Corporate governance is the set of processes A business process or business method is a collection of related, structured activities or tasks that produce a specific service or product for a particular customer or customers. It often can be visualized with a flowchart as a sequence of activities, customs In law, custom can be described as the established patterns of behavior that can be objectively verified within a particular social setting. A claim can be carried out in defense of "what has always been done and accepted by law." Generally, customary law exists where:, policies A policy is typically described as a principle or rule to guide decisions and achieve rational outcome. The term is not normally used to denote what is actually done, this is normally referred to as either procedure or protocol. Whereas a policy will contain the 'what' and the 'why', procedures or protocols contain the 'what', the 'how', the ', laws Law is a system of rules, usually enforced through a set of institutions. Laws can shape or reflect politics, economics and society in numerous ways and serves as a primary social mediator of relations between people. Contract law regulates everything from buying a bus ticket to trading on derivatives markets. Property law defines rights and, and institutions Institutions are structures and mechanisms of social order and cooperation governing the behavior of a set of individuals within a given human collectivity. Institutions are identified with a social purpose and permanence, transcending individual human lives and intentions, and with the making and enforcing of rules governing cooperative human affecting the way a corporation A corporation is an institution that is granted a charter recognizing it as a separate legal entity having its own privileges, and liabilities distinct from those of its members. There are many different forms of corporations, most of which are used to conduct business (or company In the United States, a company is a corporation—or, less commonly, an association, partnership, or union—that carries on an industrial enterprise." Generally, a company may be a "corporation, partnership, association, joint-stock company, trust, fund, or organized group of persons, whether incorporated or not, and any receiver,) is directed, administered or controlled. Corporate governance Governance is the activity of governing. It relates to decisions that define expectations, grant power, or verify performance. It consists either of a separate process or of a specific part of management or leadership processes. Sometimes people set up a government to administer these processes and systems also includes the relationships among the many stakeholders A corporate stakeholder is a party that can affect or be affected by the actions of the business as a whole. The stakeholder concept was first used in a 1963 internal memorandum at the Stanford Research institute. It defined stakeholders as "those groups without whose support the organization would cease to exist." The theory was later involved and the goals for which the corporation is governed. The principal stakeholders are the shareholders A mutual shareholder or stockholder is an individual or company that legally owns one or more shares of stock in a joint stock company. A company's shareholders collectively own that company and are the members of the company by signing the memorandum of association . Thus, the typical goal of such companies is to enhance shareholder value, the board of directors A board of directors is a body of elected or appointed members who jointly oversee the activities of a company or organization. The body sometimes has a different name, such as board of trustees, board of governors, board of managers, or executive board. It is often simply referred to as "the board.", employees Employment is a contract between two parties, one being the employer and the other being the employee. An employee may be defined as: "A person in the service of another under any contract of hire, express or implied, oral or written, where the employer has the power or right to control and direct the employee in the material details of how, customers, creditors A creditor is a party that has a claim to the services of a second party. It is a person or institution to whom money is owed. The first party, in general, has provided some property or service to the second party under the assumption (usually enforced by contract) that the second party will return an equivalent property or service. The second, suppliers, and the community at large.

Corporate governance is a multi-faceted subject.[1] An important theme of corporate governance is to ensure the accountability Accountability is a concept in ethics and governance with several meanings. It is often used synonymously with such concepts as responsibility, answerability, blameworthiness, liability, and other terms associated with the expectation of account-giving. As an aspect of governance, it has been central to discussions related to problems in the of certain individuals in an organization through mechanisms that try to reduce or eliminate the principal-agent problem In political science and economics, the principal–agent problem or agency dilemma treats the difficulties that arise under conditions of incomplete and asymmetric information when a principal hires an agent, such as the problem that the two may not have the same interests, while the principal is, presumably, hiring the agent to pursue the. A related but separate thread of discussions focuses on the impact of a corporate governance system in economic efficiency Economic efficiency is used to refer to a number of related concepts. It is the using of resources in such a way as to maximize the production of goods and services. One economic system is more efficient than another if it can provide more goods and services for society without using more resources. In absolute terms, a system can be called, with a strong emphasis on shareholders' welfare. There are yet other aspects to the corporate governance subject, such as the stakeholder view and the corporate governance models around the world (see section 9 below).

There has been renewed interest in the corporate governance practices of modern corporations since 2001, particularly due to the high-profile collapses of a number of large U.S. firms such as Enron Corporation Enron Corporation was an American energy company based in Houston, Texas. Before its bankruptcy in late 2001, Enron employed approximately 22,000 and was one of the world's leading electricity, natural gas, pulp and paper, and communications companies, with claimed revenues of nearly $101 billion in 2000. Fortune named Enron "America's Most and MCI Inc. MCI, Inc. is an American telecommunications subsidiary of Verizon Communications that is headquartered in Ashburn, unincorporated Loudoun County, Virginia. The corporation was originally formed as a result of the merger of WorldCom and MCI Communications, and used the name MCI WorldCom followed by WorldCom before taking its final name on April 12, (formerly WorldCom). In 2002, the U.S. federal government The Federal Government of the United States is the central United States governmental body, established by the United States Constitution. The federal government has three branches: the legislative, executive, and judicial. Through a system of separation of powers and the system of "checks and balances," each of these branches has some passed the Sarbanes-Oxley Act The Sarbanes–Oxley Act of 2002 , also known as the 'Public Company Accounting Reform and Investor Protection Act' (in the Senate) and 'Corporate and Auditing Accountability and Responsibility Act' (in the House) and commonly called Sarbanes–Oxley, Sarbox or SOX, is a United States federal law enacted on July 30, 2002. It is named after, intending to restore public confidence in corporate governance.

