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Critical Perspectives on Accounting

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Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations
Joe Christopher
Curtin University of Technology, School of Accounting, P.O. Box U1987, Perth, Western Australia 6845, Australia

a r t i c l e

i n f o

a b s t r a c t
It has been argued by researchers that agency theory has limitations as the underpinning theory for governance given its inability to recognize the wider environmental inuencing forces impacting on organizations. This paper provides a case for incorporating a number of management-based theories to augment agency theory in recognizing these wider environmental inuencing forces and the consequent extended governance paradigm it creates. Through a theory building approach that reviews and critically analyses the extant literature, a case is built to integrate four existing theories that complement each other to recognize these wider inuencing forces. The paper argues that the proposed approach will narrow the theoretical practical gap in governance and will consequently have policy implications on governance guidelines. Further research is suggested to validate the approach with a wide range of real life organizational settings. 2010 Elsevier Ltd. All rights reserved.

Article history: Received 24 May 2009 Received in revised form 18 November 2009 Accepted 7 May 2010 Keywords: Governance Agency theory Inuencing forces Multi-theoretical approach Stewardship theory Stakeholder theory Resource dependency theory

1. Introduction Over the past two decades, there has been considerable interest in research and policy developments relative to the corporate governance area. A major cause for this surge in interest was the rise in demand for greater accountability and responsibility from the board and senior management of corporations. This surge in interest followed a series of events. Becht et al. (2002) identied some of those events as the worldwide wave of privatization, the takeover wave of the 1980s, the deregulation and integration of capital markets, the 1997 East Asia nancial crisis and the well-publicized spate of corporate scandals. It is suggested that the current global nancial crisis will further focus interest on governance relative to accountability and responsibility of the board and senior management. Others such as Jensen (2001) and Monks and Minow (2004) have suggested that interest in the corporate governance area was due to its emergence as an important area in the study of modern management. This paper builds on this dimension of interest to critically analyze concerns raised in the theoretical foundations of governance and explores improvements to be made in that area from an accountability and responsibility perspective. A review of the extant literature on the theoretical foundations of governance identied a growing concern among academics on agency theory (Berle and Means, 1932; Jensen and Meckling, 1976) being used as the underpinning theory for governance (Aguilera and Jackson, 2003; Aguilera et al., 2008; Eisenhardt, 1989; Hirsch et al., 1987; Perrow, 1986). These early proponents of agency theory (Berle and Means, 1932; Jensen and Meckling, 1976) suggested that there was a logical relationship between the main players of an organization; these being the shareholders, board of directors and management. Their theory, which had its roots in economic discipline, essentially posited that the interests of shareholders (principal)

Tel.: +61 08 9266 2006. E-mail address: joe.christopher@cbs.curtin.edu.au. 1045-2354/$ see front matter 2010 Elsevier Ltd. All rights reserved. doi:10.1016/j.cpa.2010.05.002

Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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and management (agents) were at odds, and that those interests need to be realigned. The process of realignment had a cost attached to it, referred to as agency costs and much of those costs were deemed attributable to the control and monitoring activities of the board of directors. It was argued, that the desire to limit agency costs led to rms behaviors (agents) that were consistent with owners expectations (principal) and that there was a superior level of performance as a result (Eisenhardt, 1985; Fama, 1980; Fama and Jensen, 1983). Consequently, the concept of governance has been typically viewed as a principal vs. agent problem and has revolved around the structure of rights and responsibilities between these principal participants to align their interests (Aoki, 2001). The concept of effective governance evolved from the above relationship between the agency theory determined participants of an organization, and was deemed to be achieved when governance mechanisms and processes were developed and implemented to an extent when interests between the principal and agent were fully aligned. This concept of effective governance that focuses on companies discharging their accountabilities to the dominant stakeholder group, the shareholders, is embodied in most governance policy approaches and is used to regulate managerial power for the purposes of improving the effectiveness of corporate governance (Brennan and Solomon, 2008; Davis, 2005; Parkinson, 1993). The agency-oriented concept of effective governance essentially dened the extent of the governance paradigm of an organization and was generally described as being constrained to only refer to or address the regulatory and administrative framework that dened the boards monitoring and control functions in meeting its accountability requirements towards shareholders (Cutting and Kouzmin, 2001). Accounting and nance research studies focused on this limited aspect of governance where accountability had been interpreted only as corporate accountability to shareholders (Brennan and Solomon, 2008). This was evidenced through the stream of research studies on various aspects of the board, relative to its role in aligning management interest with those of shareholders through its monitoring and control function (e.g. Boyd, 1990; Dalton et al., 1998, 2003; Eisenhardt, 1989; Jensen and Meckling, 1976; Johnson et al., 1996; Mizruchi, 1983; Zahra and Pearce, 1989). The ndings from these research studies however suggest that this combination of monitoring and control functions of the board did not always adequately realign the interests of principal and agent (Eisenhardt, 1989). This view is further supported through the inconclusive ndings of numerous research studies which examined the relationship of board and rm performance under numerous variables (e.g. Bhagat and Black, 2002; Daily et al., 2003; Dalton et al., 2003, 1998, 1999; Hermalin and Weisbach, 2003; Lane et al., 1999). A suggested practical explanation for this non-alignment is that in practice these agency-oriented monitoring and controls mechanisms incurred costs that could be considerable. These cost factors, when compounded with ineffective legislative control requirements for boards, external and internal auditors, provided room for exibility in respect to the control and monitoring activities by the agents (board and management). This scenario resulted in loopholes for certain organizations with the result that the interests of the shareholders and the agent had not always been effectively aligned (Godfrey et al., 2003; Wolk and Tearney, 1997). Another suggested explanation for this phenomenon related to information asymmetry and revolved around management being privy to essential information that could be manipulated to maximize their own interests at the expense of the principal (Godfrey et al., 2003). The agency-oriented governance gap resulting from the non-alignment of interests between principal and agent as described above was also the source of numerous corporate scandals, which have evolved over the last two decades. Amongst those that were academically researched, was the Enron saga in the United States, which demonstrated failings in the monitoring and control mechanisms, purportedly put in place to align managements interest with those of the shareholders (Arnold and De Lange, 2004; Clarke, 2005). These failings, which generally mirrored other corporate scandals, were described as systemic failures of the chairman, board and the chief nancial ofcer in exercising their duciary duties to monitor and control, conict of interest of the external auditors and systemic failure of management in providing accurate information to market regulators, investors and creditors (Clarke, 2005). It was also suggested that a causal factor for these scandals were unintended consequences of agency theory