Corporate Governance

A system by which companies are directed and controlled

Primary reason for corporate governance is to protect stakeholders, reminding directors of the limitations of their power and to enforce the primary agency rule - directors work on behalf of stakeholders

Legal requirement in the US but only a set of best practice guidelines in UK

Sarbanes-Oxley Act (SOX) in the US

Applies to listed companies, directors of listed companies and auditors of listed companies

Auditors are restricted in the additional services they can provide to a listed audit client

Companies must have an audit committee

Annual FSs must include statements on internal control systems in place

CEO and CFO must verify reliability of FSs

Increased disclosure requirements e.g. off balance financing received

Restrictions on share dealings by directors during sensitive times

Senior audit partner must change every 5 years

Corporate governance in the UK

Comprises of "Principles of Good Governance" and "Code of Best Practice"

Revised in 2003 to reflect work of Turnbull, Smith and Higgs

Directors
Listed companies should be led by an effective board balanced with EDs and NEDs so that no individuals/groups can dominate decisions

clear division of responsibilities between running the board (chairperson) and running of business (Chief Executive) to limit powers

Appointments to board are formal, rigorous and transparent

to discharge duties, information provided to board should be good quality and timely

Directors should receive induction upon joining and regularly refresh skills

board/committee performance should be evaluated on annual basis

Directors should offer themselves for re-election at regular intervals and plan to progressively refresh board members

Remuneration
should not pay more then is needed and be necessary level to recruit and retain calibre of directors

Significant proportion of EDs pay should be performance related to encourage achievement of corporate objectives

Executive remuneration should be clear, and no director should be involved in determining own remuneration

Accountability and audit
board is responsible for presenting a balanced and understandable assessment of the company's financial position and prospects

board should maintain sound system of internal controls to safeguard assets and shareholder investment

board should have trasnparent arrangements for applying principles of financial reporting and internal control, and maintaining external auditor relationship

Shareholder Relations
board should maintain dialogue with shareholders on the basis of mutually understanding objectives

AGM meeting is the vehicle for communication with investors and a tool to encourage them to participate

Requires listed companies to include in accounts a narrative statement of how they applied the principles set out in the code and whether this was complied with throughout the period

Also includes principles for institutional shareholders, covering maters such as voting, communication between investor and company and investor responsibility to evaluate company's corporate governance

Benefits of Corporate Governance

Ensures personal objectives of the board, organisation's objectives, and stake holders' objectives align

Reduces risk of fraud and provides a mechanism for reviewing risk

Instils clear accountability and effective performance/reward link, stimulating performance

Use of NEDs encourages whole board to examine strategic decisions critically

Wider pool of knowledge from diverse board helps identify opportunities more readily

Increases transparency, social accountability and political/public support for the company

Enhances marketability of goods and services

Improves access to capital markets and reduces perception of risk (protects shareholder interests therefore making it easier to raise finance)

Market regulation
To produce, prevent or modify a particular outcome, managing the conflict between maximising profit and the interests of those using the product/service

Prices

Wages

Market entry

Size of firm/control they can exercise

Employment conditions

Pollution

Standards of production and quality

Effective vs efficient regulation

Effective ensures a safe and effective product/service is delivered whilst not inhibiting the effective functioning/development of businesses.

Efficient regulation exists if the total benefit to the nation is greater than the total cost

Inappropriate regulation is shown to make firms less likely to innovate and adapt the quality and mix of products offered to changing customer needs

Organisation for Economic Co-operation & Development OECD and other global nations have devised ways that enable minimal cross border disruption for transactions due to differences in regulation

Increasingly global market, investment, and technology create need for co-ordination both for multinational firms but also national government/trade association at a higher level