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1 Corporate Governance: An International Review, 2010, ():

The Movement Toward Independent Directors on Boards: A Comparative Analysis of Sweden and the UK
Daniel Johanson* and Katarina stergren
ABSTRACT Manuscript Type: Conceptual Research Question/Issue: The aim of this research study is to theorize about the antecedents of the board independence norm (BIN), dened as the standard of having independent directors on corporate boards. The research approach is a comparative analysis of two governance settings Sweden and the UK. Research Findings/Insights: The UK governance system uses a BIN of power balance from a shareholder perspective, while the Swedish governance system uses a BIN of social connectedness from a stakeholder perspective. However, our ndings also suggest that exogenous variables such as pressures to conform to global best practice are antecedents of the BIN in the governance codes. Theoretical/Academic Implications: Any global theory of board independence must integrate differences in board structure and ownership patterns, as well as social connectedness in corporate networks. Furthermore, in addition to economic welfare, social welfare and stakeholder balance should also be considered. A synthesis of the Varieties of Capitalism and New Institutional perspectives considers that corporate governance is embedded in economic, cultural, and social contexts, yet also addresses institutional forces of conformity that are exogenous to the governance system. This seems to be a more promising framework for comparative governance research than Contingent Agency Theory. Practitioner/Policy Implications: Multi-national regulative frameworks should focus on general principles of board independence. Local standard setters might then focus on developing a BIN that ts the specic institutional setting. We provide suggestions about how standard setters in Sweden and the UK can make their BINs more consistent with their settings. Keywords: Corporate Governance, Corporate Governance Codes, Board Composition, Institutional Theory, Scandinavia, United Kingdom

INTRODUCTION
orporate governance regulation, as well as academic research, have increasingly come to focus on the role of independent board members on corporate boards (Daily, Dalton, & Cannella, 2003; Hermalin & Weisbach, 2003; Hermes, Postma, & Zivkov, 2006; Higgs, 2003). Mainstream corporate governance research and codes of best practice are often based on the assumption that independent boards are vital for ensuring sound nancial reporting and preventing fraud (Beasley, Carcello, Hermanson, & Lapides, 2000; Cadbury, 1992; Cohen, Krisnamoorthy, & Wright, 2002;
*Address for correspondence: Department of Accounting, Auditing, and Law, Norwegian School of Economics and Business Administration, Helleveien 30, NO-5045 Bergen, Norway. Tel: +47 55 95 93 11; Fax: +47 55 95 93 20; E-mail: daniel.johanson@ nhh.no

Higgs, 2003). The concept of board independence was a cornerstone in the inuential Cadbury Report (1992) in the UK and it now occupies a central position in the corporate governance codes of European countries (Hermes et al., 2006). In the US, the corporate scandals of the early 2000s (e.g., Enron, WorldCom) fortied the perceived importance of independent boards. Both the NYSE and NASDAQ now require a board composed of a majority of independent directors. This study is concerned with the board of directors and the focus is on the norm of board independence. In this study, the board independence norm (BIN) is dened as the standard of having independent directors represented on the board of directors. An independent board is a board with independent directors.1 What constitutes an independent director follows from denitions in leading codes of best practice. Although the independence of corporate boards

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has received much attention in research, there are few comparative analyses of this governance mechanism across different countries and institutional settings. Current discussions in the European Union (EU) about harmonizing norms relating to the corporate board highlight the importance of studying the board in different country settings (EU Commission, 2005). Previous studies have examined how corporate governance practice is complexly embedded in cultural, legal, and political settings (Aguilera & Jackson, 2003; Dore, 2000; Hall & Soskice, 2001; Roe, 2005). Although there are arguments about a global tendency of convergence towards the so called Anglo-Saxon model, recent empirical evidence indicates that the landscape is still diverse (Goergen, Manjon, & Rennebog, 2008; Hall & Gingerich, 2009; Schmidt, Hackethal, & Tyrell, 2002; Wjcik, 2006; Yoshikawa & Rasheed, 2009). Nevertheless, companies are pressured by institutional investors and the stock exchanges to adopt what is perceived as global best practice (Ahmadjian & Robbins, 2005; Davis & Thompson, 1994; Jacoby, 2007; Useem, 1998). However, given the diversity in national corporate governance settings, are best practices compatible with the local system? It is still not clear how national standard setters and companies deal with pressure to adopt global practices. These issues underline the importance of studying the relationship between governance settings, and central concepts and recommendations in governance codes. The aim of this research study is to explore and theorize about the antecedents of the board independence norm (BIN) in two different governance systems the UK and Sweden. A norm is dened in this study as a standard of behavior that is appropriate within a social system.2 The research objective is further specied in two research questions. 1. Are there intrinsic differences between the Swedish and UK corporate governance systems, and if so, how do the differences relate to the role of the BIN? 2. What are the differences and similarities between the BIN in the Swedish and UK governance codes, and how can such differences and similarities be explained? The settings of Sweden and the UK were chosen on the basis of important differences in board models and composition between the insider corporate governance systems of the Nordic countries, and the outsider systems of the UK/US (Johanson, 2002; Lubatkin, Lane, Collin, & Very, 2005). The Scandinavian country of Sweden was chosen to represent the Nordic model. The main reason is that, of the Nordic countries, there is most research about Sweden.3 The UK was preferred to the US in representing the Anglo-Saxon tradition, because there is a stronger tradition of corporate governance codes in the UK. Furthermore, as the UK is a member of the EU, implications for the convergence of corporate governance in the European context may be relevantly discussed. The rst section of the paper addresses issues relating to the theoretical origin of the BIN and its use in standard setting and academic research. The paper then outlines a theoretical framework based on the Varieties of Capitalism (VoC) perspective and New Institutional Theory (NIT). From the VoC literature derives a number of variables