Contents

Definition

This section relies largely or entirely upon a single source. Please help improve this article by introducing appropriate citations of additional sources. (July 2010)

In A Board Culture of Corporate Governance, business author Gabrielle O'Donovan defines corporate governance as 'an internal system encompassing policies, processes and people, which serves the needs of shareholders and other stakeholders, by directing and controlling management activities with good business savvy, objectivity, accountability and integrity. Sound corporate governance is reliant on external marketplace commitment and legislation, plus a healthy board culture which safeguards policies and processes.

O'Donovan goes on to say that 'the perceived quality of a company's corporate governance can influence its share price as well as the cost of raising capital. Quality is determined by the financial markets, legislation and other external market forces plus how policies and processes are implemented and how people are led. External forces are, to a large extent, outside the circle of control of any board. The internal environment is quite a different matter, and offers companies the opportunity to differentiate from competitors through their board culture. To date, too much of corporate governance debate has centred on legislative policy, to deter fraudulent activities and transparency policy which misleads executives to treat the symptoms and not the cause.'[2]

It is a system of structuring, operating and controlling a company with a view to achieve long term strategic goals to satisfy shareholders, creditors, employees, customers and suppliers, and complying with the legal and regulatory requirements, apart from meeting environmental and local community needs.

Report of SEBI SEBI is the regulator for the Securities Market in India. It was formed officially by the Government of India in 1992 with SEBI Act 1992 being passed by the Indian Parliament. Chaired by C B Bhave, SEBI is headquartered in the popular business district of Bandra-Kurla complex in Mumbai, and has Northern, Eastern, Southern and Western regional committee (India) on Corporate Governance defines corporate governance as the acceptance by management of the inalienable rights of shareholders as the true owners of the corporation and of their own role as trustees on behalf of the shareholders. It is about commitment to values, about ethical business conduct and about making a distinction between personal & corporate funds in the management of a company.” The definition is drawn from the Gandhian principle of trusteeship and the Directive Principles of the Indian Constitution. Corporate Governance is viewed as business ethics Business ethics is a form of applied ethics or professional ethics that examines ethical principles and moral or ethical problems that arise in a business environment. It applies to all aspects of business conduct and is relevant to the conduct of individuals and business organizations as a whole. Applied ethics is a field of ethics that deals and a moral duty. See also Corporate Social Entrepreneurship regarding employees who are driven by their sense of integrity (moral conscience) and duty to society. This notion stems from traditional philosophical ideas of virtue (or self governance) [3]and represents a "bottom-up" approach to corporate governance (agency) which supports the more obvious "top-down" (systems and processes, i.e. structural) perspective.

Legal environment

In the United States, corporations are governed under common law, the Model Business Corporation Act, and Delaware Delaware is located in the northeastern portion of the Delmarva Peninsula and is the second smallest state in area . Estimates in 2007 rank the population of Delaware as 45th in the nation, but 6th in population density, with more than 60% of the population in New Castle County. Delaware is divided into three counties. From north to south, these law since Delaware, as of 2004, was the domicile for the majority of publicly-traded corporations.[4] Individual rules for corporations are based upon the corporate charter and, less authoritatively, the corporate bylaws Bylaw can refer to a law of local or limited application, passed under the authority of a higher law specifying what things may be regulated by the bylaw, or it can refer to the internal rules of a company or organization.[4] In the United States, shareholders cannot initiate changes in the corporate charter although they can initiate changes to the corporate bylaws.[4] In the UK, however, the analogous corporate constitutional documents (the memorandum and articles of association) can be modified by a supermajority (75%) of shareholders.[4] Shareholders can initiate 'precatory proposals' on various initiatives, but the results are nonbinding. Precatory proposals which have received majority support from shareholders, even for several consecutive years, have historically been rejected by the board of directors.[4]

History - United States

In the 19th century, state corporation laws enhanced the rights of corporate boards to govern without unanimous consent of shareholders in exchange for statutory benefits like appraisal rights, to make corporate governance more efficient. Since that time, and because most large publicly traded corporations in the US are incorporated under corporate administration friendly Delaware law, and because the US's wealth has been increasingly securitized into various corporate entities and institutions, the rights of individual owners and shareholders have become increasingly derivative and dissipated. The concerns of shareholders over administration pay and stock losses periodically has led to more frequent calls for corporate governance reforms.

In the 20th century in the immediate aftermath of the Wall Street Crash of 1929 The Wall Street Crash of 1929 , also known as the Great Crash, and the Stock Market Crash of 1929, was the most devastating stock market crash in the history of the United States, taking into consideration the full extent and duration of its fallout. The crash began a 10-year economic slump that affected all the Western industrialized countries legal scholars such as Adolf Augustus Berle Adolf Augustus Berle, Jr. was an educator, author, and U.S. diplomat. His name is pronounced "burley", Edwin Dodd, and Gardiner C. Means pondered on the changing role of the modern corporation in society. Berle and Means' monograph "The Modern Corporation and Private Property The Modern Corporation and Private Property is a book written by Adolf Berle and Gardiner Means published in 1932. It explores the evolution of big business through a legal and economic lens, and argues that in the modern world those who legally have ownership over companies have been separated from their control. The second, revised edition was" (1932, Macmillan) continues to have a profound influence on the conception of corporate governance in scholarly debates today.

