The corporate governance industry

Speaking of Gretchen Morgenson and her good governance experts, as I did earlier today, Paul Rose has an interesting paper about these people, The Corporate Governance Industry. Here’s the abstract:

This paper considers the role of the corporate governance industry as a voluntary regulator. The corporate governance industry influences (and in some cases effectively controls) the vote of trillions of dollars of equity, and affects the governance policies and fortunes of thousands of companies through proxy voting recommendations and governance ratings. This paper argues that potential conflicts of interest within some governance firms cast doubt on the reliability of their proxy advice and governance ratings. Additionally, governance firms may be overstepping their expertise in proxy voting decisions and in governance rating, in part because of their reliance on “good governance metrics” for which there is little evidentiary support. Finally, erroneous governance metrics (and indeed, a reliance on one-size-fits-all governance checklists) promoted by influential governance advisors not only affect important shareholder voting decisions and decisions on whether to invest in or divest from a particular company, but may also have a more general, harmful effect on corporate governance regulation. A number of academics have argued that federal expansion into corporate governance issues has significant negative consequences. Perhaps most importantly, Sarbanes-Oxley mandates specific governance policies rather than setting broad standards (as with most state corporate laws), thereby eliminating some vital flexibility in corporate governance. This paper argues that the corporate governance industry may have similarly harmful effects on the competition for capital by pressuring companies to adopt a homogenized set of governance rules which may not be suited to the companies’ respective requirements.

Rose discusses industry associations and non-profit groups, as well as for-profit firms such as Glass Lewis and ISS. These firms involve themselves in the sort of conflicts of interest they criticize, since they both diagnose supposed diseases and then sell the supposed cures (sounds like a movie plot about an evil drug company).

Rose points out that “these potential conflicts of interest bear some similarities to the role (now reduced, but not wholly eliminated, by Sarbanes-Oxley) played by accounting firms as both auditors and advisors.”