related incentive schemes. Corporate executives had used disciplinary control mechanisms (e.g. offer of bonus share options) to satisfy the interest of shareholders by increasing shareholder value at the expense of other stakeholders and/or long-term organizational wealth (Roberts, 2006). Professional bodies and governments have addressed the concerns of shareholders in relation to this agency-oriented governance gap through re-energized accounting standards and governance guidelines. They were reected in the United States principally through the Sarbanes Oxley Act. The changes instituted through the Act generally increased the accountability and responsibility of the board and senior ofces of an organization and the audit committee. It also enhanced the independence of external auditors and indirectly, the independent role of the internal auditors. These measures were enacted to improve the credibility of the board and its monitoring and control processes to ensure accountability and better dene the responsibilities of the board and management to act in the interest of shareholders. As a further example, similar changes were introduced in Australia through a range of improvements to accounting standards and ethical guidelines (CPA Auditing Standards, 2008; corporate governance guidelines ASX, 2007) and statutory legislative requirements Corporate Law Economic Reform Program Act (2004). These improvements have increased the responsibility and accountability of the board of directors, management, audit committee and improved the independence of external auditors and internal auditors. The view taken by academic researchers, however, was that the governance gap was much wider than that as suggested above. Clarke (2005) suggested that under an agency-shareholder centric approach, the economic relations were Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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limited to a series of contracts between the agent and shareholder and that this approach failed to comprehend the full range of complexities of corporate relationships under changing market environments. Consequently, the approach was suggested to have failed to take into account the increased accountabilities to shareholders and other constituents of the organization resulting from these wider environmental inuencing forces. Roberts (2001) also in dening the problem of corporate governance referred to such wider interdependencies in an organization and suggested that a combination of its corresponding accountability processes together with agency theory oriented accountability processes constituted effective processes for corporate accountability. Accordingly, it was suggested that organizations has to balance the pursuit of prots through agency-oriented accountability processes with accountability processes associated with recognition of wider responsibilities to other stakeholders. Roberts (2009) in a similar vein referred to such accountability processes as intelligent accountability and called for it to be supplemented by agency-oriented transparency processes. The presence of such wider environmental inuences was also implied by OECD principles (OECD, 1999, 2004) which referred to organizations as being complex with different accountability requirements to shareholders and a myriad of other interested stakeholders. This included a growing interest by social activists. Historically, the suggestion of such a wider gap could be traced back to Thompsons (1967) assertion that governance research had not been built on the body of organizational sociology, which explicitly examined the alignment between organizations and their broader environment. This view was supported by Perrow (1986), Hirsch et al. (1987) and Eisenhardt (1989) who argued that agency theory was excessively narrow and only presented a partial view of the true impact of the complexities associated with organizations. It was suggested by these researchers that additional perspectives were required to recognize the greater complexities surrounding organizations. Others such as Band (1992) and Wright and Mukherji (1999), raised the issue of other socioeconomic impacts on governance which might or might not be wholly addressed by agency theory. Davis and Thompson (1994) and Davis et al. (1997) also raised concerns about agency theorys limited ability to explain sociological and psychological mechanisms inherent in principalagent interactions. These concerns included external directors who had only legal status and social ties with top managers but did not possess sufcient expertise. Other studies conducted within emerging economies also questioned whether the assumptions of agency theory could be generalized in emerging markets with their different sociological, economic and developmental fundamentals (e.g. Phan, 2001; Tian and Lau, 2001). Examples included social impacts on governance such as family owned companies, government interference, weak legal systems and issues with group business and cross holding structures. They were described as giving rise to further agency problems (Claessens et al., 2002). The criticisms of agency theory have gained momentum recently expounding on the above highlighted issues. For example, Aguilera and Jackson (2003) referred to the contextualized nature of agency theory and its inability to accurately explain diverse corporate governance arrangements across different institutional contexts. Aguilera et al. (2008) similarly suggested that governance was not just bound by the narrow relationship between shareholders, the board of directors and management as posited by agency theory but was also subject to wider interdependencies resulting from internal and external environmental inuencing forces on the governance paradigm. Filatotchev (2008), Young and Thyil (2008), Clarke (2005) and Roberts (2001, 2006, 2009) similarly referred to the need to understand effectiveness of governance by aligning organizations with a more contextualized view of organizational environments. The common theme arising from the foregoing stream of criticisms was that agency theory did not sufciently include all major determinants of good corporate governance. The resulting recommendation from the criticisms to address the above governance gap was the use of a multi-theoretical approach to recognize the wider inuencing forces impacting on an organization (Daily et al., 2003; Eisenhardt, 1989; Hirsch et al., 1987) and incorporating it within its governance framework. Aguilera et al. (2008) suggested that a change in the approach to the study of governance was essential as the understanding and conceptualization of governance was not limited to the relationships between shareholders and management, as dictated by agency theory, but was also subject to wider interdependencies resulting from environmental inuences that impacted on effective governance. Young and Thyil (2008), in acknowledging these wider inuencing forces, conceptualized them as a range of rm specic or micro-internal factors and macro external factors inuencing the governance of organizations and called for more research studies using a multi-theoretical approach to narrow the theorypractice gap in governance by incorporating them within the governance paradigm of organizations. There have been limited attempts by researchers to date to explore a multi-theoretical approach to the study of corporate governance. These included studies by Zahra and Pearce (1989) and Johnson et al. (1996) who drew on different theories to provide a taxonomy of director roles. Hillman and Dalziel (2003) further undertook an integrative approach with agency and resource dependency theories to better explain director roles in governance. Lynall et al. (2003) used a multi-theoretic view with agency, resource dependency theory, power and institutional theory to explain governance in the context of the organizations life cycle. These studies attempted to provide a more holistic understanding of governance. The extent of studies on the multi-theoretical approach is however limited and consequently has created a research gap in this area. This paper contributes to this rich area of research by putting forward a case for a multi-theoretical model that integrates four governance theories to recognize the wider environmental forces that inuence the governance paradigm of organizations. It takes the view that agency theory needs to be retained as the primary theory as it provides the structural platform to determine the contractual relationship and obligations between the main parties to an organization. This includes the provision of a basis to align managements interest with the stakeholders