From the Chicago school of economics, Ronald Coase Ronald Harry Coase is a British economist and the Clifton R. Musser Professor Emeritus of Economics at the University of Chicago Law School. After studying with the University of London External Programme in 1927–29, Coase entered the London School of Economics where he took courses with Arnold Plant. He received the Nobel Prize in Economics in 1's "The Nature of the Firm 'The Nature of the Firm' 4(16) Economica 386–405, is an influential article by Ronald Coase. It offered an economic explanation of why individuals choose to form partnerships, companies and other business entities rather than trading bilaterally through contracts on a market" (1937) introduced the notion of transaction costs into the understanding of why firms are founded and how they continue to behave. Fifty years later, Eugene Fama Eugene Francis "Gene" Fama is an American economist, known for his work on portfolio theory and asset pricing, both theoretical and empirical. He is currently Robert R. McCormick Distinguished Service Professor of Finance at the University of Chicago Booth School of Business and Michael Jensen Michael Cole "Mike" Jensen is an American economist working in the area of financial economics. He is currently the managing director in charge of organizational strategy at Monitor Group, a strategy consulting firm, and the Jesse Isidor Straus Professor of Business Administration, Emeritus at Harvard University's "The Separation of Ownership and Control" (1983, Journal of Law and Economics) firmly established agency theory In political science and economics, the principal–agent problem or agency dilemma treats the difficulties that arise under conditions of incomplete and asymmetric information when a principal hires an agent, such as the problem that the two may not have the same interests, while the principal is, presumably, hiring the agent to pursue the as a way of understanding corporate governance: the firm is seen as a series of contracts. Agency theory's dominance was highlighted in a 1989 article by Kathleen Eisenhardt ("Agency theory: an assessement and review", Academy of Management Review).

US expansion after World War II Albania · Australia · Austria · Azerbaijan · Belarus · Belgium · Brazil · Bulgaria · Burma · Cambodia · Canada · Ceylon (Sri Lanka) · Channel Islands · China · Czechoslovakia · Denmark · Dutch East Indies · Egypt · Estonia · Finland · France · Germany · Gibraltar · Greece · Greenland · Hong Kong · Hungary · Iceland · through the emergence of multinational corporations saw the establishment of the managerial class. Accordingly, the following Harvard Business School Harvard Business School is the graduate business school of Harvard University in Boston, Massachusetts. The school offers a full-time MBA program, doctoral programs, and many executive education programs. It owns Harvard Business School Publishing, which publishes business books, online management tools for corporate learning, case studies, and management Management in all business areas and organizational activities are the acts of getting people together to accomplish desired goals and objectives. Management comprises planning, organizing, staffing, leading or directing, and controlling an organization or effort for the purpose of accomplishing a goal. Resourcing encompasses the deployment and professors published influential monographs studying their prominence: Myles Mace Myles La Grange Mace was a long-time professor at the Harvard Business School. He was a pioneer in the study of entrepreneurship and corporate governance (entrepreneurship), Alfred D. Chandler, Jr. Alfred DuPont Chandler, Jr. was a professor of business history at Harvard Business School, who wrote extensively about the scale and the management structures of modern corporations. Chandler graduated from Harvard College in 1940. After wartime service in navy he returned to Harvard to get his Ph.D. in History. He taught at M.I.T. and Johns (business history), Jay Lorsch (organizational behavior) and Elizabeth MacIver (organizational behavior). According to Lorsch and MacIver "many large corporations have dominant control over business affairs without sufficient accountability or monitoring by their board of directors."

Since the late 1970’s, corporate governance has been the subject of significant debate in the U.S. and around the globe. Bold, broad efforts to reform corporate governance have been driven, in part, by the needs and desires of shareowners to exercise their rights of corporate ownership and to increase the value of their shares and, therefore, wealth. Over the past three decades, corporate directors’ duties have expanded greatly beyond their traditional legal responsibility of duty of loyalty to the corporation and its shareowners.[5]

In the first half of the 1990s, the issue of corporate governance in the U.S. received considerable press attention due to the wave of CEO dismissals (e.g.: IBM International Business Machines (NYSE: IBM) is a multinational computer, technology and IT consulting corporation headquartered in Armonk, North Castle, New York, United States. IBM is the world's fourth largest technology company and the second most valuable by global brand (after Coca-Cola). IBM is one of the few information technology companies, Kodak Eastman Kodak Company is a multinational US corporation which produces imaging and photographic materials and equipment. Long known for its wide range of photographic film products, Kodak is re-focusing on two major markets: digital photography and digital printing, Honeywell Honeywell (legally Honeywell International Inc.) is a major conglomerate company that produces a variety of consumer products, engineering services, and aerospace systems for a wide variety of customers, from private consumers to major corporations and governments) by their boards. The California Public Employees' Retirement System (CalPERS) The California Public Employees' Retirement System is an agency in the California executive branch that "manages pension and health benefits for more than 1.6 million California public employees, retirees, and their families". In fiscal year 2007-2008, $10.88 billion was paid in retirement benefits, and in calendar year 2009 it is led a wave of institutional shareholder activism (something only very rarely seen before), as a way of ensuring that corporate value would not be destroyed by the now traditionally cozy relationships between the CEO and the board of directors (e.g., by the unrestrained issuance of stock options, not infrequently back dated Options backdating is the practice of issuing options contracts on a later date than which the options have listed. While options backdating is not, in and of itself, an illegal practice , intentional backdating that coincides with low underlying stock prices and an accounting report that claims the contracts to have been issued on those low dates).