with implications for the role of the BIN in different governance settings. However, the VoC literature is an insufcient framework for explaining why corporate governance codes are different or similar across countries. The NIT, on the other hand, contains a number of concepts and assumptions that are also useful for addressing the second research question. The second section of the paper starts by addressing the more general legal requirements and traditions of Swedish and UK boards. The codes of corporate governance in the two countries are then described, focusing on board independence. In the third section, the governance variables derived from the theoretical framework are used to structure our review of the corporate governance literature about Sweden and the UK. On the basis of the review, we suggest how the governance setting impacts on the BIN in the two countries. The paper then moves on to develop a number of general research propositions about the antecedents of the BIN. In the fourth and last section, we draw conclusions and discuss policy implications.

CONCEPTS AND THEORIES


Theoretical Origin of Board Independence
Board independence is an idea that derives from agency theory and economics-based nancial accounting research (Bushman & Smith, 2003; Ross, 1973). To a large extent, the eld of corporate governance has become synonymous with agency theory. The inuential 1976 study by Jensen and Meckling outlined the basic agency problem between shareholders and managers in the setting of the publicly held corporation (Jensen & Meckling, 1976). This was followed by two important studies by Fama and Jensen in 1983. The rst study had a distinct focus on the board of directors (Fama & Jensen, 1983a). It was argued that companies deal with the agency problems arising from the separation of ownership and control by allocating decision control to the board and decision management to the executive team. Such boards always have the power to hire, re, and compensate the top-level decision managers and to ratify and monitor important decisions. (Fama & Jensen, 1983a:311) However, this raises the question of on whose behalf the board monitors management. The second study by Fama and Jensen (1983b) addressed this issue by positioning the shareholders as the residual claimants within an organization modeled as a nexus of contracts. The authors argued that, as the residual claimants, the shareholders have strong incentives to monitor management. This implied that the control rights should be allocated to the shareholders. It was implicit in their analysis that the goal of the corporation is to maximize the economic value of the residual claims. This research has been highly inuential in establishing a theory of the board as a mechanism for reducing the agency costs associated with the separation of ownership and control (Hermalin & Weisbach, 2003). The subsequent question is how the BIN relates to this agency theoretical view of the corporate board. In a historical narrative of the rise of the independent director, Gordon (2007, 2008) positions the BIN in the US setting. Gordon argues that the independent director commits companies to

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the strategy of maximizing shareholder wealth. Thus, in the setting of the Anglo-Saxon governance systems, the independent director is conceived of as an agent of the shareholders. It follows that the fewer ties a director has to the company and its management, the better the director will be at protecting the interests of the shareholders. The BIN also relates to ownership structure, a parameter held as important in agency theory (Jensen & Meckling, 1976; Shleifer & Vishny, 1986). The independent director can be positioned in the context of the dispersed ownership structure of foremost US, but also UK companies. In the absence of large shareholders who can directly monitor management, the independent director is assumed to play a role in protecting shareholder wealth.

A Debated Concept with Disappointing Evidence


Academic research indicates a rapid diffusion of corporate governance codes worldwide in the past decade (Aguilera & Cuervo-Cazurra, 2009; Hermes et al., 2006). Board composition, in terms of a requisite number of independent directors, occupies a central role in the codes. The BIN has been increasingly emphasized in the regulation of corporate governance and nancial reporting in Europe as well as globally (EU Commission, 2005; Financial Reporting Council, 2008; OECD, 2004). In an EC review from 2007, progress in the implementation of standards on independent directors in the member states was reported (GCGF, 2008). However, the same review stated that the standards have not been completely followed in all member states. Board independence has become an inuential norm despite the fact that there is limited empirical evidence that more independent boards lead to better company performance or less likelihood of corporate fraud. The overall conclusion of the many empirical studies is that there is no relationship between board independence and company performance (Bhagat & Black, 2002; Daily et al., 2003; Hermalin & Weisbach, 2003). This raises the warranted question why board independence has become such an inuential norm in corporate governance codes. The standard of having a large number of independent directors on boards is generally endorsed by institutional investors based in the Anglo-Saxon countries. However, there are critical voices both in the UK and the US (Dalton & Dalton, 2005; Ezzamel & Watson, 1997). In the UK, an intense debate followed the Higgs Review (2003). The criticisms were based on the agency theoretical view of the corporate director, the tough denitions of independence, and the failure of developing best practices supported by empirical evidence (Corley, 2005).

is also positioned relatively close to New Institutional Theory (NIT) in emphasizing the importance of social and cultural factors, such as for example informal rules and shared understandings among actors (Hall & Soskice, 2001). The probably most obvious variable relating to corporate boards is the structure. Board structure may be classied as either unitary (one-tier) or dual (two-tier). The German board has been extensively used to illustrate the logic of the dual board structure (Vitols, 2001). In contrast with the UK unitary board, the German board model separates the management and monitoring functions by demanding companies to have two boards. Board structure also includes compositional dimensions of boards. An important characteristic of the German dual board is that employees have by law the right to be represented at the corporate board level. Labor co-determination has been stressed in the VoC literature as an important component of a business system (Hollingsworth, 1997). The agency theoretical literature has largely focused on ownership concentration. The VoC literature suggests that the identity of the owner is also important. Owners differ with respect to preferences as well as the degree of commitment and involvement in the company. The concept of patient capital underlines that owners may have different time horizons of their investments (Hall & Soskice, 2001). Furthermore, ownership patterns have been used to refer not only to levels of ownership concentration, but also crossshareholdings within business groups (Whitley, 1998). Relational frameworks both enable and constrain possibilities for actions. In the context of corporate governance, such relations may be social ties as well as more structured networks of interlocking directorates within business groups (Burt, 1983; Orr, Biggart, & Hamilton, 1991). The VoC literature has taken an interest in networks and social ties as they relate to business groups and industrial relations (Hage & Alter, 1997). Benets from cooperation and information-sharing increase over time as mutual expectations and working relationships build up. Finally, values and norms differ across countries. One important expression is what is perceived as the legitimate goal of corporations. Variations between countries have led to the distinction between a shareholder model and a stakeholder model (Guilln, 2004; Vitols, 2001). In the shareholder model the norm of maximizing shareholder wealth is important, whereas the stakeholder model emphasizes social balance between various stakeholders (Dore, 2000; OSullivan, 2000). In summary, this section has identied four variables descending from the VoC literature: board structure, ownership patterns, networks and social ties, and values and norms.4

