2nd INTERNAL ASSESSMENT: CORPORATE GOVERNANCE AND FINANCE

1st INTERNAL ASSIGNMENT

CORPORATE GOVERNANCE & FINANCE

INTERNATIONAL PERSPECTIVE OF CORPORATE GOVERNANCE

NAME: ASHAM SHARMA

PRN: 17010126491

Division: E,

3rd Year

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INTERNATIONAL PERSPECTIVE OF CORPORATE GOVERNANCE
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TABLE OF CONTENTS

INTRODUCTION......................................................................................................................2

RESEARCH QUESTION..........................................................................................................2

ANALYSIS................................................................................................................................3

PART II......................................................................................................................................7

CONCLUSION..........................................................................................................................9

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INTRODUCTION

Corporate governance is a central and dynamic aspect of business. The term “governance” is
derived from the latin word gubernare, which means to steer. It generally applies to the
steering of a ship. Thus, this implies that corporate governance involves the function of
direction rather than control. Corporate governance has come to the forefront of academic
research due to the vital role it plays in the overall health of economic systems. Corporate
governance was long ignored as a matter of potential importance for the development of a
nation’s economy. Corporate governance is the system by which companies are directed &
controlled (Cadbury report 1992). Corporate Governance is the system of control
mechanisms, through which “the supplier of finance to corporations assures themselves of
getting a return on their investment,” (Shleifer and Vishny (1997)). In simple terms Corporate
Governance is the governance of corporate in the best interest of all stakeholders. Two
distinct CG regimes have emerged from contemporary scholarship. Insider governance with
concentrated ownership and single controlling shareholders like state, family or financial
institution, and the outsider model with dispersed ownership shaped by shareholders interest
as primary objective. While the Anglo-American is associated with the outsider regime,
Japanese and German models are built on the insider regime.

RESEARCH QUESTION
 What are the different models of corporate governance and is there any method which
can be considered as the best model for corporate governance?
 What are the challenges faced by the emerging countries while implementing
corporate governance principles?

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ANALYSIS

MODELS OF CORPORATE GOVERNANCE

Each country has its own unique system of corporate governance. Also, these systems are
constantly changing, interacting, colliding and evolving by the time. One of the most
successful corporate governance models are from the countries like the United States, United
Kingdom, Japan and Germany.

UK MODEL: The Cadbury Committee was set up in 1992 in the UK following several high-
profile corporate failures. The Cadbury report was compiled on the basic assumption that the
existing, implicit system of corporate governance in the UK was sound and that many of the
recommendations were merely making explicit a good implicit system. 1 The committee
suggested several guidelines which together constituted the Cadbury Code of Best Practice
for the governance of listed companies. The London Stock Exchange subsequently
introduced a listing rule which required all companies, as a condition of continued listing, to
disclose in their annual reports the extent of their compliance with the Code and their reasons
for non-compliance. Three general areas were covered by the Cadbury Report and its
accompanying Code, namely: the board of directors; auditing; and the shareholders. The
Cadbury Report focused attention on the board of directors as being the most important
corporate governance mechanism, requiring constant monitoring and assessment. The
accounting and auditing function play an essential role in good corporate governance,
emphasizing the important of corporate transparency and communication with shareholders
and other stakeholders. Cadbury’s also focus on the importance of institutional investors as
the largest and most influential group of shareholders has had a lasting impact.

The Greenbury Report2was a second corporate governance committee created in response to

public and shareholder concerns about directors‟ remuneration. The objective of the report
was to provide a means of establishing a balance between directors‟ salaries and their
performance. The report recognized the importance for companies to offer high salaries to

1
Aguilera, R.V. (2005). Corporate governance and director accountability: An institutional comparative
perspective. British Journal of Management, 16, S39–S53
2
Set up in 1995

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attract directors of adequate calibre, capable of running large, multinational organizations.

The report also highlighted deep concerns with directors pay packages, especially in relation
to share options and other additional sources of remuneration

The Higgs Report3 dealt specifically with the role and effectiveness of nonexecutive
directors, making recommendations for changes to the Combined Code. The general
recommendations included a greater proportion of non-executive directors on boards and
more apt remuneration for non-executive directors. The report also concluded that stronger
links needed to be established between non-executive directors and companies‟ principle
shareholders. An important practical recommendation of the Higgs Report was that one non-
executive director should assume chief responsibility on behalf of shareholder interests.

In July 2003, the Financial Reporting Council approved a new draft of the Combined Code.
The revised Code retained almost all of the 50 recommendations contained in Higgs “original
report”. The redrafted Code address issues of executive remuneration, specifically avoiding
excessive remuneration that had little relation to corporate performance. The revised Code
placed an emphasis on shareholder activism as a means of furthering corporate accountability
and transparency.

Within the UK model4, three general corporate governance themes applicable to other
jurisdictions are (i) full disclosure - an obligation on companies to provide very detailed
information about directors‟ pay, information being a key ingredient in the economists‟
cookbook for the efficient operation of markets; (ii) separation of responsibilities, between
the chairman (who runs the board) and CEO (who runs the business of the company) as well
as between independent directors (who represent the interest of shareholders) and executive
directors (the company’s management); and (iii) due process, particularly in the setting of
remuneration policy and individual executive director’s compensation packages by an
independent remuneration committee.

