CORPORATE GOVERNANCE AND SHAREHOLDER DEMOCRACY

ABSTRACT

Corporate governance and shareholder democracy are essential elements of corporate management, influencing how companies are structured, operated and held accountable. Corporate governance ensures that a company’s management acts in the best interests of its stakeholders, incorporating systems and practices to foster accountability, transparency and ethical behaviour. Shareholder democracy, meanwhile, grants shareholders the ability to actively participate in corporate decision-making, primarily through voting rights, shareholder proposals and participation in general meetings. Shareholders are no longer passive participants but active players advocating for better governance practices, environmental responsibility and equitable policies. However, shareholder democracy faces challenges such as unequal voting power in dual-class share structures, the rise of passive investment strategies and coordination issues among minority shareholders. Shareholder democracy sees a parallel between the management positions of corporation and the management of democratic societies and recommends that shareholders should have more control and a more active role in the affairs of the corporation. This abstract explores the evolving interplay between corporate governance and shareholder democracy, analysing how advancements in technology, such as electronic voting and virtual meetings and global regulatory reforms are reshaping shareholder engagement. While shareholder activism has driven significant progress, the need to balance shareholder influence with managerial autonomy and strategic independence remains a critical concern. Moreover, it takes up the dispute that the disconnection of ownership and control is a non-issue and that the fact that shareholders might fail to play an active directory role through internal governance mechanisms is unimportant. Finally, this article also contributes to the broader discussion on fostering resilient and transparent corporate ecosystems that balance diverse stakeholder interests in an increasingly dynamic global environment.

KEYWORDS

Corporate Governance, Shareholder franchise, Stakeholder democracy, Monitoring board, Board reform.

INTRODUCTION

Corporate governance is a set of systems, principles, and processes by which a company is directed and controlled. It ensures accountability, fairness, and transparency in a company’s operations. Corporations are among the most efficient groups for conducting business. Through the incorporation process, it leads to creation of a juridical person i.e. incorporator who is recognised by the legal system as an independent person with different rights and liabilities. Corporations are not able to perform activities independently of the human persons who operate, incorporate and make strategic decisions for them. They are fictitious entities and thus requires human persons to make decisions about acquiring rights and duties. There are always some persons behind the decisions of a corporation whether shareholders or directors. The 2 bodies who were traditionally entitled to make decisions related to corporate governance were the board of directors and the general meeting of shareholders. The decisions that belong to each of these bodies and the allocation of decision power is a contested matter. Some say that the corporation’s decision process must prioritize shareholders because the interest of this group must be served by the corporation. On the other hand, some believe that the locus of corporate decision making must be in the hands of board of directors as it is best positioned to steer the course of the company.

Shareholder democracy refers to the idea that shareholders, as owners of the company, should have a say in how the company is run. Shareholder democracy, a part of shareholder primacy is an approach to corporate governance wants that that the role of shareholders in management and decision-making of corporation should be increased. The main idea is that shareholders should regain some of the power that was lost to directors as a result of the rise of management and the board of directors in corporate decision-making. Reasons arguing for shareholder democracy includes increased accountability of corporate managers, avoidance of agency problems as well as conflicts of interests between shareholders and managers. Corporate governance and shareholder democracy are deeply intertwined. Effective corporate governance provides a framework that enables shareholder democracy to function, while active shareholder participation enhances governance practices. For example. A well-governed company ensures that shareholder votes are meaningful and not undermined by opaque processes or unequal voting rights. Further, activist shareholders often push for reforms in areas such as board composition, executive pay and environmental sustainability thus driving companies to adopt better practices.

Shareholder democracy is a cornerstone of good corporate governance. It ensures that the interests of shareholders are protected and that the company is run in a responsible and accountable manner. Strong corporate governance practices can enhance shareholder value by promoting transparency, accountability, and ethical behaviour. In turn, an engaged and informed shareholder base can hold the company accountable and drive positive change.

Also, board of directors plays a major role in striking a right balance between shareholder influence and managerial autonomy. An effective board ensures that management has the freedom to execute strategies while remaining accountable to shareholders. Regular engagement, clear communication and adherence to governance principles are essential for achieving this equilibrium.

ROLE OF PROXY SYSTEM IN SHAREHOLDERS DEMOCRACY

The major discussion of shareholder participation in corporate governance exists often in an overlooked procedural context that of disclosure and information flow. Informed participation is a very important aspect. Moreover, the distinction between passive participation and active participation in the agenda-setting sense is an essential aspect of shareholder participation in corporate governance. One of the ways by which shareholder participation in the affairs of the company can be increased was by way of proxies. It is essential that there should not be any obstacles to participation of shareholders in corporate governance in the proxy process. Increased shareholder participation in governance of corporation could also produce a potential benefit i.e. better decision making.

