with voting rights. | | Profit-Sharing Arrangements | Compensation plans where employees receive a portion of the company's profits, intended to align employee incentives with corporate performance and encourage cost savings. | | Incentive Misalignment | A situation where the rewards employees receive are not directly proportional to their individual contributions, potentially diluting the motivational effect of performance-linked pay. | | At Will Employment | A legal doctrine, prevalent in some U.S. states, that allows employers to terminate an employment contract at any time, for any reason, or for no reason at all, without cause or prior notice. | | Tin Parachute Clauses | Provisions in employment contracts that entitle employees to severance pay if they lose their jobs as a result of a corporate acquisition or takeover, providing a safety net during changes of control. | | Collective Agreements | Contracts negotiated between labor unions and employers that typically cover a broader range of workplace issues than individual employment contracts, including working conditions, redeployment, and dismissal procedures. | | Worker Representatives | Individuals elected or appointed to represent the interests of employees in discussions and negotiations with company management or on the company's board of directors. | | Strategic Management | The process of making major policy decisions that guide a company's long-term direction and objectives, typically undertaken by senior leadership and the board of directors. | | Annual Re-election | The practice where directors of a company are put forward for re-election by shareholders on a yearly basis, a common provision in the U.K. Corporate Governance Code for companies listed on the London Stock Exchange. | | Board Tenure | The length of time an individual serves as a director on a company's board. In the U.K., service exceeding nine years may impair a director's independence according to the Corporate Governance Code, while in the U.S., average tenure in large public firms has been increasing. | | CEO (Chief Executive Officer) | The principal executive officer of a company, typically acting as the primary point of contact for setting and implementing corporate policy, and holding delegated managerial authority from the board. | | Companies Act 2006 | A piece of legislation in the U.K. that grants shareholders the power to dismiss a director through an ordinary resolution, requiring a simple majority of votes cast, irrespective of the company's internal constitution. | | Conflicts of Interest | Situations where a director's personal interests or loyalties may diverge from or clash with the best interests of the company or its shareholders, potentially arising from representing specific constituencies or having diverse personal financial stakes. | | Corporate Governance Code | A set of guidelines and principles that outline best practices for the governance of companies. For example, the U.K. Corporate Governance Code provides guidance on director independence and board service duration. | | Directors' Fees | The remuneration paid to directors for their service on a company's board, typically for attending meetings and performing related duties. These fees are generally modest compared to executive pay and are usually fixed periodically. | | Directors' and Officers' (D&O) Insurance | An insurance policy purchased by a company to cover potential legal liabilities and expenses incurred by its directors and officers as a result of their service to the company, offering protection against litigation costs and personal liability. | | Director Primacy | An academic perspective that views the board of directors as the central decision-making body within a corporation, responsible for balancing the various competing interests present within the firm. | | Diversified Portfolio | An investment strategy where an investor holds a variety of assets across different companies and industries. This approach influences risk preferences, making investors with diversified portfolios potentially more receptive to higher-risk, higher-return projects. | | Fiduciary Genes | A metaphorical term referring to the inherent sense of duty and responsibility that directors are expected to possess. The phrase suggests that the boardroom environment can sometimes dull or suppress these natural inclinations towards acting in the company's best interest. | | Independent Directors | Directors who are free from any relationship with the company that could impair their objective judgment. The U.K. Corporate Governance Code considers long board tenure as a factor that can impair a director's independence. | | Managerial Services Contract | A formal agreement between a company and an executive outlining the terms of employment, including duties, duration, and compensation. These contracts are crucial for defining the relationship and potential liabilities. | | Fixed Period Contract | An employment agreement with a specified start and end date. Upon expiration, the employment relationship formally concludes unless the contract is renewed. | | Notice Period | A clause within a managerial services contract that dictates the amount of advance warning either the company or the executive must provide to terminate the agreement. This period influences severance calculations. | | Severance Payment | Compensation provided to an executive upon termination of their employment, particularly when dismissed without just cause. The amount is often influenced by the remaining duration of the employment contract. | | At-Will Employment | An employment relationship where either the employer or employee can terminate the contract at any time, for any reason (or no reason), without legal recourse, provided it's not for an illegal reason. This often applies when no explicit employment contract exists. | | Base Salary | The fixed, regular amount of compensation an executive receives for their services, which does not fluctuate based on company performance between periodic reviews. | | Performance-Oriented Pay | Compensation that is variable and directly linked to the achievement of specific performance targets set by the company. This can include bonuses and share options. | | Bonus Schemes | Arrangements where executives receive additional cash or company shares, or a combination of both, upon meeting or exceeding predetermined performance goals. These can be structured annually or over longer periods. | | Share Options | A contractual right granted to an executive, allowing them to purchase company stock at a predetermined price within a specified future timeframe. This form of compensation is performance-related as profits are realized if the stock price increases. | | Perks / Benefits in Kind | Non-monetary benefits provided to executives in addition to their salary and incentive pay. Examples include company cars, lavish office accommodations, and access to company tickets for events. | | Human Capital | The collective skills, knowledge, experience, and professional reputation of an individual, which are tied to their job and career. Executives often have significant human capital invested in their roles. | | Overinvestment | A situation where senior executives have a disproportionately large amount of their personal capital, particularly human capital and remuneration, tied to the performance and success of a single company. |