UNITED STATES MODEL: The US approach to corporate governance is to minimize

conflicts of interest between owner and managers. This is attempted by giving managers

3
Set up in 2003
4
Gospel, H., & Pendleton, A. (2003). Finance, corporate governance and the management of labour: A
conceptual and comparative analysis. British Journal of Industrial Relations, 41(3), 557–582.

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profit-related incentives such as shares and stock options. Consistent with its preference for
market-based solutions to corporate governance, including hostile takeovers, the US has
welcomed the innovative method of investment bankers to bring even the giant companies
5
under the ambit of the market for corporate control. However, relating managers‟
performance to the stock market has raised concern that it is a short-term corporate
behaviour. Another longstanding concern in the US has to do with the asymmetry of
information and knowledge between owner and managers. US also concern about whether
directors are indulging in unreasonable increase in pay and perquisites for themselves even as
corporate restructuring and downsizing take their toll on employees and local communities.
The growing disparities in income have encouraged some economists to look for reforms
within the system of corporate governance. Corporate governance in the US has relied more
on disclosure than processes and structures. The required level of disclosure of the pay,
benefits and incentives of the top five named executives is very extensive. Compensation
committees composed entirely of independent directors have only become the norm in the
last few years, and while recent New York Stock Exchange and NASDAQ rulings are
increasing the independence of boards, it is still standard practice in the US for the role of
chairman and CEO to be combined. This concentration of power in one place, in contrast
with the European model where the CEO runs the company and oversees operational
management and the chairman runs the board and overseas the CEO, is regarded by some
commentators as a critical deficiency in the American corporate governance model.

JAPANESE MODEL: Corporate governance changes have become visible in Japan from
year 1999. In July 1999, 37 companies joined with Sumitomo Bank and Nissan when they
sought shareholder approval to reduce the size of their boards from 20 to 40 directors to about
10. In January 2000, Japan saw its first home-grown hostile takeover bid for a public
company.6 In April 2000, the Japanese government began a two-year program to revamp and
modernize corporate governance statutes. The main targets of reform are laws affecting
disclosure, the structure and duties of boards, and shareholder rights. In June 2000, at their
Annual General Meeting (AGM), Sumitomo Bank revealed the compensation packages of
their executives. This candor came in response to a dissident resolution filed by a group of

5
Dahya, J., et al. (2002) The Cadbury Committee, Corporate Performance, and Top Management Turnover,
Journal of Finance, 57(1), pp.461–483
6
Aoki, M., Jackson, G., & Miyajima, H. (2007). Corporate governance in Japan: Institutional change and
organizational diversity.Oxford: Oxford University Press.

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individual investors, and marks the first time that a financial institution in Japan has revealed
information of this nature.7 The Japanese system is the most remote, exotic and yet the most
successful one in the developed world. Their corporate governance system relies heavily on
trust and relationship-based approach. Ownership is based on the keiretsu system, where the
dominant shareholder is the main bank.8 Banks hold a considerable chunk of ownership
shares and fund the promoters whenever needed. Funding is not based on the notion of
making short-term gains. Instead banks fund firms to build strong long-term relationships and
play a very active role as big partners in the functioning of the firms. Unlike in other
countries where banks recall the loan amount as soon as they sense that the firm is going out
of business or becoming bankrupt, Japanese banks support their client firms by pumping in
more capital at critical times

GERMAN MODEL: Germany has built a statutory role for its employees in its corporate
governance system, even though the shareholding in Germany is far more concentrated than
in the US. Ownership of property in Germany is seen as imposing concomitant duties for its
use for the public wealth. German accounting and auditing practices allow companies to
make provisions for various short-term and long-term risks. The system of corporate
governance in Germany is much less driven by stock market, it runs by consensus in the
supervisory and management boards than by an all-important chief executive officer. The
two-tier board structure institutionalizes some checks and balances. Although US and
Germany are market-based systems and compete aggressively across the globe, their systems
of corporate governance differ markedly. Each system is based on the assumptions and
beliefs of its people. The code’s stated aims were to present essential statutory regulations for
the management and governance of German listed companies, as well as to contain
internationally and nationally recognized standards for good and responsible governance.
Clearly, achieving harmonization with internationally acceptance standards was a main driver
of reform in Germany. The German system of corporate governance is significantly
difference from the Anglo-American model in a number of respects. German companies are
characterized by a two-tier board and significant employee ownership. The supervisory board
is intended to provide a monitoring role. However, the appointment of supervisory board
members has not been a transparent process and has therefore led to inefficient monitoring

7
(Gregory, 2000)
8
Jackson, G. (2005). Stakeholders under pressure: Corporate governance and labour management in Germany
and Japan. Corporate Governance: An International Review, 13(3), 419–428

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and governance in many cases.9 German corporate governance structures are in some ways
among the most robust. In particular, it is a legal requirement that a separate supervisory
board comprising both shareholder and employee representatives oversees the activities of a
company’s management board. On the question of disclosure, in 2003, the Cromme
Commission (which gave rise to the German Corporate Governance Code) recommended that
companies publish details of the remuneration of individual board members. 10The
Government Commission on the German Corporate Governance Code made a number of
changes to the Code in June 2005, aimed in particular at further enhancing supervisory board
work. The amendments were based firstly on an analysis of recent international developments
in corporate governance, especially at European level. Secondly, the changes reflect the
extensive legislation on corporate governance recently introduced in Germany in the form of
Balance Sheet Monitoring Act, the Accounting Law Reform Act and the Investor Protection
Improvement Act.