The Varieties of Capitalism Literature


The VoC literature has focused on comparative analyses across countries. This perspective recognizes complementarities, embeddedness, and complexity by raising the issue of what effects follow from the presence of specic institutions (Hall & Soskice, 2001; Jacoby, 2005; Thomas & Waring, 1999). In providing rich descriptions of the varieties of governance congurations, this literature is useful for identifying variables that hypothetically relate to the BIN. The VoC literature

New Institutional Theory


NIT attends to the rules and beliefs at the organizational level as well as the need to conform to institutional rules and norms (Fligstein, 1991; Judge, Douglas, & Kutan, 2008; Scott, 2007). Implementation of reforms can, according to NIT, be conceived as processes of legitimization and apparent conformity (Meyer & Rowan, 1977). It has been described previously how institutional pressures are distinct from technical pressures and how decoupling can lead to mind-

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less imitation (Tolbert & Zucker, 1983). DiMaggio and Powell (1983) have argued that organizations not only compete for customers and resources, but also for political power and institutional legitimacy. This has led governance researchers to consider that adoption of corporate governance codes may be driven by external pressure (Aguilera & Cuervo-Cazurra, 2004; Zattoni & Cuomo, 2008). The search for legitimacy may push companies to adopt practices for a ceremonial purpose, rather than for improving technical efciency (Meyer & Rowan, 1977; Meyer & Scott, 1992). A problem with some versions of the NIT is the one-sided focus on isomorphism resulting from diffusion through passive imitation (Lounsbury, 2008). A classic study of Meiji Japan has shown that as industrial and military models were copied from the West, it led to alterations in adjusting the congurations to a new setting (Westney, 1987). Partly as a reaction to the many studies of diffusion and passive imitation, developments in Scandinavian institutional theory have emphasized processes of translation, editing and recombination (Czarniawska & Svon, 2005; Hedmo, SahlinAndersson, & Wedlin, 2005). Powell, Gammal, and Simard (2005:233) have stated that diffusion implies a central broadcast point and wide reception with rather passive receivers, whereas translation implies a more relational and active process of reception. Ideas are translated as they move in space and time and are interpreted in another setting (Czarniawska & Svon, 1996). Human actors generate social structures through use of resources, interpretive schemas, and norms that are embedded in a larger institutional context (Brunsson, 2002; Scott, 1987). When it comes to institutionalization of a new technology or practice, as in the form of a new governance code, the existing values and norms may generate social constructions about the new code. Thus, in the zone between complete adoption and resistance, experimentation and innovation can take place that support and develop practice (Powell et al., 2005).

(Cadbury, 1992). The chairman is usually a NED, but can also be the CEO. Having the same person on the board serving as both CEO and chairman (CEO duality) used to be a tradition. However, following the development of corporate governance codes in the past 15 years, CEO duality has become less common (Mallin, 2009). The NEDs can for example be retired executives of the company or current executives in other companies. It has been argued that such directors often have personal relationships with the current executive directors and that their independence can be questioned (Ezzamel & Watson, 1997). Other groups that are often present on the board are politicians, civil servants, nance people in merchant banks, and professional lawyers and accountants. It is unusual that individual or institutional shareholders are directly represented on the boards of UK companies. In effect, there is no direct association between board members and specic shareholders (Mayer, 2000). According to UK company law, the boards duciary duty and overall responsibility is towards the shareholders (Gower & Davies, 2008). Although there have been discussions about reconciling the interests of the shareholders with other stakeholders in a framework, the overriding goal of the corporation is still to maximize shareholder wealth (Dore, 2000; Vitols, 2001).

The Corporate Board in Sweden


The Nordic countries have a common legal origin based on codied civil law, where the structure and functions of corporate boards are extensively regulated in company laws. The Swedish corporate governance system is legally built up around three bodies the general assembly, the board of directors, and the CEO (Swedish Companies Act, 2005). Swedish corporate boards follow the unitary board structure (Bergstrm & Samuelsson, 2009). In practice, however, the compositional characteristics of Swedish boards are more similar to the dual board structure. By tradition, the CEO is usually the only executive that serves as a member of the board. Furthermore, the Swedish Companies Act (2005) does not allow CEO duality. The strong separation of the board from the executive team is a characteristic shared by the Nordic countries. Swedish law requires that at least three board members represent the employees. Labor co-determination at the corporate board level is a characteristic that Sweden shares with the other Scandinavian countries, as well as several countries in Continental Europe. Moreover, equal gender representation on corporate boards has become an important political issue for many political parties in the Nordic countries. In the debate, some companies have stressed problems in nding enough women with the right experience (The Economist, 2008). An adverse consequence is that some women now sit on more than 30 different boards, which could make it difcult to devote sufcient time to each company. Major shareholders are often present or directly represented on Swedish boards. There is a tradition in Sweden of strong and active owners with a long-term interest in the companys industrial development (Carlsson, 2007; Lindgren, 1994). Given the signicant inuence that large

