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CORPORATE GOVERNANCE
An Introduction

Definition
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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.

Another Definition
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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.

Yet Another Definition

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Corporate governance refers to the direction & oversight provided for conducting the affairs of a corporate body in a manner that ensures that the individual and collective interests of all stakeholders are served and protected. (Safdar A Butt)

Governance and Management

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How do these terms differ? Does Governance include Management? Or Does Management include Governance?

Governance & Management

Governance
Approval of Plans

Function
Planning

Management
Preparation of plans

Providing overall leadership

Arranging resources Controlling managers

Leading
Organizing Controlling

Leading those who implement plans

Tasks division & resource usage Controlling employees
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Governance
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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

Management
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Current Affairs Implementing the Plans Developing Suggestions and Alternatives Operational Matters

What is a Corporate Body?

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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.

Stakeholders in a Company
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Management and Employees Lenders Suppliers and Clients Shareholders Society at large (this includes government)

Opportunity to protect individual interests

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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

Shareholders
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Controlling Groups (Internal Equity) Outsider Shareholders (External Equity)

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

Outsider Shareholders
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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.

Lenders
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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.

Society at Large
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Government (Taxes, Law and Order) Clients (Value for money) Community (Social Rights) How do we ensure that these stakeholders get their dues?

Corporate Hierarchy
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1.

2.
3.

Shareholders Board of Directors Management

CEO Executive Directors Senior Managers

4.

Employees

Key Players
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Shareholders (Voting power) Board of Directors (Represents interests) CEO (Delegated executive powers) Senior Managers (Delegated executive powers)

Scope of Corporate Governance

Stakeholders Objectives / interests Tools / Techniques

Shareholders
Lenders Employees

Sustainable growth in net worth

Security / timely interest payments Continued employment at good terms General Management Legal frame work Professional Codes Industrial practices

Individual

Interests

Business Associates
Society

Continued business at good terms

Good citizenship by the company 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

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Oversight Directional Advisory

The Oversight Function

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

The Directional Functions

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Setting Mission Statement, Vision Statement and 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

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General guidance to management. What is happening in the rest of the world. Specialized input in certain areas

Responsibilities of CEO & Senior Management

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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

Tools Available to the Board

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Composition of the Board Independence Committees Incentives External Help Government Intervention

Balance on the Board

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Balance of talents
Finance,

Marketing, Production, Law, etc.

Balance of representation
As

many stakeholders as possible on the board of power between directors

Balance of power
Distribution

Balance of views
Different

temperaments and views

Independence
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Independent from those who appointed them (?) Management Stakeholders No special interests (linked directorships) Meeting in absence of CEO or Chairman

The Concept of Independent Directors

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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

Committees
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Audit Committee (only independent directors) CG Committee (only independent directors) Other Committees Ad hoc Committees (e.g. investigation) Permanent Committees (e.g. HR)

Functions of C G Committee
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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

Incentives to the Board

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Financial (Carrots) Others (Carrots) Legal Obligations (Sticks)

Code of Corporate Governance

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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

Objectives of CCG
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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