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Session 4 Corporate Governance and Business Ethics

Sunil Budhiraja

OBJECTIVE OF CORPORATE GOVERNANCE

a) TO BUILD UP AN ENVIRONMENT OF TRUST AND CONFIDENCE AMONGST THOSE HAVING COMPETING AND CONFLICTING INTEREST b) TO ENHANCE SHAREHOLDERS VALUE AND PROTECT THE INTEREST OF OTHER STAKEHOLDERS BY ENHANCING THE CORPORATE PERFORMANCE AND ACCOUNTABILITY

What we have covered so far?

History, Concept, Mechanisms, Shareholder, Stakeholders Roles, responsibilities and the interests of shakeholders; problems and their protections Bankruptcy system in India Decision System, corporate governance for corporate capital, property rights, legal enforcement, Government Diversity in US, Japan and South Korea

Topics to be covered today

Development of Codes and Guidelines Various Committees and their Reports Theories of Corporate Governance

Models of CG

Development of Codes and Guidelines

Objectives
To improve corporate Governance practices across the globe To mitigate CG risk and failure

How do we develop these codes and guidelines

By recommendations of various committees that were formed to intensify the practices of Corporate Governance

The Cadbury Report 1992

Focus on three areas
Board of Directors Auditing Shareholders

Recommendations
BODs are most important, so requires continuous monitoring and assessment. Focus on corporate transparency and communication with shareholders. Role of Institutional Investors should be more active as they are most influential group of shareholders

Contt
Chairman and CEO The roles to be separated Chairman Head of the Board and CEO- Head of the Company Management Non-Executive directors - The board should have majority non-executive directors Top Management Compensation Separating salary and performance bonus

Contt
BOD should report on the effectiveness of companys systems of internal control The Directors service contracts should not exceed 3 years without approval by the shareholders Each listed company should establish an audit committee of at least 3 non executive directors

The Greenbury Report 1995

The committee was formed on 17th July 1995 after widespread concern that excessive amount of remuneration is paid to the Directors of the some companies. Also focused on the Directors whose performance had been down but they still draw hefty pay packages from the company

Recommendations
Directors pay should be directly linked to the Companys performance.
Performance Linked Pay

Remuneration committee should consist of nonexecutive members who do not have any personal financial interest in the company

The Hampel Report 1998

Set up in Nov1998
To review Cadbury and Greenbury Reports To promote high standards both to protect the investors & preserve & enhance the standing of companys listed on the stock exchange.

Recommendations
Similar on the lines of Cadbury Report but less demanding Pension Funds were given more focus as they make important contribution as institutional investors. Pension funds are advised to make a long term approach of institutional investment

The Turnbull Report

Set up by the ICAEW (Institute of Chartered Accountants in England & Wales) in 1999 to provide guidance to assist the companies in implementing requirements of the Combined code relating to internal control. Recommended internal audit annually BOD confirm the existence of procedures for evaluating & managing key risks.

The Higgs Report 2003

In the Enron case it was found that non-executive directors were ineffective in performing their roles in corporate governance, so their was a necessity to substantial improvement of their role.

Focus on role and effectiveness of Non-Executive Directors.

CG Committees formulated in India

CII Committee Birla Committee Narayana murthy Committee JJ Irani Committee Clause 49 of Listing agreement of SEBI(Jan 2006)

Theories of Corporate Governance

Agency Theory
Shareholders are the Principals

Directors and Managers need to be monitored as their motives differ from that of shareholders

Stewardship Theory
Assumptions
Steward is a person who manages others property and financial affairs and is entrusted with the responsibility of proper utilization and development of organizations resources

Stakeholder Theory
The purpose of the firm is to create wealth or value for its stakeholders by covering their stakes into goods and services. The conception of the company is a set of relationship rather than a serious of transactions, in which managers adopt an inclusive concern for all stakeholders

Property Right Theory

Property rights are a set of rules and guidelines that help people (investors) from reasonable expectations about control over assets These can be law, administrative arrangement, social norms etc How will it help
To understand the type of firm Specific CG mechanisms available to the firm

Models of CG

Anglo American Share holders Elects Board of Directors

German Shareholders and employees /unions Elects Supervisory Board

Japanese Shareholders and banks Elects Supervisory Board appoints President And President Appoints Executive Board Manage

Appoints Officers/Executive Manage Company

Appoints Management Board Manage Company

Company

Indian Model = Anglo American Model +German Model

Anglo American Model

Wide spread shareholding Separation of ownership and management Professional managers Single board structure Focus on mainly on Shareholders

Contt
In the case of German model employees have a role

Where as in Japanese Banks/financial institutions have a role in the board as stake holders