THE CORPORATE BOARD AND THE GOVERNANCE CODES


The Corporate Board in the UK
Being based on common law, the UK company law does not regulate in detail the roles and structures of corporate boards (Parkinson, 1995). The Companies Act of 2006 requires that public limited companies have a minimum of two directors (Gower & Davies, 2008). The directors take collective responsibility for decisions. Further denitions of board composition and the directors functions have traditionally been left to self-regulation. UK companies have by tradition unitary boards (Gower & Davies, 2008). Directors in the UK are commonly divided into two groups executive directors and non-executive directors (NEDs) (Cadbury, 1992; Pettigrew & McNulty, 1998). The executive director, in contrast to the NED, combines the role as director on the board with an executive position in the company. The executive director could be the CEO, but also other members of the executive team. On UK boards, the chairman has traditionally been inuential in for example setting the agenda of the meetings

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shareholders have on board composition, it is not surprising that conicts of interests between minority and large shareholders are sometimes stressed as problematic in the Swedish debate on corporate governance (Tson Sderstrm, Berglf, Holmstrm, Hgfeldt, & Meyersson Milgrom, 2003).

Board Independence in the UK Codes


The UK has been a trend-setter in corporate governance codes. When corporate governance became a major topic in the late 1980s and early 1990s, it was in the UK that a code of corporate governance was rst introduced. The Cadbury Committee was set up by the Financial Reporting Council, the London Stock Exchange, and several regulatory accounting institutions. Following a number of corporate scandals and a perceived lack of condence in nancial reporting, the Cadbury Report (1992) was primarily concerned with the boardroom and accounting aspects of corporate governance. The Cadbury Report was based on the assumption of a positive relationship between board independence and the quality of nancial reporting. The company boards in the UK at that time contained a large proportion of executive directors. A major issue was therefore to increase the number of NEDs on company boards. Although the report distinguished between NEDs and independent NEDs, the distinction was not a major issue at that time. Independent NEDs were dened as those who are independent of management and free from any business or other relationships which could materially interfere with the exercise of their independent judgment (Cadbury, 1992:22). The emphasis was placed on independent of management and it was often considered sufcient to increase the number of NEDs on the board. To further reduce the inuence of executives on the board, it was recommended that companies install three types of committees audit, nomination and remuneration committees (Cadbury, 1992). The Cadbury Report (1992) has been recognized as a landmark in corporate governance regulation, but also criticized for being too prescriptive and placing too much emphasis on accountability. The Hampel Report (1998) stressed that the interests of shareholders are served by allowing managers to exercise enterprise in terms of risk-taking and innovation. Nevertheless, the trend in the last years has been towards a stricter framework of regulation (Keasey, Short, & Wright, 2005). The instant reaction to Enron and other corporate scandals was to further increase the focus on independence, not only as relating to the auditor, but also to the board (Higgs Review, 2003). The Higgs Review introduced a new extended denition of independence that was subsequently incorporated in the UK codes. A non-executive director is considered independent when the board determines that the director is independent in character and judgment, and there are no relationships or circumstances which could affect, or appear to affect, the directors judgment. (Higgs, 2003:37) Although the denition seems rather similar to the one in the Cadbury Report (1992), the Combined Code of 2003 issued by the Financial Reporting Council (FRC) further

specied these relationships and circumstances (FRC, 2003). In Appendix A, circumstances and relationships that are perceived to cause dependence include employment within the last ve years, material business relationships, cross-directorships, representing a signicant shareholder, board tenure, family ties and additional remuneration from the company. At the level of the board, the Combined Code of 2008 signicantly increased the number of independent NEDs in stating that at least half the board, excluding the chairman, should comprise non-executive directors determined by the board to be independent (FRC, 2008:8).

Board Independence in the Swedish Codes


Similarly with the other Nordic countries, a comprehensive Swedish corporate governance code was developed in the mid 2000s (Code Group, 2004). The background of the Swedish code was a lack of trust in the business community, following a number of corporate scandals. The Swedish corporate governance code builds on the principle of comply or explain. The code represents soft law, although incorporation into the registration contract of the OMX Nordic Exchange Stockholm gives it a touch of enforced selfregulation (Jonnergrd & Larsson, 2007). Board independence is central in the Swedish code (Code Group, 2004). At the level of the board, the code states that of the board members elected by the shareholders, a majority should be independent.5 Furthermore, no more than one executive director may be a member of the board. Moving down to the level of the individual director, a general statement denes independence in relation to both the company and management. In addition, there are circumstances and relationships that are perceived to violate the directors independence (see Appendix A). These are closely similar to the ones in the UK codes from 2003 and onwards. An important difference between Sweden and the UK relates to directors representing major shareholders. The Swedish codes treat these directors as independent (e.g., SCGB, 2008:12). However, there is a special restriction to somewhat limit the inuence of major shareholders on the board. At least two of the directors who are independent of the company and its management are also to be independent of the companys major shareholders. A major shareholder refers to owners who directly or indirectly control 10 per cent or more of the shares or votes in the company. (Code Group, 2004:27) Furthermore a minor difference relates to the violation of independence by interlocking directorships. The Swedish code seems less restrictive in only addressing direct interlocks, while the UK codes also mention other links than cross-directorships (see Appendix A). Audit, nomination, and remuneration committees are recommended by the Swedish codes. The nomination committee has been developed along somewhat different lines. There is a tradition in Sweden of a type of election committees (valberedningar), by which major shareholders nominate candidates for the board. The general assembly then decides on the appointment of board members (Svernlv, 2005). Nomination committees were introduced in the Swedish code in a form consistent with this tradition (Code Group, 2004). The nomination committee should have at

