Corporate Governance

Corporate Governance An Introduction by

SAIF ULLAH [MS FINANCE] 0321 6633271, [email protected]

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Definition According to OECD: Corporate Governance is the system by which business corporations are directed and controlled. The corporate governance structure specifies the distribution of rights and responsibilities among different participants in the corporation, such as, the board, managers, shareholders and other stakeholders, and spells out the rules and procedures for making decisions on corporate affairs. By doing this, it also provides the structure through which the company objectives are set, and the means of attaining these objectives and monitoring performance. 2

Another Definition According to LaPorta et al., (2000), Corporate governance is a set of mechanisms through which outside investors protect themselves against expropriation by the insiders. They define “the insiders” as both managers and controlling shareholders.

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Yet Another Definition Corporate governance refers to the manner in which the affairs of a corporate body should be conducted in order to serve and protect the individual and collective interests of all stakeholders. (Safdar A Butt)

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Governance and Management  How do these terms differ?

 Does Governance include Management?

Or  Does Management include Governance?

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Governance  Strategic

 Setting Objectives  Devising plans to achieve these objectives  Setting rules or parameters  Not directly concerned with routine affairs  Protection of Interests of all stakeholders

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Management  Current Affairs

 Implementing the Plans  Developing Suggestions and Alternatives  Operational Matters

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What is a Corporate Body?  Any Company is a corporate body. However,

in a broader sense only public limited companies are taken to be the subject matter of CG.  So far the thrust of CG is only on listed companies.  Greatest emphasis is on those that are controlled by closed groups.  In USA and Europe, companies are frequently run by minority shareholders. Hence, they require even greater degree of CG. 8

Stakeholders in a Company  Management and Employees

 Lenders  Suppliers and Clients  Shareholders  Society at large (this includes government)

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Classification of Stakeholders Classified on basis of Role in the Company

Classified on basis of opportunity to protect individual interests Those with Full Opportunity

Those with a Partial Opportunity

Those with Virtually No opportunity

Owners

Controlling Shareholders

Institutional Investors with Board representation

Minority and individual shareholders with no board Representation

Lenders

Financial institutions with elaborate lending Contracts

Buyers of listed bonds with trustee arrangements

Other lenders

Employees

Executive Directors

Senior Managers

Other employees on regular or contract terms

Business Associates

Suppliers who sell only on cash terms

Major Suppliers and clients with contracts

Smaller suppliers and smaller clients

Government

Public at large

Society 10

Opportunity to protect individual interests  Managers and Employees have the greatest

opportunity to protect their interest(s)  Suppliers and Clients essentially go by each transaction or contract.  Lenders and Shareholders are most vulnerable.  Society depends entirely on law

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Shareholders  Controlling Groups (Internal Equity)

 Outsider Shareholders (External Equity)

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Controlling Groups If in Majority:  Can protect their interest easily  Needs monitoring If in Minority:  Can protect their interest easily  Needs highest degree of monitoring

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Outsider Shareholders Institutional Investors  Have some means of protecting their interest but still require protection Individual or General Public  They require the greatest degree of protection, as they have virtually no means of protecting their interest.

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Lenders Institutional Investors  Have some means of protecting their interest through legal documentation, are relatively at lower risk but still require protection Individual or General Public  They require the greatest degree of protection, as they have virtually no means of protecting their interest.

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Society at Large  Government (Taxes, Law and Order)

 Clients (Value for money)  Community (Social Rights)

How do we ensure that these stakeholders get their dues?

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Corporate Hierarchy Shareholders 2. Management Board of Directors CEO Senior Managers 3. Employees 1.

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Key Players  Shareholders (Voting

  

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power) Board of Directors (Represents interests) CEO (Delegated executive powers) Senior Managers (Delegated executive powers)

Scope of Corporate Governance

Interests

Individual

Stakeholders

Objectives / interests

Shareholders

Sustainable growth in net worth

Lenders

Security / timely interest payments

Employees

Continued employment at good terms

Business Associates

Continued business at good terms

Society

Good citizenship by the company

Tools / Techniques

General Management Legal frame work Professional Codes Industrial practices

Continued profitable existence Collective Interest of all stakeholders

Strategic Management Risk Management

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Different Board Types: The Good, Bad, and Ugly ‘Yes-men’ Board ‘Rubber Stamp’ Board

‘Good Old Boys’ Board

‘The Real Thing’

‘Country Club’ Board ‘Trophy’ Board

‘Paper’ Board

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Responsibilities of the Board  Oversight (Watchful and Responsible)

 Directional  Advisory

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The Oversight Function  Approving and monitoring Company’s Strategic    

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Plans. Approving annual budgets and plans. Engaging outside auditors. Ensuring integrity of financial statements Review of major operational activities.

The Directional Functions  Setting Mission Statement, Vision Statement and  

 

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Value Statement. Appointment of CEO / Senior Managers Planning for succession of these managers as well as outside directors Appointing various committees Prescribing code of conduct for the management.

The Advisory Function  General guidance to management.

 What is happening in the rest of the world.  Specialized input in certain areas

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Responsibilities of CEO & Senior Management  Operating the company in an effective and

ethical manner.  Drawing the strategic plans  Drawing annual plans and budgets  Selection of managerial and other staff  Identifying business risks  Financial reporting  Internal Controls  Code of Conduct for all staff

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Tools Available to the Board  Composition of the Board

 Independence  Committees  Incentives  External Help  Government Intervention

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Composition of the Board  The Board should not represent interests alone.

 Experienced and qualified practitioners  Pool of talent – covering all areas

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Independence  Independent from those who appointed them (?)

Management Stakeholders  No special interests (linked directorships)

 Meeting in absence of CEO or Chairman

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The Concept of Independent Directors  Relatively a new concept in Pakistan

 Only public sector companies have tried it  Private sector companies rarely appoint

independent directors  No pool of professional directors available  Regulators trying to popularize the concept

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The Role of Independent Directors  Providing Independent Professional View point

 Protecting the interest of all stakeholders  Serving on Independent Committees

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Committees  Audit Committee (only independent directors)

 CG Committee (only independent directors)  Other Committees

Ad hoc Committees (e.g. investigation) Permanent Committees (e.g. HR)

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Functions of C G Committee  Compliance with CG Regulations

 Nominating Independent directors  Monitor and Safeguard the independence of

directors  Review of all information to the Board from Management  Drawing up CG Policy and processes

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Incentives to the Board  Financial (Carrots)

 Others (Carrots)  Legal Obligations (Sticks)

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Code of Corporate Governance  Constitution of Board – element of

independence  Conduct of Meetings – how, when and what  Management and Corporate Reporting – contents and frequency  Committees – so far only Audit Committee is mandatory  External Auditor  All common sense, should be done even if not required by law 34

Objectives of CCG  Protect the interest of all stakeholders

 Infuse some independence in the Boards  Bring Transparency in conduct of meetings  Improve reliability of financial reporting

 Introduce Professionalism in BoDs  Reduce undue influence of controlling groups  Develop a corporate culture

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Thank you from Saif Ullah

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