In 1997, the East Asian Financial Crisis The Asian Financial Crisis was a period of financial crisis that gripped much of Asia beginning in July 1997, and raised fears of a worldwide economic meltdown due to financial contagion saw the economies of Thailand Thailand (pronounced /ˈtaɪlænd/ TYE-land or /ˈtaɪlənd/; Thai: ราชอาณาจักรไทย Ratcha Anachak Thai, IPA: [râːtɕʰa ʔaːnaːtɕɑ̀k tʰɑj]) (formerly Siam Thai: สยาม) is an independent country that lies in the heart of Southeast Asia. It is bordered to the north by Burma and Laos, to the east by Laos, Indonesia Indonesia , officially the Republic of Indonesia (Indonesian: Republik Indonesia), is a country in Southeast Asia and Oceania. Indonesia comprises 17,508 islands. With a population of around 230 million people, it is the world's fourth most populous country, and has the world's largest population of Muslims. Indonesia is a republic, with an, South Korea South Korea, officially the Republic of Korea (Korean: 대한민국, pronounced [tɛːhanminɡuk̚] ( listen)), is a country in East Asia, located on the southern portion of the Korean Peninsula. It is neighbored by China to the west, Japan to the east, and North Korea to the north. Its capital is Seoul. South Korea lies in a temperate climate, Malaysia ^ b. The current terminology as per government policy is Bahasa Malaysia but legislation continues to refer to the official language as Bahasa Melayu (literally Malay language). English may continue to be used for some official purposes under the National Language Act 1967 and The Philippines The Philippines , officially known as the Republic of the Philippines (Filipino: Republika ng Pilipinas), is a country in Southeast Asia in the western Pacific Ocean. To its north across the Luzon Strait lies Taiwan. West across the South China Sea sits Vietnam. The Sulu Sea to the southwest lies between the country and the island of Borneo, and severely affected by the exit of foreign capital after property assets collapsed. The lack of corporate governance mechanisms in these countries highlighted the weaknesses of the institutions in their economies.

In the early 2000s, the massive bankruptcies (and criminal malfeasance) of Enron Enron Corporation was an American energy company based in the Enron Complex in Downtown Houston, Texas. Before its bankruptcy in late 2001, Enron employed approximately 22,000 staff and was one of the world's leading electricity, natural gas, communications and pulp and paper companies, with claimed revenues of nearly $101 billion in 2000. Fortune and Worldcom MCI, Inc. is an American telecommunications subsidiary of Verizon Communications that is headquartered in Ashburn, unincorporated Loudoun County, Virginia. The corporation was originally formed as a result of the merger of WorldCom and MCI Communications, and used the name MCI WorldCom followed by WorldCom before taking its final name on April 12,, as well as lesser corporate debacles, such as Adelphia Communications, AOL, Arthur Andersen, Global Crossing, Tyco, led to increased shareholder and governmental interest in corporate governance. This is reflected in the passage of the Sarbanes-Oxley Act of 2002.[3]

Impact of Corporate Governance

The positive effect of corporate governance on different stakeholders ultimately is a strengthened economy, and hence good corporate governance is a tool for socio-economic development.[6]

Role of Institutional Investors

Many years ago, worldwide, buyers and sellers of corporation stocks were individual investors, such as wealthy businessmen or families,who often had a vested, personal and emotional interest in the corporations whose shares they owned. Over time, markets have become largely institutionalized: buyers and sellers are largely institutions (e.g., pension funds, mutual funds, hedge funds, exchange-traded funds, other investor groups; insurance companies, banks, brokers, and other financial institutions).

The rise of the institutional investor has brought with it some increase of professional diligence which has tended to improve regulation of the stock market (but not necessarily in the interest of the small investor or even of the naïve institutions, of which there are many). Note that this process occurred simultaneously with the direct growth of individuals investing indirectly in the market (for example individuals have twice as much money in mutual funds as they do in bank accounts). However this growth occurred primarily by way of individuals turning over their funds to 'professionals' to manage, such as in mutual funds. In this way, the majority of investment now is described as "institutional investment" even though the vast majority of the funds are for the benefit of individual investors.

Program trading, the hallmark of institutional trading, averaged over 80% of NYSE trades in some months of 2007. [4] (Moreover, these statistics do not reveal the full extent of the practice, because of so-called 'iceberg' orders. See Quantity and display instructions under last reference.)

Unfortunately, there has been a concurrent lapse in the oversight of large corporations, which are now almost all owned by large institutions. The Board of Directors of large corporations used to be chosen by the principal shareholders, who usually had an emotional as well as monetary investment in the company (think Ford), and the Board diligently kept an eye on the company and its principal executives (they usually hired and fired the President, or Chief Executive Officer— CEO).1

A recent study by Credit Suisse found that companies in which "founding families retain a stake of more than 10% of the company's capital enjoyed a superior performance over their respective sectorial peers." Since 1996, this superior performance amounts to 8% per year.[5] Forget the celebrity CEO. "Look beyond Six Sigma and the latest technology fad. One of the biggest strategic advantages a company can have, [BusinessWeek has found], is blood lines." [6] In that last study, "BW identified five key ingredients that contribute to superior performance. Not all are qualities unique to enterprises with retained family interests. But they do go far to explain why it helps to have someone at the helm— or active behind the scenes— who has more than a mere paycheck and the prospect of a cozy retirement at stake." See also, "Revolt in the Boardroom," by Alan Murray.

