By: Choirunnisa Arifa

Basic Concepts of Corporate Governance

 ”…the ways in which suppliers of finance to corporations assure
themselves of getting a return on their investments.” – Shleifer and
Vishny
 Hence, the main objective is to maximize the returns to the
shareholders (as well as the debtholders).
 ‘[a] corporate governance system is the combination of mechanisms
which ensure that the management (the agent) runs the firm for the
benefit of one or several stakeholders (principals). Such stakeholders
may cover shareholders, creditors, suppliers, clients, employees and
other parties with whom the firm conducts its business.’ – Goergen
and Renneboog
1. Direct stakeholders – those most immediately and directly
impacted by a company’s activities, prospects, and actions
 Shareholders
 Creditors
 Employees
 Customers
 Suppliers
 Professional service providers
 Communities

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2. Indirect stakeholders – those that can be impacted by a
company success or failure, although often less obviously or
directly.
 Regulators
 Competitors
 Taxpayers

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 Conflict of interests:
 The providers of finance and the managers
 The shareholders and the stakeholders
 Different types of shareholders (large shareholders vs. minority interests)
 Shareholders and debtholders
 Moral hazard

How to mitigate?

Complete Contracts
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 Complete contract:
 the managers must do in each future contingency of the world
 what the distribution of profits will be in each contingency

DIFFICULT (IF NOT IMPOSSIBLE) TO BE ACHIEVED!

ASYMMETRIC INFORMATION

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 Perquisites (or Perks):
 on-the-job consumption by the firm’s managers

 Empire Building:
 the management pursuing growth rather than shareholder-value
maximisation
 Managerial entrenchment:
 managers shield themselves from hostile takeovers

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 Tunelling
 Transferring assets or profits from a firm to its large shareholder and
thereby expropriating the former firm’s minority shareholders
 Transfer Pricing
 Transferring assets or profits from a firm to its large shareholder and
thereby expropriating the former firm’s minority shareholders

Related Party
Transactions

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 Ownership
 ownership of cash flow rights
 pro rata right to the firm’s assets
 pro rata right to the firm’s earnings

 Control
 ownership of control rights
 right to vote in favour or against certain agenda points at the AGM

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 Two types of board structures:
 The unitary board –
 a unitary board structure there is a single board of directors,
comprising executive and non-executive directors (NEDs).
 The NEDs on a unitary board will be, largely, classified as independent NEDs,
stressing the fact that they will act in the best interests of the wider
shareholder population.
 The two-tier board –
 There are two separate boards under the two-tier structure:
 The management (operating) board which is responsible for the day-today running
of the business, consisting of executives only and led by the chief executive.
 The supervisory (corporate) board with a wider membership, responsible for the
strategic oversight of the organization and led by the chairman.

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