through appropriate control and monitoring proPlease cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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cesses. It also takes the view that to recognize the full extent of the contractual obligations arising from the wider inuencing forces, an organization needs to augment the economic based agency theory with a number of management-based theories. The study consequently takes the approach that as a result of recognizing the wider inuencing forces impacting on an organization, the governance paradigm would extend beyond the constrained agency-oriented governance paradigm. The rest of the paper is structured as follows. Firstly, the concept of the wider inuencing forces impacting on an organization, the extended governance paradigm and the governance gap as referred to and explored in this study are dened. This includes a description of how these forces are conceptualized into three dimensions for the purposes of this study. Secondly, a selected number of management-based theories are analyzed to complement agency theory. These theories are analyzed in the context of narrowing the governance gap by recognizing the impact of the wider environmental inuencing forces on an organizations governance paradigm and managing them through appropriate governance mechanisms and processes. Thirdly, a conceptual integrated multi-theoretical model for corporate governance is developed from the analysis. It is structured using the concept that the shortcomings of one theory is complemented by another to ensure organizations identify, manage, monitor and control unique environmental inuences applicable to it, thus ensuring effective governance. Finally, a concluding discussion is provided with suggestions for future research. 2. Dening the concept of wider environmental inuencing forces, the extended governance paradigm and the governance gap as applied in this paper The wider environmental inuencing forces as referred to in this paper are dened as being attributable to a range of issues (e.g. specic legal and regulatory issues, social issues, ethical issues, human resource issues. behavioral issues) occurring within and external to the organization and having an impact on the governance of organizations. They are external and internal forces not normally captured in the contractual obligations between management and shareholders in an agency-oriented paradigm. The extended governance paradigm as referred to in this paper is dened as the recognition of the impact of an organizations wider inuencing forces on its governance paradigm; its consequent wider contractual obligations; and the resultant changes to the development and implementation of governance mechanisms and processes from that as determined through an agency-oriented governance paradigm. The extended governance paradigm denition takes the approach that the governance paradigm is extended from an agency-oriented paradigm on two fronts. Firstly, it is suggested that what determines the breadth and depth of the governance paradigm of an organization are its unique wider environmental inuencing forces that impact upon it and help shape the boundaries and constraints under which it operates. They are a result of the organization recognizing additional complexities and consequent additional accountabilities and a wider set of contractual arrangements between management, the shareholders and an extended stakeholder base. Secondly, it recognizes that governance encapsulates the responsibilities and accountabilities of both the board and management as a continuous process. While the board has ultimate accountability, it is dependent on management in meeting this accountability requirement. The governance paradigm in this context is suggested as being a cycle that extends from the directional and monitoring role of the board, to the management and operational role of the chief executive ofcer and his management team, and to the assurance role of the external and internal auditor. These three different roles provide for three different levels of governance within an organization. These include governance at the board level, operational level and assurance level. It is suggested that while the board has overall accountability and responsibility of governance, their accountability and responsibility is interdependent with that of management and the assurance providers. The effectiveness of one level of governance can impact on the other(s) and the total governance of the organization as a whole. In this respect, the governance paradigm encapsulates all activities ranging from the strategic and monitoring directions set by the board, the management and operationalization of all such strategic activities by the chief executive ofcer and his management team and the control and monitoring processes of the external and internal auditors to ensure the operationalization of activities are carried out in line with the interest of the various stakeholders. The board, management, external and internal auditors are referred to as the governance mechanisms within this governance paradigm. The various processes which need to be in place in each of the three governance levels to assist the board and management to ensure effective governance are referred to as governance processes. This paper also takes the approach that the additional contractual arrangements arising from the recognition of the wider inuencing forces could differ for organizations as the impact of such external and internal inuences could vary from organization to organization and within an organization during its life cycle. These different levels of impacts could have different levels of development and implementation of governance mechanisms and processes across its governance levels. The view of a possible different extended governance paradigm for each organization because of the different levels of impact of its wider inuencing forces is consistent with that of Filatotchev et al. (2006) and Young and Thyil (2008) who similarly rejected the notion of a universal governance template. The governance gap as referred to in this paper is dened as the difference between the above extended governance paradigm and the agency-oriented governance paradigm. It essentially entails the difference between the wider range of contractual arrangements as a result of recognizing the wider inuencing forces and the limited series of contractual arrangements between the agent and shareholder in an agency-oriented paradigm. This difference inevitably extents to the consequent change in the development and implementation of governance mechanisms and processes across the governance levels to address the wider range of contractual arrangements. Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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3. The conceptualization of the wider inuencing forces into three dimensions This paper conceptualizes the impact of the wider inuencing forces on the governance paradigm of an organization through three dimensions. The rst dimension relates to the recognition of an organizations external and internal inuencing forces within the governance framework. This provides the basis to incorporate the wider set of contractual obligations arising from these wider inuencing forces within an organizations governance framework. The second dimension relates to the strategic management of the wider inuencing forces and its contractual obligations across an organizations governance levels. This includes the development and implementation of appropriate governance mechanisms and the degree of its application (e.g. the structure, composition and scope of activities of the board, management, external and internal audit). The third dimension relates to the day-to-day operational management of the identied wider inuencing forces. This includes the management, development and implementation of appropriate governance processes relevant to address the specic contractual obligations arising from an organizations wider inuencing forces (inclusive of control and monitoring processes, e.g. strategic management process, budgeting process, performance monitoring process, management and nancial accounting process and risk management). The following analysis of other theories to augment agency theory is made in the context of addressing the above three conceptualized dimensions with a view of reducing the governance gap as dened in this paper. It retains agency theory as the primary theory in this multi-theoretical approach as it provides the platform to recognize the conceptualized dimensions of wider inuencing forces. 