Nowadays, if the owning institutions don't like what the President/CEO is doing and they feel that firing them will likely be costly (think "golden handshake") and/or time consuming, they will simply sell out their interest. The Board is now mostly chosen by the President/CEO, and may be made up primarily of their friends and associates, such as officers of the corporation or business colleagues. Since the (institutional) shareholders rarely object, the President/CEO generally takes the Chair of the Board position for his/herself (which makes it much more difficult for the institutional owners to "fire" him/her). Occasionally, but rarely, institutional investors support shareholder resolutions on such matters as executive pay and anti-takeover, aka, "poison pill" measures.

Finally, the largest pools of invested money (such as the mutual fund 'Vanguard 500', or the largest investment management firm for corporations, State Street Corp.) are designed simply to invest in a very large number of different companies with sufficient liquidity, based on the idea that this strategy will largely eliminate individual company financial or other risk and, therefore, these investors have even less interest in a particular company's governance.

Since the marked rise in the use of Internet transactions from the 1990s, both individual and professional stock investors around the world have emerged as a potential new kind of major (short term) force in the direct or indirect ownership of corporations and in the markets: the casual participant. Even as the purchase of individual shares in any one corporation by individual investors diminishes, the sale of derivatives (e.g., exchange-traded funds (ETFs), Stock market index options [7], etc.) has soared. So, the interests of most investors are now increasingly rarely tied to the fortunes of individual corporations.

But, the ownership of stocks in markets around the world varies; for example, the majority of the shares in the Japanese market are held by financial companies and industrial corporations (there is a large and deliberate amount of cross-holding among Japanese keiretsu corporations and within S. Korean chaebol 'groups') [8], whereas stock in the USA or the UK and Europe are much more broadly owned, often still by large individual investors.

Parties to corporate governance

Parties involved in corporate governance include the regulatory body (e.g. the Chief Executive Officer, the board of directors, management, shareholders and Auditors). Other stakeholders who take part include suppliers, employees, creditors, customers and the community at large.

In corporations, the shareholder delegates decision rights to the manager to act in the principal's best interests. This separation of ownership from control implies a loss of effective control by shareholders over managerial decisions. Partly as a result of this separation between the two parties, a system of corporate governance controls is implemented to assist in aligning the incentives of managers with those of shareholders. With the significant increase in equity holdings of investors, there has been an opportunity for a reversal of the separation of ownership and control problems because ownership is not so diffuse.

A board of directors often plays a key role in corporate governance. It is their responsibility to endorse the organisation's strategy, develop directional policy, appoint, supervise and remunerate senior executives and to ensure accountability of the organisation to its owners and authorities.

The Company Secretary, known as a Corporate Secretary in the US and often referred to as a Chartered Secretary if qualified by the Institute of Chartered Secretaries and Administrators (ICSA), is a high ranking professional who is trained to uphold the highest standards of corporate governance, effective operations, compliance and administration.

All parties to corporate governance have an interest, whether direct or indirect, in the effective performance of the organization. Directors, workers and management receive salaries, benefits and reputation, while shareholders receive capital return. Customers receive goods and services; suppliers receive compensation for their goods or services. In return these individuals provide value in the form of natural, human, social and other forms of capital.

A key factor is an individual's decision to participate in an organisation e.g. through providing financial capital and trust that they will receive a fair share of the organisational returns. If some parties are receiving more than their fair return then participants may choose to not continue participating leading to organizational collapse.

Principles

Key elements of good corporate governance principles include honesty, trust and integrity, openness, performance orientation, responsibility and accountability, mutual respect, and commitment to the organization.

Of importance is how directors and management develop a model of governance that aligns the values of the corporate participants and then evaluate this model periodically for its effectiveness. In particular, senior executives should conduct themselves honestly and ethically, especially concerning actual or apparent conflicts of interest, and disclosure in financial reports.

Commonly accepted principles of corporate governance include:

Issues involving corporate governance principles include:

Nevertheless "corporate governance," despite some feeble attempts from various quarters, remains an ambiguous and often misunderstood phrase. For quite some time it was confined only to corporate management. That is not so. It is something much broader, for it must include a fair, efficient and transparent administration and strive to meet certain well defined, written objectives. Corporate governance must go well beyond law. The quantity, quality and frequency of financial and managerial disclosure, the degree and extent to which the board of Director (BOD) exercise their trustee responsibilities (largely an ethical commitment), and the commitment to run a transparent organization- these should be constantly evolving due to interplay of many factors and the roles played by the more progressive/responsible elements within the corporate sector. John G. Smale, a former member of the General Motors board of directors, wrote: "The Board is responsible for the successful perpetuation of the corporation. That responsibility cannot be relegated to management."[7] However it should be noted that a corporation should cease to exist if that is in the best interests of its stakeholders. Perpetuation for its own sake may be counterproductive.

Mechanisms and controls

Corporate governance mechanisms and controls are designed to reduce the inefficiencies that arise from moral hazard and adverse selection. For example, to monitor managers' behaviour, an independent third party (the external auditor) attests the accuracy of information provided by management to investors. An ideal control system should regulate both motivation and ability.

Internal corporate governance controls

Internal corporate governance controls monitor activities and then take corrective action to accomplish organisational goals. Examples include:

External corporate governance controls

External corporate governance controls encompass the controls external stakeholders exercise over the organisation. Examples include:

Systemic problems of corporate governance

Role of the accountant

Financial reporting is a crucial element necessary for the corporate governance system to function effectively.[9] Accountants and auditors are the primary providers of information to capital market participants. The directors of the company should be entitled to expect that management prepare the financial information in compliance with statutory and ethical obligations, and rely on auditors' competence.

