Governance and

Responsibility: Approaches
to Corporate Governance

Rule vs. Principle based

approaches
Rule-based: instills the code into law with
appropriate penalty for transgression. US model
(SOX)
Principle-based: require the company to adhere to
the spirit rather than the letter of the code.
Comply or explain: principle-based approach require
the company to state that it has complied with the
requirement of the codes or to explain why it could
not do so in its annual report. This will leave
shareholders to draw their own conclusion with
regards to corporate governance. UK model.

Factors affecting choices of

governance regime
Dominant ownership structure
Legal system and its power/ability
Government structure and policies
State of the economy
Culture and history
Levels of capital inflow or investment coming into
the country
Global economic and political climate

Arguments in-favour of rulesbased approach

Clarity in terms of what the company must do; the
rules are legal requirements hence no interpretation
needed
Standardisation for all companies; there is no choice
as to complying or explaining. Level playing field is
created
Binding requirements; the criminal nature makes it
very clear that the rules must be complied with
Greater confidence in regulatory compliance

Arguments against rules-based

approach
Exploitation of loopholes; the exacting nature of the law
lends itself to the seeking of loopholes
Flexibility is lost; there is no choice in compliance to reflect
the nature of the organization, its size or stage of
development
Box-ticking approach; just for the sake of complying with all
aspects of the rules. Does not lead to well-governed
organization.
Regulation overload; the volume of rules and amount of
legislation may give rise to increasing costs for businesses
and for regulators
Legal costs: to enact new legislations to close loopholes
There is no room to improve or go beyond the minimum level

Sarbanes Oxley Act 2002 (SOX)

SOX:
Rule-based approach to governance
Extremely detailed and carries the full force of the law
Security Exchange Commission (SEC) to issue certain
rules of corporate governance
Relevant to US companies, directors of subsidiaries of US
listed businesses and auditors who are working on US
listed businesses

Sarbanes Oxley Act 2002 (SOX)

SOX key points:
Auditor independence: auditors are restricted in the additional
services they can provide to an audit client
Audit committee: company must have audit committee, will be
disallowed from trading if it does not have one
Internal control report: Annual reports must include statements
concerning internal control system
Accuracy of financial statements: must be vouched for by CEO and
CFO
Increased financial disclosures: financial reports to detail off balance
sheet financing
Restrictions on dealing: directors are prohibited from dealing in
shares at sensitive times
Audit partner: senior partner must be changed every five years

Sarbanes Oxley Act 2002 (SOX)

SOX positive effects
Personal liability of directors for mismanagement and
criminal punishment
Improved communication of material issues to
shareholders
Improved investors and public confidence in US
companies
Improved internal control and external audit of companies
Greater arms length relationship between companies and
audit firms
Improved governance through audit committee

Sarbanes Oxley Act 2002 (SOX)

SOX negative effects
Doubling of audit fee costs to organisations
Onerous documentation and internal control costs
Reduced flexibility and responsiveness of companies
Reduced risk taking and competitiveness of organisations
Limited impact on the ability to stop corporate abuse

International convergence
2 organisations have published corporate
governance codes intended to apply to multiple
jurisdictions
The Organisation for Economic Cooperation and
Development (OECD)
The International Corporate Governance Network (ICGN)

OECD: Estabished in 1961. International

organization composed of industrialised market
economy countries and some developing countries.
Provide a forum to establish and co-ordinate policies

International convergence
Contents of OECD principles:
ensuring the basis for an effective corporate governance
framework
the rights of shareholders and key ownership functions
the equitable treatment of shareholders
the role of stakeholders in corporate governance
disclosure and transparency
the responsibilities of the board.

International convergence
ICGN: Established in 1995. The instigation of major institutional
shareholders, represents investors, companies, financial
intermediaries, academics and other parties interested in the
development of global corporate governance practices
Contents of ICGN:
Corporate objective: shareholder returns
Disclosure and transparency
Shareholders ownership, responsibilities, voting rights and remedy
Corporate boards
Corporate remuneration policies
Corporate citizenship, stakeholders relations and the ethical conduct of
business