A member may vote either in person or by proxy. There can be allowance of voting by proxy even by show of hands. The proxy can vote at a meeting or in a resolution. The system of proxy encourages the participation of a member indirectly and also strengthens the democratic pattern of the modern corporations. The Amendment to Companies Act, 2000 among others laid down the law relating to passing of general meeting resolutions by postal ballot. It is needed as corporate in numerous cases hold their general meetings in far flung areas of the country where they have their registered offices, with the result that a vast majority of shareholders residing all over India do not find it convenient to travel to such remote places and attend such meetings. Further, there have been continues efforts to promote corporate democracy in the Indian scenario. The Companies Amendment Bill, 2003 has been introduced in the Rajya Sabha on 7 may 2003. It calls for inter alia holding of meetings on Sundays, this can be called as step further in enhancing the participation of shareholders in the functioning of the government as it becomes easy for the shareholders to be present on this day rather than on any working day.

In India, the Justice Sachar Committee in 1978 recommended that:

1. The proxy holders must be entitled to speak at general meetings.

2. Every proxy holder should be allowed to vote on show of hands.

3. Two-way proxy from affording members a right of voting for or against a resolution should be sent along with notice of general meetings to every shareholder entitled to vote and attend the meeting.

STRATEGIC FOCUSES OF SHAREHOLDER DEMOCRACY ADVOCATES

The path to promote shareholder democracy is done through various strategies designed to give shareholders more power and control. The various strategies are as follows:

Shareholder democracy seeks to enhance shareholders voting power by reducing corporate management’s control of the proxy machinery – the management’s power to recommend candidates for nomination to the board and its relationships with significant shareholders who will delegate their voting rights or support the management’s recommendations. Another way to enhance shareholders voting rights and improve shareholder democracy is by establishing a system of annual elections rather than a system of staggered boards. One other way could be to establish a majority voting regime instead of a plurality system.
Shareholder democracy also focuses on shareholder advisory resolutions. These resolutions allow shareholders to submit proposals for action at a shareholders general meeting. This shareholder proposal process represents one of the only formal mechanisms available for shareholders not only to initiate dialogue, but also along with important procedure to initiate corporate programs or policies on a given issue. This process represents a critical component of shareholder activism.
Some other strategies proposed by shareholder democracy proponents are:

(1) say-on-pay rules which allow shareholders to have a right to say and monitor managerial pay within the corporation.

(2) derivative suits through which shareholders could assert a claim against the managers for improper conduct.

(3) shareholder-advisory committees, whereby shareholders would have an opportunity to receive information from corporate managers and provide feedback.

(4) proxy advisory firms, which provide research and recommendations as to how institutional investors should vote their shares in publicly held companies.

(5) stock ownership consolidation in institutional investors, giving shareholders financial credibility and incentives to play a more active role in the corporation.

Thus, these strategies attempt to give shareholders more power and a more active role in the decision-making and management of the corporation. All these strategies are necessary and essential because shareholders are corporation’s residual claimants and also because it increases the accountability of corporate managers and reduce agency problems between shareholders and managers.

REASONS FOR AND AGAINST SHAREHOLDER DEMOCRACY

First, to increase the participation power of shareholders efforts is motivated by their desire to make corporate managers, officers and directors more accountable. Particularly many shareholders and their proponents believe that expanding shareholder democracy will lead to greater managerial accountability, thereby curbing managers abuses of authority.
Another reason is related to agency problems and the potential conflict of interests that may arise between shareholders and managers. Shareholder democracy attempts to reduce this issue by involving shareholders more intimately in review, opinion and decision-making. Also, as shareholders are considered the owners of the corporation so they are entitled to control the company and not the directors.
Finally, shareholder democracy advocates argue that shareholders are the sole residual claimants and thus are in a best position to exercise control for the good of all corporate constituents. Residual claimants which will receive payment from a corporation are at the greatest risk. Due to this risk, shareholder democracy proponents argue that shareholder should have greater control over the affairs of the corporate body.

Criticism related to shareholder democracy are mainly based on efficiency arguments. From efficiency point of view, shareholder democracy is an inappropriate approach because collectively shareholders cannot efficiently manage the corporation. Board primacy advocates argue that the successful management of corporation rests upon a clear and significant separation of powers between the shareholders who are considered as owners and the directors as managers.

Other criticisms are based upon the possibility that some shareholders that some shareholders may be seeking to advance their own personal or political agendas or that shareholder empowerment benefits some shareholders more than others or that the interests of some shareholders such as hedge funds are opposed to the interests of the corporation’s stakeholders more broadly or that activist shareholders may bring about substantial changes that harm the prospects of some of the corporation’s long-term goals.

