Governance in Dutch Semipublic Enterprises

Governance in Dutch Semipublic Enterprises

Governance in Dutch Semipublic Enterprises:

lessons to be learned?

Paper for the ILERA Conference, June 2013

Rienk Goodijk

Professor of Governance in the Semipublic Sector

TiasNimbas Business School/CBMO, Tilburg University

Senior-consultant HRD-firm GITP


1. Introduction

Since the 90’s, Dutch public companies such as health care organizations, housing corporations or educational institutions/schools, have – more or less, in a certain sense – been privatized.

To meeting the new requirements of regulation, they developed new forms of governance. Most of them made in imitation of the governance in the profit sector, the choice for the two-tier board system including a board of executive directors and a separate board of independent supervisors.

Last few years however, practices and research findings show that the governance of several of these private public enterprises (PPE’s) has not been developed properly.

They have been confronted with severe governance problems.

Problems arose in case the top management focused too much on short term outputs,was taking high and irresponsible risksorenrichedoneself.

Dominant and arrogant CEO-leadership easily lead to exceeding limits. And many supervisors were operating too much at a distance and proved to be incompetent to critically monitor and review the managementdecisions and to organize countervailing power needed. Governance seemed unbalanced, research showed a lack of checks and balances.

What could be learned from these failures? We are questioning to what extent the governance of these ‘semipublic’ enterprises is not functioning adequately and should be improved and whether or not the governance problems should be considered as being incidental or structural. Or, is the governance model as such, copied from private company governance, not suited to the specific needs of the semipublic sector?

Most probably, the problems are caused by a mix of various deficiencies in semipublic governance issues and in the behaviour of more than one single person.

Dominant top management behaviour for instance, is not by definition problematic provided that the supervisory board operates properly.

In this paper we analyse the underlying reasons for insufficient working governance in the semipublic domain and we specifically focus on thetask en responsibility of the supervisory board in the Dutch dual board system.

First, we will briefly describe the main characteristics of corporate governance in the profit domain in the Netherlands, because the supervisory board model in the semipublic sector has largely been copied from the private governance model and it has increasingly been questioned whether this supervisory board as developed meets the requirements of adequate supervision in the specific semipublic sector.

Next, we describe some important aspects of the developing semipublic sector since the 90’s to understanding the context of the governance problems.

Perhaps new concepts of supervision are needed to re-balance the governance in semipublic enterprises and to overcome the shortcomings.

The paper is based upon extensive desk research and more specifically onour own research on the functioning of supervisory boards in various sectors of the semipublic domain:

* Questionnaires to getting deeper insight in the supervisors’ opinions on their own functioning and possible improvements in the governance model: in health care organizations (response rate 35%) and in all of the school sectors (response rates ranging from 11 till almost 90%) (Blokdijk & Goodijk, 2011 and 2012).

* Several case studies: in depth interviews with directors, supervisors and stakeholders to investigating specific aspects, situations and circumstances of governance (described in: Goodijk, 2012).

* Research documents provided by experts to investigate and to analyse some of the well-known failures of governance (collapses).

We analyse the underlying reasons of failing governance of semipublic enterprises operating anywhere between government and market.

In this paper some main patterns of shortcomings in the governance will be unfolded: the unclear roles and responsibilities of boards and persons in the governance, the information gap between executive directors and supervisors, the lack of countervailing power and the so-called accountability vacuum.

Not only possible improvements will be presented. The research findings also provide us with deeper insight in the shortcomings of the governance model as such.

2. Corporate governance in the Netherlands

In the Netherlands, the corporate governance model is generally – and legally – basedon the two-tier board principle: two separate boards, the board of directors (the executive management board) and the board of supervisors (the independent non-executives. In the specific Dutch system of labour relations with its strong focus on consensus, trust and stakeholder involvement, the boards have traditionally had a rather exceptional position and responsibility, that of policy making, monitoring and control not only on behalf of the shareholders but on behalf of the company as a whole and all the stakeholders involved. The board of executive directors must take into account all the share- and the stakeholder interests while the independent supervisory board has to control the board of directors in the best interests of the company.

Since the nineties, several codes have been developed (such as the Tabaksblat code for large listed companies, in 2003), not only for the profit companies but also for the not for profit sector. Main issues in the corporate governance debate included the improvement of the information flow to the (especially minority) shareholders, the functioning and the accountability of the board of directors and the composition of the supervisory board.

Under Dutch rules, the supervisory board had the right to appoint its own members, being independent of the management and the shareholders and stakeholders, striving for homogeneity and acting consensus oriented. Both the shareholders’ meeting and the works council had the right to propose candidates and to object to the appointment of particular candidates.