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least three members, and the majority of its members should not be board members. Thus, the Swedish nomination committee is not a subset of the board. In practice, the nomination committee is dominated by larger shareholders and its main responsibility is to evaluate the independence of board candidates. In the referral process preceding the code proposal of 2004, foreign institutional investors were critical of the composition of the nomination committees as well as the denition of signicant shareholders as independent (Jonnergrd & Larsson, 2007; Svernlv, 2005). There are some recent developments in the Swedish recommendations about board independence. For a longer period of time, the Swedish code and the listing rules of the OMX Nordic Exchange Stockholm had their own stipulations about independence at the level of the individual director. Although the denitions of independence were similar, it was considered inconvenient to have two parallel denitions.6 Consequently, in the most recent code from 2008, specic criteria of what constitutes an independent director are left for the listing rules of the stock exchange (SCGB, 2008). The listing rules are less specic in the circumstances and relationships that may violate independence, although business ties and employment in the company are mentioned (NASDAQ OMX, 2009). In 2009 it was decided that the stock exchange will remove its denition of the independent director from the listing rules, and instead refer to the governance code. Current proposals indicate that the next update of the Swedish code will return to the specic criteria of the code from 2004, the only exception being that the 12-year tenure limit for board members has been removed. The proposed criteria are also very similar to those in the recommendation of the EU Commission (2005).

clusion, the BIN in the UK is about balance of power between executives and NEDs, while the BIN in Sweden is about balancing the various interests represented on the board. Networks and Social Ties (2). Inter-corporate networks are less widespread in the UK than in most other European countries (Aguilera & Jackson, 2003; Vitols, 2001). A comprehensive study by Windolf (2002), reports that UK networks are relatively sparse and non-centralized. Furthermore, where inter-corporate networks exist in the UK these are seldom related to capital links within business groups. It has been suggested that interlocking directorates may preserve an old boy network and entrench management at the expense of shareholders (Higgs, 2003). Sweden, on the other hand, has extensive inter-corporate networks. These are held together by interlocking directorates and social ties in combination with capital links. A recent study by Stafsudd (2009) nds that an important characteristic of the Swedish governance system is informal governance built on trust in highly clustered and dense networks. Extensive social ties between companies make it difcult to classify some directors as independent. Nevertheless, such ties integrated in larger networks may lower transaction costs, provide access to information and facilitate the pursuit of common goals (Burt, 1983; Pfannschmidt, 1995). Furthermore, in comparison with the UK, Sweden has a relatively small pool of directors. This is largely a consequence of the country being small in terms of inhabitants. Recruiting independent directors from other countries has its own drawbacks as these directors may become isolated from existing networks. In conclusion, we suggest that in the UK, a BIN based on restricting director interlocks may play some role in preventing managerial entrenchment. A Swedish BIN, on the other hand, would also consider the benets of established intercorporate networks as well as the relatively small pool of available directors. Ownership Patterns (3). Ownership concentration in the UK is lower compared to many countries in Continental and Northern Europe (Chefns, 2002; Mallin, 2009). Institutional investors are today the largest type of shareholder in UK companies (Franks, Colin, & Rossi, 2005). Less than 15 per cent of the listed companies have a shareholder that controls 25 per cent or more of voting rights (Armour, Deakin, & Konzelmann, 2003). Thus, in the UK it is still rare that companies have a dominating shareholder that holds management accountable. By contrast, ownership of public limited companies in Scandinavia is highly concentrated (Faccio & Lang, 2002; La Porta, Lopez-De-Silanes, & Shleifer, 1999; Thomsen, 1999). Two business groups have historically dominated Swedish industry the Wallenberg group and the Handelsbank group (Carlsson, 2007; Lubatkin et al., 2005). The Swedish business sector is today still characterized by a limited number of business groups or spheres, which in some cases are linked by cross-shareholdings. There is a concept in Sweden of active ownership, referring to a tradition of involved and long-term ownership of industrial companies

ANALYSIS AND DISCUSSION


Board Independence and Governance Settings
Board Structure (1). Within the UK unitary board model, the inuence of executive directors on the board has been an issue (Tricker, 1984). A potential solution is to increase the number of NEDs on the board, which is also what occurred in companies after the Cadbury Report (1992). More NEDs on the board balances the inuence of the executive directors. Sweden has a model that is closer to the dual board structure. Originating both from legal requirements and customs, Swedish boards have traditionally been composed by a super-majority of NEDs. As a consequence, the discussion about balancing the inuence of executives with independent NEDs is less relevant in this board setting. However, in Swedish companies, independence may become an issue in relation to other stakeholders, such as employees and large shareholders represented at the board level. Independence at the level of the board entity is related to the use of board committees. A reason for introducing board committees in the UK was to reduce the inuence of executive directors in decisions where independence was considered crucial (Cadbury, 1992). Given the fact that executives are only to a limited extent represented on Swedish boards, committees become less relevant for this purpose.7 In con-