Current accounting practice allows a degree of choice of method in determining the method of measurement, criteria for recognition, and even the definition of the accounting entity. The exercise of this choice to improve apparent performance (popularly known as creative accounting) imposes extra information costs on users. In the extreme, it can involve non-disclosure of information.

One area of concern is whether the auditing firm acts as both the independent auditor and management consultant to the firm they are auditing. This may result in a conflict of interest which places the integrity of financial reports in doubt due to client pressure to appease management. The power of the corporate client to initiate and terminate management consulting services and, more fundamentally, to select and dismiss accounting firms contradicts the concept of an independent auditor. Changes enacted in the United States in the form of the Sarbanes-Oxley Act (in response to the Enron situation as noted below) prohibit accounting firms from providing both auditing and management consulting services. Similar provisions are in place under clause 49 of SEBI Act in India.

The Enron collapse is an example of misleading financial reporting. Enron concealed huge losses by creating illusions that a third party was contractually obliged to pay the amount of any losses. However, the third party was an entity in which Enron had a substantial economic stake. In discussions of accounting practices with Arthur Andersen, the partner in charge of auditing, views inevitably led to the client prevailing.

However, good financial reporting is not a sufficient condition for the effectiveness of corporate governance if users don't process it, or if the informed user is unable to exercise a monitoring role due to high costs (see Systemic problems of corporate governance above).[citation needed]

Regulation

Companies law
Company · Business Sole proprietorship Partnership (General · Limited · LLP) Corporation Cooperative
United States
S corporation · C corporation LLC · LLLP · Series LLC Delaware corporation Nevada corporation Massachusetts business trust
UK / Ireland / Commonwealth
Limited company (by shares · by guarantee Public · Proprietary) Unlimited company Community interest company
European Union / EEA
SE · SCE · SPE · EEIG
Elsewhere
AB · AG · ANS · A/S · AS · GmbH K.K. · N.V. · OY · S.A. · more
Doctrines
Corporate governance Limited liability · Ultra vires Business judgment rule Internal affairs doctrine De facto corporation and corporation by estoppel Piercing the corporate veil Rochdale Principles
Related areas
Contract · Civil procedure

Rules versus principles

Rules are typically thought to be simpler to follow than principles, demarcating a clear line between acceptable and unacceptable behaviour. Rules also reduce discretion on the part of individual managers or auditors.

In practice rules can be more complex than principles. They may be ill-equipped to deal with new types of transactions not covered by the code. Moreover, even if clear rules are followed, one can still find a way to circumvent their underlying purpose - this is harder to achieve if one is bound by a broader principle.

Principles on the other hand is a form of self regulation. It allows the sector to determine what standards are acceptable or unacceptable. It also pre-empts over zealous legislations that might not be practical.

Enforcement

Enforcement can affect the overall credibility of a regulatory system. They both deter bad actors and level the competitive playing field. Nevertheless, greater enforcement is not always better, for taken too far it can dampen valuable risk-taking. In practice, however, this is largely a theoretical, as opposed to a real, risk. There are various integrated governance, risk and compliance solutions available to capture information in order to evaluate risk and to identify gaps in the organization’s principles and processes. This type of software is based on project management style methodologies such as the ABACUS methodology which attempts to unify the management of these areas, rather than treat them as separate entities.

Action Beyond Obligation

Enlightened boards regard their mission as helping management lead the company. They are more likely to be supportive of the senior management team. Because enlightened directors strongly believe that it is their duty to involve themselves in an intellectual analysis of how the company should move forward into the future, most of the time, the enlightened board is aligned on the critically important issues facing the company.

Unlike traditional boards, enlightened boards do not feel hampered by the rules and regulations of the Sarbanes-Oxley Act. Unlike standard boards that aim to comply with regulations, enlightened boards regard compliance with regulations as merely a baseline for board performance. Enlightened directors go far beyond merely meeting the requirements on a checklist. They do not need Sarbanes-Oxley to mandate that they protect values and ethics or monitor CEO performance.

At the same time, enlightened directors recognize that it is not their role to be involved in the day-to-day operations of the corporation. They lead by example. Overall, what most distinguishes enlightened directors from traditional and standard directors is the passionate obligation they feel to engage in the day-to-day challenges and strategizing of the company. Enlightened boards can be found in very large, complex companies, as well as smaller companies.[10]

Proposals

The book Money for Nothing suggests importing from England the concept of term limits to prevent independent directors from becoming too close to management and demanding that directors invest a meaningful amount of their own money (not grants of stock or options that they receive free) to ensure that the directors' interests align with those of average investors.[11] Another proposal is for the government to allow poorly-managed businesses to go bankrupt, since after a filing, directors have to cover more of their own legal bills and are frequently sued by bankruptcy trustees as well as investors.[12]

Corporate governance models around the world

Although the US model of corporate governance is the most notorious, there is a considerable variation in corporate governance models around the world. The intricated shareholding structures of keiretsus in Japan, the heavy presence of banks in the equity of German firms [9], the chaebols in South Korea and many others are examples of arrangements which try to respond to the same corporate governance challenges as in the US.