In 2004 however, the Dutch Parliament decided to change the so-called co-option model (where the supervisory board appointed itself) by providing the shareholders – in line with the more Anglo-Saxon model – theright to formally appoint the members of the supervisory board and by giving the works council the right to select and to nominate a third of the board members.

Notwithstanding these changes, the corporate governance is still based on principles of co-operation, equivalence, confidence and consensus. The Dutch company is considered to be a co-operation of employer and employees with a longer term perspective and having open relationships with both the shareholders and the stakeholders (the so-called institutional firm). The company boards are responsible for balancing all the different stakeholder interests and to gaining their confidence. The main principle is the stakeholder approach which assumes that both the boards have to function on behalf of the company as a whole and all the relevant stakeholders and should balance pluralistic claims.

3. Development of semipublic enterprises since the 90’s

Now, we describe some important aspects of the developing semipublic sector since the 90’s in the Netherlands.

In origin set up by private initiatives (churches, philanthropists, others), public activities such as health care, housing and schools have little by little been taken over by government during last century. Since then, these growing activities were organized under the influence and the financial guarantees of the government and within a rather stabile context. The ‘public’ directors of these organizations were supposed to especially represent the public interests.

Since the deregulation and the decentralization in the 80’s and 90’s, health care organizations, housing corporations, schools et cetera were developing towards semipublic companies more at a distance from government, choosing for own governance institutions (obliged to separate management and supervision) and having more autonomy to enterprise. They changed from pure public companies (governmental departments) towards more privatized semipublic enterprises confronted with market aspects.At the same time many of these companies copied their model of supervision form the private sector and introduced the supervisory board to monitor the board of executive directors (see figure 1).

public task public and private activities

governmental dpt/guarantees business model (‘at a distance’)

organizational simplicity organizational complexity and hybridity

stability/security dynamic context of stakeholders

small scale large scale/conglomerates

Figure 1: From public companies towards PPE’s: some general characteristics

Many of these semipublic enterprises became part of larger conglomerates by mergers and collaborations. Moreover, most of them were combining both public and private activities and had increasingly to deal with market-mechanisms in a dynamic context of stakeholders.

Consequence of developing more ‘at a distance’ is that semipublic enterprises have to position themselves between public rules and financial autonomy. Top management and (internal) supervisors are provided with more responsibilities and government has reduced opportunities – for instance by external supervising institutions – to intervene if needed. This new position requires more professionalized management and internal supervision. Branch codes have been introduced to stimulate the processes of professionalizing.

Last few years however, government tends to reduce the semipublic enterprises’ autonomy and is looking for new regulations to intervene. In case of failing governance it is not really clear to what extent external supervision still has the right to directly intervene in management practices and bypass the internal governance of the PPE.

The privatization and large scaling of the semipublic sector have led to more commercialization and hybridization of the enterprises: combining public and private activities, dealing with new forms of financing and costing and coping with various stakeholder interests and dilemmas, operating in large scale collaborations.

The organizational complexity and the context dynamics have increased. Management has to deal with the complexity of products and internal processes and with competing claims from government, financers/funding partners, private investors, contracting parties, stakeholders et cetera.Therefore management and supervision of many of such enterprises have become extremely complex.

Besides, management and supervisors are increasingly challenged to cope with the Anglo-Saxon principles of governance and leadership: the free market orientation, the preference for the one-tier board system, more hierarchical leadership, the instrumental human capital approach et cetera. These principles might lead to more clarity in leadership and accountability in the governance of semipublic enterprises, but can also lead to the neglect of the public interest/value, to preferring cost reductions to quality improvement or to decreasing motivation of professionals.

4. Governance problems

Since the 90’s, several codes were introduced to stimulate and to improve the governance of semipublic enterprises.

Improvements have been made but primarily in ‘technical sense’. In this paper we specifically focus on the functioning of the supervisory boards.

Research findings over the years have proved that supervisory boards are making more use of profiles to increase and to broaden their expertise, do have better regulation and by-law for their working method and are paying more attention to forms of self-evaluation and accountability.

Our research on the functioning of the supervisory boards in the health care sector for instance (Blokdijk & Goodijk, 2011), showedthe following developments (see figure 2).