LEGAL PRECEDENTS

Foss Vs Harbottle[1]

This was a landmark case which established the principle that any wrong done to a company must be addressed by the company itself, not individual shareholders. This case set the foundation for corporate governance by reinforcing the separate legal personality of a corporation and limiting frivolous lawsuits by individual shareholders unless their personal rights are infringed or fraud is involved.

A Salomon Vs Salomon & Co Ltd[2]

This case established the principle that a company is a separate legal entity from its shareholders. The case reinforced the concept of limited liability and the corporate veil, fundamental to corporate governance and protecting shareholders from personal liability beyond their investments.

Shlensky Vs Wrigley[3]

In this case, a shareholder sued the directors of the Chicago Cubs for refusing to install stadium lights and hold night games, arguing it reduced profits. The court ruled in favour of the directors, citing the business judgment rule, which protect directors’ decisions if made in good faith and in the company’s best interest.

Microsoft Corp. Shareholders Litigation[4]

The case dealt with Microsoft shareholders challenging the company’s proxy voting practices, claiming insufficient disclosure of material information. The court emphasized the importance of transparency in governance processes, especially regarding shareholder voting rights. It reinforced the principle that shareholder democracy requires full disclosure and fair processes in decision-making.

Greenhalgh Vs Arderne Cinemas Ltd[5]

The court considered a resolution to sell shares at a price favouring majority shareholders. It ruled that such resolutions must align with the company’s best interests and not unfairly prejudice minority shareholders. This case highlighted the dedicate balance between majority rule and protecting minority shareholder rights, emphasizing fairness in corporate governance.

Citco Banking Corp NV Vs Pusser’s Ltd[6]

This case addressed the amendment of a company’s articles to create a new class of shares with enhanced voting rights. The court upheld the amendment, stating it was passed in good faith and aligned with the company’s interests, despite objections from minority shareholders. It underscored the need to balance majority rule with fairness to minority shareholders, a recurring theme in shareholder democracy.

CONCLUSION

The role of corporate governance is to create a structure where companies are managed responsibly, with decisions that are made in the best interest of both shareholders and other stakeholders, including employees, customers, and the broader community. Shareholder democracy, which emphasizes the rights of shareholders to have a say in key company decisions, is an essential element of corporate governance. It allows shareholders to exercise their voting power on critical matters like electing board members, approving major mergers, and determining executive compensation. In an ideal world, this democratic process would lead to companies being managed in ways that align with the long-term interests of shareholders and society at large.

However, achieving effective corporate governance and true shareholder democracy is not without its challenges. Issues such as the concentration of voting power, the influence of activist shareholders, and potential conflicts of interest often complicate the decision-making process. In many instances, corporate governance mechanisms fail to balance the interests of shareholders with those of other stakeholders, leading to decisions that may benefit a select few while disadvantaging the broader company or society. To improve corporate governance and foster genuine shareholder democracy, several reforms can be considered. These include enhancing transparency in decision-making, strengthening the accountability of board members, and ensuring that all shareholders, regardless of their size or influence, have an equal opportunity to participate in corporate decisions.

Ultimately, effective corporate governance and shareholder democracy are not static ideals but ongoing processes that require continual adaptation. The landscape in which companies operate is constantly evolving, driven by technological advancements, shifting societal expectations, and changes in the regulatory environment. As these dynamics unfold, companies must remain committed to maintaining robust governance structures that reflect both the interests of shareholders and the broader public good. This commitment will not only strengthen the financial health of individual companies but also contribute to a more ethical, equitable, and sustainable global economy.

REFERENCES

Oxford Academic, Corporate Governance: Shareholder Democracy and the Monitoring Board by J.E. Parkinson https://academic.oup.com January 24, 2025.
SSRN, Shareholder Democracy by Juan Diaz-Granados https://papers.ssrn.com January 24, 2025.
Edinburgh Law School, The Shareholder Democracy Lie by Daniel J.H. Greenwood and Christina M. Sautter https://www.law.ed.ac.uk January 24, 2025.
ScienceDirect, Proxy contests and corporate democracy by Kazuhiko Mikami https://www.sciencedirect.com January 25, 2025.

[1] Foss vs Harbottle (1843) 67 ER 189

[2] A Salomon vs Salomon & Co Ltd (1897) AC 22

[3] Shlensky vs Wrigley (1968) 237 N.E.2d 776

[4] Microsoft Corp. Shareholders Litigation (2002) 805 A.2d 869

[5] Greenhalgh vs Arderne Cinemas Ltd (1951) Ch 286

[6] Citco Banking Corp NV vs Pusser’s Ltd (2007) UKPC 13

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