4. The case for incorporating stakeholder theory in the multi-theoretic model It is argued that the wider inuencing forces impacting on the governance of organizations are indirectly attributable to the changing environment in which organizations operate. An important part of this changing environment involves an increased level of social obligations and third party interest in organizations, which extend the obligations from a single shareholder to multiple stakeholders. This applies to both private sector and public sector organizations. It is suggested that organizations, in satisfying all stakeholders of an organization, need to recognize the interest of these stakeholders and address them through appropriate strategies. Other researchers provide insights to the various stakeholders and the increased pressures on corporations to respond to stakeholders. Waddock et al. (2002) for example indicated that the pressure to reform stakeholder related practices was expected because of changing social trends and institutional expectations. In order to explain the impact of various stakeholders through these trends Waddock et al. (2002) categorized these stakeholders as primary and secondary along the lines advocated through an earlier study by Clarkson (1995). Waddock et al. (2002) in this respect identied that primary shareholders, such as employees and customers were critical given the employees attitudes on where to work and the customers attitudes to purchase from responsible and socially conscious companies. Other than the primary stakeholders whose continuing participation and interest is crucial to the organization, Waddock et al. (2002) identied the growing impact of non-government organizations (NGOs), activists, communities and governments as important secondary stakeholders. The pressures from such secondary stakeholders were suggested as arising out of a growing concern for human rights standards, labour standards and environmental concerns. Berry and Rondinelli (1998) also provided similar evidence of wider stakeholder interest from governments, customers, employees and competitors to make socially responsibly decisions. Cobb et al. (2005) also acknowledged through their study that there was a strong link between corporate governance and corporate social responsibility. It was suggested these levels of stakeholder interests for corporate social responsibility predominantly existed in developed countries where such stakeholder rights were supported by strong government regulations and stringent legal liabilities for not compliance. The case for a wider stakeholder interest that takes into account both primary and secondary stakeholder interests was also backed by Luoma and Goodstein (1999) who found that corporations were under increased pressure to include stakeholders such as suppliers, customers, employees and members of the public on their board of directors. This pressure, it was suggested was in response to the need for corporations to deal more effectively with public and government scrutiny, the adoption of statutes that gave the board the right to consider the interest of non-shareholder interests and the growing size and complexity of todays modern corporation. Hart and Sharma (2004) identied a particular category within the range of stakeholders who are often forgotten but are now considered to have considerable power in todays world due to globalization and increased sophistication of communication. They refer to these stakeholders as the fringe stakeholders who include the illiterate, poor and isolated who traditionally have little impact on organizations. These groups however are regarded as powerful, especially if they combined their forces with activists, NGOs and civil rights groups against corporate action. Another pressure to consider is the impact of duciary duties (a duty of care) on other stakeholders as derived from the changing legislative view on duciary duties. These duties, which were at one time limited to stockholders, are now also directed towards non-shareholder groups due to changing legislation (Boatright, 1994; Marens and Wicks, 1999). The management-based theory, which provides for extending the different levels of participants as described above, recognizing the consequent wider contractual obligations and managing them is stakeholder theory (Donaldson and Preston, 1995; Freeman, 1994). Freeman (1994, p. 46) dened stakeholders as: any group or individual who can affect or is affected by the achievement of the organizations objectives. This concept of stakeholders was further extended by Donaldson and Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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Preston (1995) who included in this category all persons or groups with legitimate interests in an organization with no one having priority over another. In relation to agency theory, this management-based theory introduced the concept of multiple stakeholders and multiple objectives to a principalagent relationship. This concept extended the central idea of agency theorys divergent interests between agent and shareholders to a consideration of divergent interests between the agent and multiple stakeholders. Hill and Jones (1992) explained that both stakeholderagent and principalagent relationships involved a common purpose which was to narrow or reconcile divergent interests. Donaldson and Preston (1995), in reference to these divergent interests of multiple shareholders, suggested that governance mechanisms and processes should recognize the wider inuence of multiple stakeholders through a structure that takes into account the full range of stakeholders who seek multiple and sometimes divergent goals. This view was further highlighted by Sundaram and Inkpen (2004), who posited that stakeholder theory addressed the question for managers as to which groups of stakeholders required attention. In this context, it was argued that stakeholder theory is integral to corporate governance theory because it provides the basis for managers to understand the various needs of the extended stakeholder base and reconcile it with the various purposes of the organization. This enables them to maximize stakeholder value. In the context of the extended governance paradigm, stakeholder theory has been argued as necessary to complement agency theory by offering a more inclusive approach to corporate governance (Coyle, 2007; Solomon, 2007). This approach has been described as a relatively recent stage in the development of corporate governance (Brennan and Solomon, 2008) and has resulted in growing research in the social responsibility areas as a means of improving corporate responsibility to a broad range of stakeholders (Unerman et al., 2007). Other recent studies that have recognized this extended stakeholder concept in governance include Collier (2008), Sikka (2008), Parker (2007), Coyle (2007) and Solomon (2007). In summary, stakeholder theory addresses an important dimension of the wider inuencing forces. It recognizes that organizations have a myriad of stakeholders and then seeks to integrate their needs through the creation of multiple objectives. It is argued that this theory is particularly important for developing and implementing adequate governance mechanisms and processes relative to the broader environmental inuences and interdependencies of organizations with various internal and external stakeholders. The list and intensity of inuences by stakeholders is growing given the increasing interest by social and environmental constituents on corporations. There is also a growing concern by society given the increased number of corporate scandals, the current global nancial crises, its links with poor governance of organizations and its consequent impact on economies of nations and society. 