1998 2002 2005 2008 2010

Some characteristics:

Average board size 7 members, tending to 6,5

Average age members 50-65, tending from > 60 to 50-60

Diversity (male/female) % women 25, increasing to 27

Expertise members financial, juridical; growing attention to health care

Profile 27% 85%

Max sitting term members (8 yrs) 39% 88%

Board regulation (by-law) 5% 93%

Board committees 38% 67%

Review-criteria 40% 63%

Self-evaluation 52% 89%

Board account in Annual Report 12% 83%

Figure 2: Development of the functioning of health care supervisory boards (period 1998 – 2010),

overview based upon Blokdijk & Goodijk (2011, pp. 82-84)

Notwithstanding the improvements, most supervisory boards of semipublic enterprises are still scoring low in aspects such as: information and data processing,having substantial influence on management decision making, corrections and intervening if needed, transparency and accountability.

Last few years we have more explicitly focused our research on the governance problems of supervisory boards in the semipublic sector and the underlying reasons (and patterns) for failing supervision. Casestudies and research documents provided us with deeper insight in the underlying reasons of poor governance.

The research findingsup to now, affirm that in many semipublic enterprises supervisory board governance has not been developed properly (Goodijk, 2012, p. 44).

Main (interrelated) governance problems seem to be (figure 3):

1.The unclear roles and responsibilities of the (members of the)supervisory boards and their limited (narrow, old fashioned) task perception.

Clarity of roles and responsibilities highly depends on company specific regulations/statutes and by-laws (not prescribed by law). And the task is in general, too much focused on formal and re-active financial control: supervision operating too much at a distance and providing the top management with too much uncontrolled entrepreneurship.

2. The information asymmetry between executive directors and supervisors: supervisory boards’ lack of view on and insight in the operational processes (operating too much at a distance), neglecting signals and early warnings; leading to a high information dependence, insufficient insight in risks, also providing the top manager with too much power.

3. Too much of complaisant behaviour and therefore: a lack of countervailing power and (skills as well as methods for) interventions if needed: far from the critical debate necessary for good and balanced governance, not used to correct or to intervene.

4. CEO’s dominancy (dominating the decision making, taking too much risks, easily becoming arrogant), not adequately controlled/guarded by the supervisory board.

5.The lack of formal accountability: semipublic enterprises, mostly having the foundation as legal form, do nothave shareholders to whom they are accountable. The actual accountability depends on the initiatives of the board(s), whether or not organizing adequate methods of stakeholder dialogue, taking account of or neglecting stakeholder interests and winning or losing ‘public’ confidence.

unclear roles/narrow task perception

accountability dominant/arrogant information

vacuum topmgt/leadership asymmetry

lack of checks and balances

and countervailing power

Figure 3: Coherent pattern of reasons/factors for not proper/unbalanced governance

We can conclude that meeting the requirements of good governance in the semipublic domain, (internal) supervision needs structural (system-) improvements as well as behavioural changes and transformations. Introducing the one tier board system for instance, might lead to a higher degree of supervisors’ involvement in the management decision process, but can also be at the expense of independence and countervailing power and does not guarantee more (pro-) active and critical behaviour. Therefore, improvements first of all should be found in system adjustments in the dual board model and in activating personal behaviour and board dynamics. Moreover, good governance requires the willingness and the ability to cope with the several dilemmas inherent in the semipublic domain.

5. Coping with dilemmas

Based upon our case study research and confirmed by our experiences in practice, we can conclude that supervisory boards are increasingly confronted with questions on focus, function, position and interaction. To what extent should the supervisory board be involved in the management decision process? How to combine the role of inward looking and internal control on one side and the role of outward looking and strategic partner on the other side? How to practice the dialogue with internal and external stakeholders without taking over the top managers’ responsibility? And how to deal with both the countervailing power activities and the need for a certain amount of loyalty to the management?

Case study findings show that supervisory boards should have the courage, the willingness and the ability to cope with all the dilemmas confronted with, constantly balancing and moving between:

* Inward looking and internal control on the one hand and outside orientation and strategic partnership on the other hand.

* Monitoring and re-active controlling versus a more pro-active attitude/approach as direction setter (and probably as meaning maker; compare Chait et al, 2007).

* Involvement and loyalty to the management versus distance, independence, interventions and countervailing power.

* Formal meetings with the executive director(s) versus informal networking with stakeholders and gathering additional information.

* Specialization (providing the board with the different expertises needed) versus the need for integral supervision.

* Guaranteeing a certain homogeneity within the board versus striving to more diversity.

Many governance problems occur when supervisory boards are too one-sided functioning as controlling boards at a distance (far from the operational processes) and having too much of confidence in the top management, lacking the critical gegenüber attitude.

There is an increasing need for more active involvement and strategic partnership together with sufficient countervailing power and adequate interventions if needed.