In the United States, the main problem is the conflict of interest between widely-dispersed shareholders and powerful managers. In Europe, the main problem is that the voting ownership is tightly-held by families through pyramidal ownership and dual shares (voting and nonvoting). This can lead to "self-dealing", where the controlling families favor subsidiaries for which they have higher cash flow rights.[13]

Anglo-American Model

There are many different models of corporate governance around the world. These differ according to the variety of capitalism in which they are embedded. The liberal model that is common in Anglo-American countries tends to give priority to the interests of shareholders. The coordinated model that one finds in Continental Europe and Japan also recognizes the interests of workers, managers, suppliers, customers, and the community. Each model has its own distinct competitive advantage. The liberal model of corporate governance encourages radical innovation and cost competition, whereas the coordinated model of corporate governance facilitates incremental innovation and quality competition. However, there are important differences between the U.S. recent approach to governance issues and what has happened in the UK. In the United States, a corporation is governed by a board of directors, which has the power to choose an executive officer, usually known as the chief executive officer. The CEO has broad power to manage the corporation on a daily basis, but needs to get board approval for certain major actions, such as hiring his/her immediate subordinates, raising money, acquiring another company, major capital expansions, or other expensive projects. Other duties of the board may include policy setting, decision making, monitoring management's performance, or corporate control.

The board of directors is nominally selected by and responsible to the shareholders, but the bylaws of many companies make it difficult for all but the largest shareholders to have any influence over the makeup of the board; normally, individual shareholders are not offered a choice of board nominees among which to choose, but are merely asked to rubberstamp the nominees of the sitting board. Perverse incentives have pervaded many corporate boards in the developed world, with board members beholden to the chief executive whose actions they are intended to oversee. Frequently, members of the boards of directors are CEOs of other corporations, which some[14] see as a conflict of interest.

Codes and guidelines

Corporate governance principles and codes have been developed in different countries and issued from stock exchanges, corporations, institutional investors, or associations (institutes) of directors and managers with the support of governments and international organizations. As a rule, compliance with these governance recommendations is not mandated by law, although the codes linked to stock exchange listing requirements may have a coercive effect.

For example, companies quoted on the London and Toronto Stock Exchanges formally need not follow the recommendations of their respective national codes. However, they must disclose whether they follow the recommendations in those documents and, where not, they should provide explanations concerning divergent practices. Such disclosure requirements exert a significant pressure on listed companies for compliance.

In the United States, companies are primarily regulated by the state in which they incorporate though they are also regulated by the federal government and, if they are public, by their stock exchange. The highest number of companies are incorporated in Delaware, including more than half of the Fortune 500. This is due to Delaware's generally business-friendly corporate legal environment and the existence of a state court dedicated solely to business issues (Delaware Court of Chancery).

Most states' corporate law generally follow the American Bar Association's Model Business Corporation Act. While Delaware does not follow the Act, it still considers its provisions and several prominent Delaware justices, including former Delaware Supreme Court Chief Justice E. Norman Veasey, participate on ABA committees.

One issue that has been raised since the Disney decision[15] in 2005 is the degree to which companies manage their governance responsibilities; in other words, do they merely try to supersede the legal threshold, or should they create governance guidelines that ascend to the level of best practice. For example, the guidelines issued by associations of directors (see Section 3 above), corporate managers and individual companies tend to be wholly voluntary. For example, The GM Board Guidelines reflect the company’s efforts to improve its own governance capacity. Such documents, however, may have a wider multiplying effect prompting other companies to adopt similar documents and standards of best practice.

One of the most influential guidelines has been the 1999 OECD Principles of Corporate Governance. This was revised in 2004. The OECD remains a proponent of corporate governance principles throughout the world.

Building on the work of the OECD, other international organisations, private sector associations and more than 20 national corporate governance codes, the United Nations Intergovernmental Working Group of Experts on International Standards of Accounting and Reporting (ISAR) has produced voluntary Guidance on Good Practices in Corporate Governance Disclosure. This internationally agreed[16] benchmark consists of more than fifty distinct disclosure items across five broad categories:[17]

The World Business Council for Sustainable Development WBCSD has done work on corporate governance, particularly on accountability and reporting, and in 2004 created an Issue Management Tool: Strategic challenges for business in the use of corporate responsibility codes, standards, and frameworks.This document aims to provide general information, a "snap-shot" of the landscape and a perspective from a think-tank/professional association on a few key codes, standards and frameworks relevant to the sustainability agenda.

Ownership structures

Ownership structures refers to the various patterns in which shareholders seem to set up with respect to a certain group of firms. It is a tool frequently employed by policy-makers and researchers in their analyses of corporate governance within a country or business group.And ownership can be changed by the stakeholders of the company.

Generally, ownership structures are identified by using some observable measures of ownership concentration (i.e. concentration ratios) and then making a sketch showing its visual representation. The idea behind the concept of ownership structures is to be able to understand the way in which shareholders interact with firms and, whenever possible, to locate the ultimate owner of a particular group of firms. Some examples of ownership structures include pyramids, cross-share holdings, rings, and webs.

Corporate governance and firm performance

In its 'Global Investor Opinion Survey' of over 200 institutional investors first undertaken in 2000 and updated in 2002, McKinsey found that 80% of the respondents would pay a premium for well-governed companies. They defined a well-governed company as one that had mostly out-side directors, who had no management ties, undertook formal evaluation of its directors, and was responsive to investors' requests for information on governance issues. The size of the premium varied by market, from 11% for Canadian companies to around 40% for companies where the regulatory backdrop was least certain (those in Morocco, Egypt and Russia).