5. The case for incorporating resource dependency theory The multi-theoretical concept adopted in this paper takes the approach that apart from recognizing the complexities arising from wider inuencing forces through a wider stakeholder base, there is an associated governance responsibility to manage them. This would require directors and senior management to recognize the multiple needs of the multiple stakeholders and strategically manage them. Directors accordingly must be equipped with the skills, knowledge and expertise to be able to build effective external relationships and secure adequate resources to address the interest of these multiple stakeholders and wider environmental impacts under current operating conditions. This package of skills, experience and effectiveness qualities of board members in dealing with external contingencies arising from the impact of wider inuencing forces or board capital as it is referred to is ignored by agency theory as it mainly concentrates on the boards monitoring role and its incentive to monitor. It was suggested that social norms and institutional environments have an effect on board capital. Young et al. (2001) for example found that the board capital of Chinese rms in Hong Kong and Taiwan was getting more pronounced because of its environmental inuence and there was less emphasis on service and control functions. The underpinning theory that organizations can draw from to ensure effective governance to bridge the limitation of agency theory in this area is resource dependency theory. Resource dependency theory essentially posits, that the ability of organizations to operate under an environment of complexity associated with its wider interdependencies is directly related to the quality and effectiveness of the directors who make up the board or its board capital (Boyd, 1990; Daily and Dalton, 1994; Gales and Kesner, 1994; Hillman et al., 2000; Pfeffer, 1972; Pfeffer and Salancik, 1978). This theory further suggests that corporate boards are governance mechanisms for managing such external and internal environmental inuences and reducing uncertainty under such an environment. The effect of this is to improve the overall efciency of the organization (Pfeffer, 1972; Pfeffer and Salancik, 1978) and reduce costs (Williamson, 1984). Empirical studies have shown a positive relationship between board capital and rm performance (e.g. Boyd, 1990; Dalton et al., 1999; Pfeffer, 1972). Other studies also concluded that directors who bring value or resources to an organization invariably enhance the effective operation of an organization, and therefore increase organizational performance and prospects for survival (Daily et al., 2003; Johnson et al., 1996; Singh et al., 1986). Hillman et al. (2000) also support this view, arguing that the appointment of directors, because of their various skills and experience in particular areas, reduced uncertainty in relation to external and internal factors to which organizations were exposed. A study that exemplied this was conducted by Mizruchi and Stearns (1988). They identied that corporations with solvency problems were more likely to appoint representatives of nancial institutions to their board of directors given their skills and experience in this area and their propensity to assist the company overcome their solvency problems. Within the broad denition of the array of resources provided by the board, Pfeffer and Salancik (1978) and Zahra and Pearce (1989) characterized the service role of directors as enhancing the company reputation, establishing contacts with Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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the external environment and being council to executives. This was especially in the strategic planning and decision-making arena through their own analysis or suggested alternatives. This strategic role was extended to include advising the CEO and top managers on administrative and other managerial issues (Johnson et al., 1996). There is an implied dependence on effective management in this relationship with the CEO and management to assist the board in meeting its strategic role. In this respect, it is suggested that to complete the cycle of adding value to the recognition and management of the wider inuencing forces, the concept of board capital should also be extended to management capital. This concept of managerial accountability in respect of governance was also recognized and examined in the context of resource dependency theory by Toms and Filatotchev (2004). In summary, this analysis suggests that the increasingly complex environment in which todays organizations operate, coupled with an increasingly competitive environment, has created a need for skilled directors to steer companies in the right direction. It is argued, that given the increased level of professionalism and dependence on senior management, resource dependency theory could be extended to also include the chief executive ofcer and his senior management team. To this end, it is further argued that resource dependency theory has obvious implications for the size and composition of boards of directors and implications for the selection and prole of senior managers and the consequent governance processes in the furtherance of effective governance under a multi-level inuencing environment. The resource dependency theory particularly complements stakeholder theory in coping with the increased complexities arising from a wider stakeholder base. 6. The case for incorporating stewardship theory in the multi-theoretic model The multi-theoretical concept adopted in this paper takes the approach that apart from recognizing the complexities arising from multiple stakeholders (drawn from stakeholder theory) and strategically managing them (drawn from resource dependency theory); there is an associated governance responsibility to operationally manage them on a day-to-day basis through an appropriate set of skilled managers and governance processes. It is argued that the sophistication and complexity of these associated interdependencies arising from this dimension of the wider inuencing forces requires a high level of professionalism from the staff of various levels of management supported with a set of effective governance processes. The staff invariably are associated with professional bodies that have their own professional and ethical guidelines and codes of conduct that assist towards achieving the effective governance aim of organizations (e.g. Accountants, Engineers, Administrative Managers, etc.). This environment of professionalism, when considered together with the presence of appropriate mandatory governance frameworks at the national level provides an element of control in the organizational environment that inuences rm behavior consistent with owners expectations. Other inuences such as sociological, ethical and cultural values of the country in which these organizations are situated would also assist towards determining the element of trust that can be placed with the management of organizations. These environmental inuencing forces vary with countries and organizations and would in turn determine the type of governance monitoring and control mechanisms to be implemented. It is suggested that in countries where there are sophisticated levels of governance regulations and strong professional and ethical guidelines, the costs of control mechanisms will be less. In such situations, organizations would need the exibility to introduce more intrinsic and empowering processes at the expense of extrinsic rewards and control processes, a feature of agency theory. In such cases, the implementation of standardized rigid corporate governance systems associated with extrinsic rewards and control processes on organizations instead of a balance with intrinsic rewards and empowering processes would have a negative impact on effective governance. This is because they increase cost, reduce exibility and speed of decision-making, all characteristics of efciency and effectiveness associated with effective governance. This hinders senior management in the core task of adding value to the organization by running it efciently and effectively (Durden and Pech, 2006). Others such as Clark (2006) have indicated that an over compliance regime will have a negative effect on management as they become more risk averse, resulting in them becoming less competitive to the detriment of effective governance. The analysis of the literature also suggests that not all of contemporary organizations structures are based on assumptions that there is a divergence of goal alignment between shareholders and managers, as posited by agency theory. For example, it was suggested that in certain organizational structures such as family based companies, there is goal alignment (Davis et al., 1997) given that there is a concentrated ownership and the presence of owners in the rms management (Chin et al., 2004; Eisenberg et al., 1998; Huse, 2000). These relate to a culture where owners and managers are the same. In these instances, control mechanisms designed on agency principles may not be applicable or may be simply inefcient or costly (Barney and Hansen, 1994; Lee and ONeill, 2003). This scenario has also an effect on board structures and may require less monitoring by boards as would normally be required through agency theory (Davis et al., 1997; Luoma and Goodstein, 1999; Muth and Donaldson, 1998; Sundaramurthy and Lewis, 2003). The above are some examples of cases where the development and implementation of