PART II
Corporate governance is the term used to describe the balance among participants in the
corporate structure who have an interest in the way in which the corporation is run, such as
executive staff, shareholders and members of the community. Corporate governance directly
impacts the profits and reputation of the company, and having poor policies can expose the
company to lawsuits, fines, reputational damage, and loss of capital investment. Here are five
common pitfalls your corporate governance policies should avoid.

1) CONFLICTS OF INTEREST

Avoiding conflicts of interest is vital. A conflict of interest within the framework of corporate

governance occurs when an officer or other controlling member of a corporation has other
financial interests that directly conflict with the objectives of the corporation. For example, a
board member of a solar company who owns a significant amount of stock in an oil company
has a conflict of interest because, while the board he or she serves on represents the
development of clean energy, they have a personal financial stake in the success of the oil

9
Franks, J.; Mayer, C. (2001) Ownership and Control of German Corporations, Review of Financial Studies 14,
pp.943-977
10
(Pepper, 2004).

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industry. When conflicts of interest are present, they deteriorate the trust of shareholders and
the public while making the corporation vulnerable to litigation.

2) OVERSIGHT ISSUES

Effective corporate governance requires the board of directors to have substantial oversight of
the company’s procedures and practices. Oversight is a broad term that encompasses the
executive staff reporting to the board and the board’s awareness of the daily operations of the
company and the way in which its objectives are being achieved. The board protects the
interests of the shareholders, acting as a check and balance against the executive staff.
Without this oversight, corporate staff might violate state or federal law, facing substantial
fines from regulatory agencies, and suffering reputational damage with the public.  

3) ACCOUNTABILITY ISSUES

Accountability is necessary for effective corporate governance. From the top-level executives
to lower-tier employees, each level and division of the corporation should report and be
accountable to another as a system of checks and balances. Above all else, the actions of each
level of the corporation is accountable to the shareholders and the public. Without
accountability, one division of the corporation might endanger the success of the entire
company or cause stockholders to lose the desire to continue their investment.

4) TRANSPARENCY

To be transparent, a corporation must accurately report their profits and losses and make
those figures available to those who invest in their company. Overinflating profits or
minimizing losses can seriously damage the company’s relationship with stockholders in that
they are enticed to invest under false pretences. A lack of transparency can also expose the
company to fines from regulatory agencies.

5) ETHICS VIOLATIONS

Members of the executive board have an ethical duty to make decisions based on the best
interests of the stockholders. Further, a corporation has an ethical duty to protect the social
welfare of others, including the greater community in which they operate. Minimizing
pollution and eschewing manufacturing in countries that don’t adhere to similar labor
standards as the U.S. are both examples of a way in which corporate governance, ethics, and
social welfare intertwine.

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CONCLUSION
In this research article the successful corporate governance models are explained. These
models are completely based on their country-specific factors and conditions. It should reflect
the fact that it is not possible to simply select a model and apply it to a given country. Instead,
the process is dynamic: the corporate governance structure in each country develops in
response to country-specific factors and conditions. With the globalization of capital markets,
each of these three models is opening (albeit slowly) to influences from other models, while
largely retaining its unique characteristics. Legal, economic and financial specialists around
the world can profit from a familiarity with each model. The present special issue addresses
important challenges of corporate governance in emerging market economies. Due to the
peculiarities of these economies, that differ substantially from the much-more-widely-studied
established economies, further research remains essential in order to advance our wisdom
about corporate governance in developing countries and to inform practitioners and rule-
makers about the antecedents and effects of various governance arrangements.

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REFERENCES
Journals

 Aoki, M., Jackson, G., & Miyajima, H. (2007). Corporate governance in Japan:
Institutional change and organizational diversity.Oxford: Oxford University Presss. . .5
 Jackson, G. (2005). Stakeholders under pressure: Corporate governance and labour
management in Germany and Japan. Corporate Governance: An International Review,
13(3), 419–428...............................................................................................................6

Books

 Aguilera, R.V. (2005). Corporate governance and director accountability: An

institutional comparative perspective. British Journal of Management, 16, S39–S53. .3
 Dahya, J., et al. (2002) The Cadbury Committee, Corporate Performance, and Top
Management Turnover, Journal of Finance, 57(1), pp.461–483....................................5
 Franks, J.; Mayer, C. (2001) Ownership and Control of German Corporations, Review
of Financial Studies 14, pp.943-97................................................................................7
 Gospel, H., & Pendleton, A. (2003). Finance, corporate governance and the
management of labour: A conceptual and comparative analysis. British Journal of
Industrial Relations, 41(3), 557–582..............................................................................4

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