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(Lindgren, 1994). The concentration of control in Swedish companies is further increased by the existence of shares with multiple voting rights. Such shares can intensify control over management, but could also be misused in expropriating minority shareholders (Hgfeldt, 2005; Tson Sderstrm et al., 2003). In conclusion, we suggest that in the UK setting of relatively dispersed ownership, the BIN would support a strong element of independent NEDs that protect outside shareholders from managerial discretion. In the Swedish setting of concentrated ownership, large shareholders can directly monitor managers and managerial agency costs are in effect lower. The BIN in Sweden becomes important in balancing the inuence of large shareholders and protecting minority shareholders from expropriation. Values and Norms (4). In the UK, increasing the returns to shareholders is perceived as the goal of the corporation and is supported by an active market for corporate control (Dore, 2000). As stated in the Hampel Report (1998:12): directors as a board are responsible for relations with stakeholders; but they are accountable to the shareholders. In the setting of the UK shareholder model, the assumed link between board independence and the protection of the shareholders interest becomes important. Historically, the Scandinavian countries were based on a corporatist mode of regulation, characterized by consensus agreements between representatives of the business sector and the trade unions (Campbell & Pedersen, 2007; Hgfeldt, 2005). Employee representatives present at the corporate board level can be traced to the inuential role of the trade unions in Sweden (Eidem, 1991). Labour co-determination reects a view of the corporation that is different from the generic shareholder model. The shareholder has become an increasingly important stakeholder in Sweden (Henrekson & Jakobsson, 2003). However, it is still commonly perceived that social welfare and harmony must be considered alongside shareholder wealth and economic welfare. Furthermore, the Scandinavian countries have a long history of social democratic governments (Campbell & Pedersen, 2007). The value of social equality is still important in Scandinavia, as reected in for example the relatively low levels of executive pay (Randy & Nielsen, 2002). We suggest that the values and norms in the UK system imply a straightforward BIN based on NEDs as agents of the shareholders on the board. The Swedish BIN is more complex in having to address how the norm of maximizing shareholder wealth can be balanced with the interests of other stakeholders.

and the UK.8 The propositions could be viewed as the rst step towards a comprehensive theory about the antecedents of the BIN in different governance systems. Proposition 1 is based on the intrinsic characteristics of the unitary board structure and follows from the dominance of corporate executives on the board. In countries with board structures that by tradition or law already contain a supermajority of NEDs, the proposition does not apply. Proposition 1. In countries with a unitary board structure, the BIN will focus on balancing the inuence of management with NEDs that are strictly independent from management. Interlocking directorates may entrench executive directors at the expense of outside shareholders. It follows that the BIN may be used to place restrictions on for example cross-directorships. However, in countries where director interlocks and other ties are perceived to lower transaction costs within large business groups, such restrictions may be counter-productive.9 Proposition 2. In countries dominated by large business groups with inter-corporate networks, the BIN will be less restrictive with respect to interlocking directorates. The last propositions are based on our early discussion of agency theory and the role of the independent director in the US setting (Gordon, 2007, 2008; Jensen & Meckling, 1976). The propositions are also consistent with our comparative analysis of Sweden and the UK. Proposition 3a is based on the managerial agency problems created by the separation of ownership and control, while Proposition 3b is based on the agency problems between majority and minority shareholders. Proposition 3a. In countries where ownership concentration is low, the BIN will focus on creating a strong element of NEDs on the board whose interests are aligned with outside shareholders. Proposition 3b. In countries where ownership concentration is high and large shareholders are represented on the board, the BIN will be important in creating an appropriate power balance between majority and minority shareholders. Finally, Proposition 4 implies that cultural values and norms impact on the BIN. In countries where maximizing shareholder wealth is the overriding norm, the BIN can simply focus on accountability to shareholders. In countries where social welfare and social harmony are also important, stakeholders such as employees are often represented on the board. Proposition 4. In countries where values and norms are oriented towards equality, harmony, and social welfare, the BIN will focus less on shareholders interests and more on creating an appropriate balance of interests between different stakeholders on the board. The propositions are summarized in Figure 1, which in addition depicts the inuence of variables exogenous to the system as well as company-level effects of the BIN. The gure is useful for discussing research implications.

Research Propositions
This research study has developed board independence as a norm that is contingent on the specic governance setting. To our knowledge, prior research has not developed the idea that there are different BINs for different systems of governance. In the following, we attempt to make a theoretical contribution in developing general propositions about the antecedents of the BIN. We recognize the limitation that our research is conned to the governance settings of Sweden

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FIGURE 1 Antecedents and Effects of the Board Independence Norm (BIN)


Endogenous Variables
Board structure Exogenous Variables (e.g. External regulation, Pressure from foreign institutional investors)

P1
Networks and social ties

P2 P3 The BIN in the Governance Codes (BINUK, BINSW,... BINN) P4

Ownership patterns

Company-Level Effects (e.g. Company performance, Implementation)

Values and norms

We suggest that the variables endogenous to the governance system are critical antecedents of the BIN. Standardsetters adapt or translate international best practice to t the countrys governance system. An important issue is how the propositions can be tested in empirical research. There is a challenge in developing operational measures for the dependent variable. We propose a more rigorous content analysis to operationalize various dimensions of the BIN in the governance codes. A proxy for the BINs focus on creating an appropriate balance of interests is the frequency by which various stakeholder groups are mentioned in a code. Furthermore, a code encouraging NEDs to receive equity-based compensation, indicate that alignment of the NEDs interests with outside shareholders is considered important. Thus, it could be a useful proxy for the shareholder focus of the BIN. Future research could elaborate on our research and develop general propositions about different groups of countries and governance systems. Some interesting research questions can be raised: Are there additional antecedents of the BIN in other countries than the UK and Nordic countries?; following the generic classication by Millar, Eldomiaty, Choi, and Hilton (2005), do characteristics of the Communitarian governance systems imply a BIN different from the Anglo-Saxon systems?; to what extent is this reected and supported by the BINs in the countries governance codes?; and are there similarities in the BINs of countries classied as Emerging Market governance systems? As depicted in Figure 1, the BIN in a given setting is also a function of institutional forces referred to as exogenous variables. Examples include pressure from institutional investors and supra-national regulation. An intriguing issue is how the exogenous variables impact on the BIN in the governance codes, and what company-level effects follow. We propose that companies will be reluctant to implement new practices that fail to address the specic problems of the existing governance system. Following NIT (Meyer &