monitoring controls and extrinsic rewards as posited by agency theory may not be appropriate. In such cases organizations need exibility to reduce agency costs and balance extrinsic rewards and monitoring controls with more intrinsic rewards and empowering processes. The theory that augments agency theory and provides this exibility to organizations to strike the right balance between extrinsic rewards and control processes and intrinsic rewards and empowering processes is stewardship theory. Stewardship theory, which has its roots in psychology and sociology, essentially posits that directors and management have interests that are in fact consistent with those of the shareholders. The theory suggest that directors and management are motivated Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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by a need to achieve, provide high-level commitment and gain intrinsic satisfaction by performing challenging work and exercising responsibility and authority in order to gain recognition from peers and bosses (Davis et al., 1997; Donaldson and Davis, 1991). Stewardship theory provides an alternate underpinning theory for an organization to respond appropriately in relation to a dimension of the internal and external inuencing forces impacting on its governance paradigm. Stewardship theory, in summary, recognizes the impact of a dimension of the wider inuencing forces on the governance paradigm and provides organizations with the exibility to determine the right mix or degree of intensity of governance mechanisms and processes to be developed and implemented to achieve effective governance. It complements agency theory, stakeholder theory and resource dependency theory and needs to be incorporated in any governance model to provide a more holistic view of governance. The growing importance of stewardship theory in governance is being recognized with calls for more stewardship related research in governance studies (OConnell, 2007). 7. The multi-theory approach The above analysis recognizes that certain dimensions of the wider inuencing forces, resulting from on going changes in areas such as legal, regulatory, sociological, ethical, human resource management, behavioral and corporate strategic frameworks, are not normally recognized through the narrow lens of agency theory. A multi-theoretic approach is therefore suggested which incorporates the economic based agency theory with three management-based theories (stewardship, stakeholder and resource dependency theory) as analyzed above to recognize different dimensions of these wider environmental inuencing forces. This would ensure all major determinants of good governance are recognized and incorporated within the governance framework of an organization. The interrelationship of the theories, its complementary effect on each other and its contribution towards understanding the extended governance paradigm of an organization in the context of reducing the governance gap as dened in this paper is illustrated through the model in Fig. 1. The model is designed to recognize that the shortcomings of one theory can be complemented with another theory or group of theories. Organizations can use the model to draw on the respective underpinning theories to assist it in recognizing its wider inuencing forces though its different levels of stakeholder base, and manage the consequent wider contractual obligations strategically and operationally through the development and implementation of appropriate accountability governance mechanisms and processes. Roberts (2001) referred to such governance mechanisms and processes as processes of accountability and further distinguished them as ranging over a spectrum because of their individualizing or socializing effect. The individualizing effect was broadly associated with agency theory and its disciplined internal and external controls while the socializing effect was broadly associated with addressing a wider sociological accountability that addressed the needs of a wider base of interested parties to an organization through both instrumental and moral terms. Roberts (2001) was of the view that the totality of these accountability processes constituted effective governance and provided a fourfold typology of the different combinatory potentials of the effects of these accountability processes on systems of corporate

Fig. 1. The multi-theoretical approach to governance.

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governance. While these accountability processes are not specically related to any underlying theories as depicted in the proposed model, an analogy could be made with the fourfold typology of various combinations of accountability processes to the type of accountability processes to be developed and implemented in each quadrant of the proposed multi-theoretical model. It is hence, integrated in the following discussion of the proposed model to strengthen its theoretical and practical proposition for a more holistic approach to governance theory. The essence of the model is that each side of the square is represented by a theory. Each side of the axis representing the theory is in turn represented by an extreme of its unique characteristic. Agency theory, for example, is represented by high agency cost on one end and low agency cost at the other end of the axis. Stewardship theory is represented by high trust or goal alignment on one end and low trust or goal divergence on the other end of the axis. Stakeholder theory is represented by a single shareholder on one end and multiple stakeholders at the other end of the axis. Resource Dependency theory is represented by complexity of operations and management at one end and simplicity of operations and management at the other end of the axis. It is suggested that all organizations operate within the extreme characteristics of all four proposed theories. As an example, company AA placed at the lower left hand quadrant of the diagram (referred as quadrant A) is characterized as being inuenced by a low stakeholder base (as indicated by its position on the lower stakeholder theory axis). The low stakeholder base and lower level of contractual obligations between interested parties inuences the need for a less complex operating and management environment (as indicated by its position on the lower end of the resource dependency theory). It is also characterized as operating in a low trust environment (as indicated by its position on the left hand side of the stewardship theory axis) and as a result requiring a high level of control and monitoring (as indicated by its position on the left hand side of the agency theory axis). From a practical perspective, companies in this quadrant can be broadly related to family based and small companies that have limited resources to apply towards control mechanisms and processes. Roberts (2001) referred to such companies as adopting a sovereign governance system and characterized it as one that has a lack of effective accountability. Organizations in this quadrant can draw upon the multi-theoretical approach to determine the appropriate mix of governance mechanisms and processes to be developed and implemented across its board, operational and assurance governance levels. An organization it is suggested can be placed anywhere on the four quadrants during its life cycle depending on the analysis of its impacting external and internal forces. As a further illustration, company BB on analyzing its internal and external inuencing forces is located at the bottom right hand corner of the model referred to as quadrant B. It is similarly categorized as a company inuenced by a low stakeholder base (as indicated by its position on the lower stakeholder axis) and as consequence requiring a less complex board and operational management environment (as reected through its corresponding position in the resource dependency theory axis). It is however, characterized by a high trust/goal alignment culture (as indicated by its position in the stewardship theory axis) requiring less monitoring, and control mechanisms and processes (as reected by its corresponding position on the agency theory axis). Companies in this quadrant typically include smaller type companies or public sector organizations with low stakeholder interest but a high level of trust/goal congruence. Roberts (2001) characterized such companies as adopting a socialized governance system. These were described as companies that had effective face-to-face accountability in a board but a relative absence of external transparency provided by disclosure and its associated market mechanisms. The model proposed in this paper provides