Other studies have linked broad perceptions of the quality of companies to superior share price performance. In a study of five year cumulative returns of Fortune Magazine's survey of 'most admired firms', Antunovich et al. found that those "most admired" had an average return of 125%, whilst the 'least admired' firms returned 80%. In a separate study Business Week enlisted institutional investors and 'experts' to assist in differentiating between boards with good and bad governance and found that companies with the highest rankings had the highest financial returns.

On the other hand, research into the relationship between specific corporate governance controls and some definitions of firm performance has been mixed and often weak. The following examples are illustrative.

Board composition

Some researchers have found support for the relationship between frequency of meetings and profitability. Others have found a negative relationship between the proportion of external directors and profitability, while others found no relationship between external board membership and profitability. In a recent paper Bhagat and Black found that companies with more independent boards are not more profitable than other companies. It is unlikely that board composition has a direct impact on profitability, one measure of firm performance.

Remuneration/Compensation

The results of previous research on the relationship between firm performance and executive compensation have failed to find consistent and significant relationships between executives' remuneration and firm performance. Low average levels of pay-performance alignment do not necessarily imply that this form of governance control is inefficient. Not all firms experience the same levels of agency conflict, and external and internal monitoring devices may be more effective for some than for others.

Some researchers have found that the largest CEO performance incentives came from ownership of the firm's shares, while other researchers found that the relationship between share ownership and firm performance was dependent on the level of ownership. The results suggest that increases in ownership above 20% cause management to become more entrenched, and less interested in the welfare of their shareholders.

Some argue that firm performance is positively associated with share option plans and that these plans direct managers' energies and extend their decision horizons toward the long-term, rather than the short-term, performance of the company. However, that point of view came under substantial criticism circa in the wake of various security scandals including mutual fund timing episodes and, in particular, the backdating of option grants as documented by University of Iowa academic Erik Lie and reported by James Blander and Charles Forelle of the Wall Street Journal.

Even before the negative influence on public opinion caused by the 2006 backdating scandal, use of options faced various criticisms. A particularly forceful and long running argument concerned the interaction of executive options with corporate stock repurchase programs. Numerous authorities (including U.S. Federal Reserve Board economist Weisbenner) determined options may be employed in concert with stock buybacks in a manner contrary to shareholder interests. These authors argued that, in part, corporate stock buybacks for U.S. Standard & Poors 500 companies surged to a $500 billion annual rate in late 2006 because of the impact of options. A compendium of academic works on the option/buyback issue is included in the study Scandal by author M. Gumport issued in 2006.

A combination of accounting changes and governance issues led options to become a less popular means of remuneration as 2006 progressed, and various alternative implementations of buybacks surfaced to challenge the dominance of "open market" cash buybacks as the preferred means of implementing a share repurchase plan.

See also

References

  1. ^ For a good overview of the different theoretical perspectives on corporate governance see Chapter 15 of Dignam, A and Lowry, J (2006) Company Law, Oxford University Press ISBN 978-0-19-928936-3
  2. ^ Corporate Governance International Journal, "A Board Culture of Corporate Governance, Vol 6 Issue 3 (2003)
  3. ^ Foucault, M., Ethics, Subjectivity and Truth: Essential Works of Foucault 1954 – 1984 Volume One P. Rabinow, ed., Penguin, London, 2000.
  4. ^ a b c d e Bebchuck LA. (2004). The Case for Increasing Shareholder Power. Harvard Law Review.
  5. ^ Crawford, Curtis J. (2007). The Reform of Corporate Governance: Major Trends in the U.S. Corporate Boardroom, 1977-1997. doctoral dissertation, Capella University. [1]
  6. ^ SSRN-Good Corporate Governance: An Instrument for Wealth Maximisation by Vrajlal Sapovadia
  7. ^ Harvard Business Review, HBR (2000). Harvard Business Review "On Corporate Governance". Harvard Business School Press. ISBN 1-57851-237-9.
  8. ^ Bhagat & Black, "The Uncertain Relationship Between Board Composition and Firm Performance", 54 Business Lawyer)
  9. ^ Generally Accepted Accounting Principles (GAAP)
  10. ^ National Association of Corporate Directors (NACD) – Directors Monthly, “Enlightened Boards: Action Beyond Obligation”, Vol. 31Number 12 (2007), Pg 13. [2]
  11. ^ Gillespie, John (January 12, 2010). Money for Nothing: How the Failure of Corporate Boards Is Ruining American Business and Costing Us Trillions. Free Press. ISBN 978-1416559931.
  12. ^ James Freeman (January 12, 2010), Hitting the Boards, Wall Street Journal, http://online.wsj.com/article/SB10001424052748704130904574644153816967962.html
  13. ^ Enriques L, Volpin P. (2007). "Corporate governance reforms in Continental Europe". Journal of Economic Perspectives 21 (1): 117–140. doi:10.1257/jep.21.1.117. http://www.tkyd.org/files/downloads/Corporate_Governance_Reforms_in_Continental_Europe.pdf. Retrieved 2009-08-13.
  14. ^ Theyrule.net
  15. ^ The Disney Decision of 2005 and the precedent it sets for corporate governance and fiduciary responsibility, Kuckreja, Akin Gump, Aug 2005
  16. ^ TD/B/COM.2/ISAR/31
  17. ^ . UNCTAD. . Retrieved 2008-11-09.

Further reading

External links

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what should be included in a corporate governance report?
Q. pls help me very important as i will be handing in my work very soon this week. thanks
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A. Look up the appropriate Standards .. these can be found on-line (or in your course notes / books) .. PS if you are finding this a bit hard, ask your tutor if you can transfer to a more suitable subject .. Media Studies, perhaps ..
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