Rowan, 1977; Scott, 2007), we suggest that if the BIN in the codes is not translated to the governance systems, companies could respond by supercial imitation and decoupling of the formal and informal structures. This may allow companies to retain both efciency and legitimacy. Generally, the implementation of corporate governance codes in companies is an under-researched topic. Questionnaire surveys of board members could increase knowledge about the conditions that causes the BIN to become an entrenched, rather than merely symbolic, practice. Finally, this research paper has developed the idea that there is no universal best composition of corporate boards. The research implication is that operationalizations of board independence must consider that there are different BINs in different governance systems. We suggest that inadequate operational measures in prior empirical research could be one reason for not detecting a stronger relationship between board independence and company performance. In the UK setting, empirical studies have started to develop other measures focusing on, for example, the quality of directors (e.g., Gupta, Otley, & Young, 2008). Regarding board independence, we suggest that proxies of director reputation could be one supplementary measure of independence. This measure may better capture the NEDs integrity or independence in mind, rather than only independence in terms of apparent relationships. Most importantly, operational measures should not generally be transferred to other governance settings. For example, in empirical studies of Swedish companies, simple operationalizations of board independence as the proportion of independent directors may be misleading. The operational measures must be largely consistent with the Swedish BIN. The proportion of directors that are independent from large shareholders seems to be a more relevant measure in this setting.

CONCLUSION
The rst research question addressed differences between the Swedish and UK governance settings, and implications for the BIN. The four governance variables derived from the VoC literature indicate different governance problems in Sweden and UK. This in turn implies differences in BINs. The UK BIN is based on creating a power balance between executives and NEDs from a shareholder perspective, in a setting of dispersed ownership. The Swedish governance system implies a BIN based on social connectedness from a stakeholder perspective, where both the preservation of large and active shareholders and the protection of minorities are important. The second research question focused on the BIN in the two codes, and how differences and similarities between the codes can be explained. At the level of the corporate board, the recommendations of the codes are similar. If the UK chairman is an independent director, which is often the case, the minimum proportion of shareholder-elected independent directors is the same in the two countries. The three board committees, nowadays widespread in the UK, are also recommended in the Swedish code. However, reecting the tradition of inuential large shareholders in Swedish

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companies, the nomination committee plays a larger role and has a different composition. At the level of the individual director, most of the specic relationships and circumstances in the codes that violate independence are similar (Appendix A). One important exception is that the Swedish codes do not classify large shareholders as dependent. Large shareholders are allowed to constitute a majority of both the board and the nomination committee. This translation has arguably been made to preserve the institution of active long-term shareholders on corporate boards. The result is a BIN more consistent with the Swedish governance system. Nevertheless, there are many similarities between the BINs in the codes of the two countries, both at the level of the board and the individual directors. A possible explanation consistent with NIT is that smaller countries, such as Sweden, follow inuential best practice codes for legitimacy reasons. Various interest groups, such as foreign institutional investors and the stock exchanges, exert pressure on national standard setters. Adopting what is perceived as international best practice provides a signal that governance issues are taken seriously (Meyer & Scott, 1992; Zattoni & Cuomo, 2008). In conclusion, the BIN may be subject to both purposeful translation and isomorphic pressures to conform. Finally, an important general issue is the choice of theoretical perspective for comparative corporate governance research. This study has drawn on two theoretical perspectives (NIT and VOC), both emphasizing the role of institutions. Although agency theory has provided valuable research insights about corporate governance, it is less applicable to countries outside the Anglo-Saxon governance model. The implication of our study is that a synthesis of the NIT and VOC perspective may be a stronger candidate for an overarching perspective on comparative corporate governance. These perspectives recognize both the variety in governance settings and the importance of external pressures to conform.

Policy Implications
This research paper suggests that board independence can be useful as a global principle of corporate governance. Despite claimed problems, there is an advantage in the ambiguity of the concept that allows it to take on various meanings in different settings. However, this presupposes that global regulation and standard setting focus on general principles, such as resolving conicts of interests and creating an appropriate balance of interest. What conicts of interests are important and the appropriate balance of interests should be left for local standard setters to dene. Local standard setters might then develop a BIN consistent with the relevant control and power structures in the specic country setting. The European commission has temporarily postponed plans of a pan-European code of corporate governance (GCGF, 2008). Nevertheless, the overall ambition to harmonize governance practices in Europe was expressed in the Action Plan from 2003 (EU Commission, 2003). Furthermore, the explicit purpose of establishing the European Corporate Governance Forum (ECGF) was to support the convergence of national codes of corporate governance (EU