for such companies to determine where it lies between the extreme characteristics of all four theories in the quadrant and draw upon them to determine the appropriate mix of accountability processes to be developed and implemented. Company CC, placed at the top right hand quadrant of the model (referred as quadrant C) is characterized as being inuenced by a multiple stakeholder base (as indicated by its position on the high end of stakeholder theory axis). The companys position on the quadrant also indicates that it is at the complex end of the axis relative to resource dependency theory. The organization in this respect draws on resource dependency theory to provide it with the right board and management capital to address the complexities of its operations associated with meeting the needs of its multiple stakeholders. Its position in the quadrant also indicates that the culture of the organization involves a high level of trust or goal alignment (as reected through its position on the stewardship theory axis). This is complemented by its position in the agency theory axis indicating low agency costs. The organization in this respect can draw on a mix of stewardship theory and agency theory to develop and implement governance mechanisms and processes associated with more intrinsic rewards and empowering processes and less extrinsic rewards and monitoring control processes to cater to its own distinct operating culture. Big well-managed multi nationals, large size corporations, and large public sector organizations that have adequate management and control processes characterize these types of companies. They involve multiple stakeholder interest, complexity of operations and have a high trust/goal congruence factor. Roberts (2001) referred to such companies as practicing a complementary governance system. Such companies were described as dominated by socializing forms of accountability processes supported by extensive external disclosures to satisfy the wider stakeholder base. The model proposed in this paper suggest that such organizations by determining its position within the four extremes characteristics of the underlying theories, can draw on them to determine the range of accountability processes to be developed and implemented across its three governance levels. Company DD placed on the top left hand quadrant of the model (referred to as D), is characterized as being inuenced by multiple stakeholders (as indicated by its position on the stakeholder axis). Its corresponding position on the resource dependency theory axis indicates a need for high-level board and management skills to address the complex operating environment required to meet the needs of its multiple stakeholder base. Its position on the stewardship theory axis however Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. 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indicates that it operates in a low trust/goal divergence environment, which is complemented with a high level of monitoring, and control costs (as indicated by its corresponding position on the agency theory axis). There would invariably be a higher level of extrinsic rewards and control processes and less intrinsic rewards and empowering processes associated with this company. Large companies with a multi stakeholder base and organizational features that mirror complex operations, level of distrust/goal divergence and need for high level of disciplinary control mechanisms typically fall into this quadrant. Roberts (2001) described such companies as pursing an individualized form of governance system. Such companies were described as experiencing shareholder distrust of the adequacy of board accountability and a lack of transparency. Roberts (2001) also characterized such companies as lled with visible agency-oriented accountability processes but warned that there was also a negative consequence to these extreme levels of control in that some of these while effective for short-term nancial performance had risks associated with long-term wealth creation. The model proposed in this paper provides for an appropriate set of accountability processes to be drawn from a mix of underlying theories to provide for both short-term and long-term wealth creation. In summary, the model illustrates how organizations by determining its position in the model can draw upon the complementary effect of the four theories in arriving at a balanced governance framework This provides the basis for such organizations to develop and implement a range of accountability processes across its three governance levels. These include the board level, operational management level and the assurance level. From a board governance level, organizations can draw on resource dependency theory to determine the right board capital to recognize and manage the need of their identied stakeholder base and other interdependencies strategically. Its position in the stewardship and agency theory axis determines the level of trust in its operating environment. From an operational management governance level, the level of trust associated with its operating environment inuences the right mix of operational accountability processes to be developed and implemented. From an assurance governance level, the consequent constrained governance paradigm as determined through the mix of underlying theories would dictate the level of assurance processes to be developed and implemented to provide management with appropriate assurance as to the effectiveness of its governance mechanisms and processes across its governance levels. The model illustrates how each theory complements each other towards the recognition of the wider inuencing forces, its consequent wider contractual obligations and in determining the degree of application of its governance mechanisms and processes across its three governance levels. 8. Conclusion and discussion This paper has critically reviewed the extant literature on concerns surrounding the theoretical foundations of governance. The core of these concerns is the ongoing literature that agency theory has limitations in its role as the sole underlying theory of corporate governance. From an accounting perspective, the literature reviewed informs that the innovation of agency theory provided for the relationship between the main parties to be bound through a nexus of contractual obligations (Jensen and Meckling, 1976). Built into this contractual relationship was the assumed utility maximizing nature of management as the agent and the ongoing need to develop and implement management and accounting controls and incentive schemes to align managements interest with those of the principal. Consequently, research studies have focused on this limited aspect of accountability. The literature reviewed also reveals that the concept of effective governance evolved from this limited relationship and have inuenced policy makers and accounting bodies to addressed problems in this area by introducing more stringent and encompassing regulatory controls, accounting standards and ethical guidelines to align the interest of management with the principal (Brennan and Solomon, 2008; Davis, 2005; Parkinson, 1993). There is a further stream of literature reviewed that raises concern as to the adequacy of the above agency-oriented concept of governance and its consequent control mechanisms and processes to be developed and implemented. Central to this argument is that there is a wider stakeholder base, wider dimensions of environmental inuencing forces and consequent wider set of contractual obligations and accountability processes to be considered. This shortcoming of agency theory was also linked to recent corporate scandals. Proponents of the limitations of agency theory have consequently argued for a more holistic view of governance and have proposed a multi-theoretical approach to overcome the limitations of agency theory. This paper contributes to the above literature by building on the above recommendations for a multi-theoretical approach to governance and developing a multi-theoretical model. It commences by dening the context in which the model is developed. Aspects important to justifying the case for a multi-theoretical approach are dened and this includes the concept of the wider inuencing forces, the extended governance paradigm and the governance gap. The paper takes the approach that for effective governance to occur, dimensions of wider environmental inuencing forces and its consequent wider set of contractual obligations needs to be recognized and managed through a range of governance mechanisms and processes across three governance levels. This constitutes the extended governance