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A Theory of Corporate Scandals: Why the U.S. and Europe Differ

John C. Coffee Jr.

Columbia Law School; European Corporate Governance Institute (ECGI); American Academy of Arts & Sciences

March 2005

Columbia Law and Economics Working Paper No. 274

A wave of financial irregularity broke out in the United States in 2001-2002, culminating in the Sarbanes-Oxley Act of 2002. A worldwide stock market bubble burst over this same period, with the actual market decline on a percentage basis being somewhat more severe in Europe. Yet, no corresponding wave of financial scandals involving a similar level of companies broke out in Europe. Indeed, those scandals that did arise in Europe often had American roots (e.g., Vivendi, Ahold, Adecco, etc.). Given the higher level of public and private enforcement in the United States for securities fraud, this contrast seems perplexing.

What explains this contrast? This paper submits that different kinds of scandals characterize different systems of corporate governance. In particular, dispersed ownership systems of governance are prone to the forms of earnings management that erupted in the United States, but concentrated ownership systems are much less vulnerable. Instead, the characteristic scandal in concentrated ownership economics is the appropriation of private benefits of control. Here, Parmalat is the representative scandal, just as Enron and WorldCom are the iconic examples of fraud in dispersed ownership regimes.

Is this difference meaningful? This article suggests that this difference in the likely source of, and motive for, financial misconduct has implications both for the utility of gatekeepers as reputational intermediaries and for design of legal controls to protect public shareholders. What works in one system will likely not work (at least as well) in the other. The difficulty in achieving auditor independence in a corporation with a controlling shareholder may also imply that minority shareholders in concentrated ownership economies should directly select their own gatekeepers.

Number of Pages in PDF File: 30

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Date posted: March 30, 2005  

Suggested Citation

Coffee, John C., A Theory of Corporate Scandals: Why the U.S. and Europe Differ (March 2005). Columbia Law and Economics Working Paper No. 274. Available at SSRN: https://ssrn.com/abstract=694581 or http://dx.doi.org/10.2139/ssrn.694581

Contact Information

John C. Coffee Jr. (Contact Author)
Columbia Law School ( email )
435 West 116th Street
New York, NY 10025
United States
212-854-2833 (Phone)
212-854-7946 (Fax)

European Corporate Governance Institute (ECGI)
B-1050 Brussels
American Academy of Arts & Sciences
136 Irving Street
Cambridge, MA 02138
United States
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