Commission, 2004). The European commission seems inclined to endorse detailed specications of what directors classify as independent (EU Commission, 2005). It is, however, encouraging that the most recent principles of the OECD are nuanced in the discussion of board independence. The principles recognize the variety of board structures and practices in different countries and emphasize the rights of other stakeholders than shareholders (OECD, 2004). We conclude with some specic policy implications for Sweden as well as the UK. Firstly, the Swedish codes have in our opinion been excessively inuenced by codes perceived as universal best practice. We are critical of the recent adoption of the EU Commissions (2005) detailed and stringent independence criteria. One implication is that fewer directors will qualify as independent, which can be problematic given the relatively smaller pool of available directors in Sweden. The detailed denitions of independence seem problematic also in the UK system, as it draws attention away from the core issue of balancing the power of management with strong NEDs. Although the NEDs should certainly be independent from management, it is equally important that they possess the requisite skills and knowledge to efciently monitor management. Preserving the tradition of large and active shareholders on Swedish boards may be sound, although it raises issues about minority protection. The Swedish code already states that at least two of the independent directors should be independent of major shareholders. To further balance the power of large shareholders, one seat on the board or nomination committee could be reserved for a representative of minority shareholders. In the UK, this is not an issue as large shareholders are not normally present on the board. However, a question is how accountability to outside shareholders can be improved. The current situation seems to rest on the abilities of the NEDs and the market for corporate control to constrain managerial discretion. We suggest that a Senior Independent Director (SID) as proposed in the Combined Code (2008) could provide an important communication channel and link to outside shareholders. Generally, future standard setting should be enabling in supporting companies to develop new practices within their governance systems. This could lead to productive changes in corporate governance practice at the company level. One positive example is the introduction and translation of nomination committees in Sweden, which is a successful development of an existing tradition of election committees.

ACKNOWLEDGEMENTS
We thank the chief editor, the associate editor, and the two anonymous reviewers for constructive comments in the review process. We are also thankful for comments received at the conference of the European Accounting Association held in Tampere, Finland, 2009.

NOTES
1. Thus, board independence can be studied both at the level of the individual board member and at the level of the board as a

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2.

3. 4.

5.

monitoring entity. We take care to separate between these levels in the study. This closely corresponds to the denition of norms as explicit and implicit rules in structure function sociology (e.g., Parsons, 1951). Norms can be distinguished from values. The latter refers to abstract ideals or expressions of the good, such as fairness and integrity. The Nordic countries consist of Denmark, Finland, Iceland, Norway, and Sweden. The Scandinavian countries refers only to Denmark, Norway, and Sweden. There are many other variables in the VoC literature. However, we cannot see any relationship between those variables and the BIN in the Swedish setting. Financing patterns could for example be an important variable in Germany, where banks are represented on supervisory boards. Interestingly, the three Scandinavian codes of Denmark, Norway, and Sweden prescribe the same proportion of independent directors. Independence criteria at the level of the individual director are also very similar. The codes are available on http:// www.ecgi.org.

6. The facts about these very recent developments are based on information from the Swedish Corporate Governance Boards website and on a telephone interview with the boards secretary. The recent proposals are available for download on: http:// www.corporategovernanceboard.se. 7. However, it should be noted that there may be other reasons for installing committees, such as decreasing workload volume, increasing workability of large boards, and providing a focus on critical issues. 8. We do, however, propose that our ndings about Sweden to a large extent can be generalized to the other Nordic countries. This is consistent with important prior research that has treated the Scandinavian countries as one group. La Porta, Lopez-deSilanes, Shleifer, and Vishny (2000) have for example identied a distinct Scandinavian civil law group, which also included Finland. 9. Although it is a task for future research, we note that this proposition could be relevant in other Communitarian countries, such as for example Japan, where large interconnected business groups exist.

APPENDIX A
Relationships and Circumstances Violating a Directors Independence in the Codes

Relationship/circumstance

UK Codes of 2003, 2006, & 2008 Issued by the FRC Has been an employee of the company or group within the last ve years.

Swedish Code of 2004 Issued by the Code Group Is the managing director, or in the preceding ve years has been the managing director of the company. Is employed, or in the preceding three years has been employed in the company. Has, or in recent years has had, extensive business ties or other extensive nancial dealings with the company or an associated enterprise, in his or her capacity as customer, supplier, or part-owner. Receives signicant remuneration for advice or services in addition to board work from the company or an associated enterprise or from someone in the senior management.

Relationship to company (1)

Relationship to company (2)

Relationship to company (3)

Relationship (family) to management/ company Interlocking directorships

Board tenure

Relationship to major shareholders

Has, or has had within the last three years, a material business relationship with the company, either directly, or as a partner, shareholder, director, or senior employee of a body that has such a relationship with the company. Has received or receives additional remuneration from the company apart from a directors fee, participates in the companys share option or a performance-related pay scheme, or is a member of the companys pension scheme. Has close family ties with any of the companys advisers, directors, or senior employees. Holds cross-directorships or has signicant links with other directors through involvement in other companies or bodies. Has served on the board for more than nine years from the date of their rst election. Represents a signicant shareholder.

Is a close relative or family associate of someone in the senior management. Is part of senior management in another enterprise having a director who is part of senior management in the company. Has been a member of the board for more than twelve years.

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Daniel Johanson is an assistant professor at the Norwegian School of Economics and Business Administration, Department of Accounting, Auditing, and Law. He has a doctoral degree in business administration from the School of Business, Economics, and Law at the University of Gteborg in Sweden. His doctoral dissertation examined how corporate board members access and use different types of information. Johansons main research interest is the intersection of corporate governance with management accounting and nancial accounting. The specic research topics span from governance regulation and the disclosure of corporate governance information in nancial reports, to how high-level governance structures impact on lower-level control systems in organizations. Katarina stergren is an associate professor at the Norwegian School of Economics and Business Administration, Department of Accounting, Auditing, and Law. She holds a doctoral degree in business administration from the University of Ume, Sweden, and has a special interest in studies of governance, organizational change, and learning. stergren is also research director of the Beyond Budgeting research program and is working on several projects on management control practices in the oil and gas industry. She is currently a visiting scholar at Stanford University.

2010 Blackwell Publishing Ltd

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2010

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