paradigm. It is suggested here that organizations can draw on the complementary effect of three management-based theories and the economic based agency theory to develop and implement these wider range of governance mechanisms and processes. These management-based theories are stewardship theory, stakeholder theory and resource dependency theory. Agency theory is retained in this multi-theoretical approach as the primary theory as it provides the platform that establishes the nexus of contractual obligations between the main players in an organization, these being the stakeholders, board and management. It is suggested that the reason environmental inuencing forces discussed here have an impact on organizations today is the growing complexities in the way they operate compared to the time when agency theory was introduced. One dimension of the wider inuencing forces arising from these complexities is argued as relating to the increase in the interests of the Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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operations of organizations by different levels of stakeholders. The paper builds on existing literature in this area to illustrate how social and community interest coupled with changes in the legal interest of stakeholders has seen an increase in the myriad of stakeholders with an interest in the performance of organizations. It is argued that this has increased pressure on organizations to have adequate governance mechanisms and processes to recognize these stakeholders and address their goals adequately. The exibility to recognize the impact of these wider inuences arising from a myriad of stakeholders on the governance paradigm of an organization is provided through stakeholder theory. The paper argues that stakeholder theory hence needs to be integrated with agency theory. Another dimension of the wider inuencing forces discussed in this paper is argued as arising from the increased sophistication and complexity of operations of organizations. The paper builds on existing literature in this area to illustrate how multiple stakeholders and changing social, cultural, and legal constraints have had an impact on the governance paradigm of organizations and complexity of its operations. It is suggested that such a complex environment requires a good level of board capital and management capital to steer the organization to a high level of performance. It is suggested that resource dependency theory provides organizations with the theoretical underpinning to have the exibility to determine the right level of board capital to manage the wider inuencing forces affecting its governance paradigm. An argument is also made that resource dependency theory needs to be rened to include the need to also have adequately skilled and experienced management. This is because of the growing interdependency of the board and management in dealing with contemporary governance issues. The paper accordingly argues that resource dependency theory needs to be integrated with agency and stakeholder theory. A further dimension of the wider inuencing forces arising from these complexities has been argued to include the varied levels of legislative governance guidelines and controls, professionalism in management personnel and social and cultural values that impacts on the governance paradigms of organizations. The paper extends on existing literature in this area to recognize that there is an opposite extreme to agency theory assumptions of distrust of management and that there can be environments of trust of management and consequent alignment of managements interest with that of the principal. This is posited by stewardship theory. The paper consequently argues that the professional, ethical and trust culture of organizations inevitably affects the divergence levels of management interest from shareholders interest and the different levels of divergence inevitably provide organizations with the exibility to balance and manage extrinsic reward and monitoring controls with intrinsic reward and empowering processes. This paper argues that this exibility is provided by integrating stewardship theory with agency theory, resource dependency theory and stakeholder theory. The literature on the three governance theories discussed in this paper have been analyzed and an argument made that they can complement agency theory and each other and are presented in the form of a multi-theoretical model. The interrelations and complementary effect of these governance theories presented through the model would assist an organization to determine where it is placed on the model and consequently draw on the respective mix of governance theories applicable to it. This in turn may assist it in determining the appropriate governance mechanisms and processes to be developed and implemented for ensuring effective governance across its three governance levels. The theoretical underpinnings and application of the model are reinforced by integrating it with the fourfold typology of accountability processes developed by Roberts (2001). In summary, the discussed model provides a case to recognize the wider environmental inuencing forces impacting on contemporary organizations and for a more holistic approach to governance. Limitations to the study, opportunities for future research and policy implications are elaborated in the following subsections of this concluding discussion. 8.1. Limitations to the study This study draws on a set of governance theories, which best collectively respond to addressing the gap created by agency theory. There may well be other economic based, management-based or behavioral governance theories that have an impact on governance and have not been analyzed in this study. In addition, the theoretical propositions of the study have not been tested with real life organizational settings to determine its validity. The multi-theoretical model is also simplied to illustrate the interrelationship and complementary effects of the theories. In real life situations, there might well be complexities that could prevent a clear alignment of the complementary effects as provided in the model. 8.2. Future research Future research is suggested to validate the multi-theory proposition introduced in this paper with real life organizational settings, and extend the depth of the current study to link an organizations wider inuencing forces with its specic governance mechanisms and processes. As the study is exploring new depths in the area of governance, a qualitative study involving one to one in-depth interviews with board members and senior management would be most appropriate. The interviews should be structured to determine an organizations wider inuencing forces through its three dimensions of inuence and its position on the multi-theoretical model as proposed in this paper. Thereafter, the research should explore if appropriate governance mechanisms and processes are developed and implemented across the three governance levels, underpinned by the mix of the respective underpinning theories. It is also proposed that the research process, if conducted with similar organizations within the same industry could help validate the theoretical proposition that the governance Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002

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paradigms of such organizations could differ because each organization is exposed to its own unique set of wider inuencing forces. 8.3. Policy implications The argument for a multi-theoretical approach has potential for policy implications in that policy-making bodies should recognize that future governance frameworks of organizations and governance guidelines should be modied to recognize an organizations wider inuencing forces, which have an impact on its governance paradigm. This will assist towards reducing the theorypractice gap in this area. Acknowledgements An earlier version of this paper was presented at the 2009 American Association of Accounting Annual Conference. The author wishes to thank participants for their comments and suggestions. The author also wishes to thank Marcia Annisette (co-editor) and two anonymous referees for their comments and suggestions towards further developing and improving the paper. Finally, the editorial contribution from Craig Baird towards this paper is appreciated. References
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Please cite this article in press as: Christopher J. Corporate governanceA multi-theoretical approach to recognizing the wider inuencing forces impacting on organizations. Crit Perspect Account (2010), doi:10.1016/j.cpa.2010.05.002