Market-Based Corporate Governance System

Saying an organization has a “market-based corporate governance system” is a fancy-sounding way of saying that its investors have the most pull when it comes to deciding how the company is going to operate. Not the CEO, not the employees, not the founder’s useless cousin who somehow ended up as a VP, but the investors.

The thinking here is that, since investors are often responsible for inflows (and outflows) of capital, they should be the ones influencing how that capital is used. In most cases, the investors’ opinions and ideas are advocated by representatives that sit on the company’s board.

One benefit of a market-based corporate governance system is that it tends to push a company to be more transparent, because investor confidence stems from investor knowledge. It also pushes companies to be more socially responsible, more ethical, more inclusive, and more involved with its communities, since those are things that are important to investors.

But there’s a big drawback, too: many investors tend to have very short attention spans. If an organization’s quarterly earnings are down, for example, an investor might pull his or her funds and invest elsewhere. They’re not thinking about the long-term growth potential of the organization as much as they’re thinking about whether or not the company’s actions today are making them money.