this study material describe the basic features on corporate governance. this is useful for management students and faculty members.

1. CORPORATE GOVERNANCE
DR. S. N.MAHAPATRA
PROFESSOR
DEPARTMENT OF MANAGEMENT
STUDIES
DEENBNADHU CHHOTU RAM
UNIVERSITY OF SCIENCE AND
TECHNOLOGY

2. Topics Covered
Origin and Development of Corporate Governance
Theories underlying Corporate Governance
(Stakeholders’ theory, Stewardship theory, Agency
theory, Separation of ownership and control)
Corporate Governance Mechanism: Anglo-American
Model, German Model, Japanese Model, Indian
Model
OECD emphasis on Corporate Governance
Ethics and Governance
Process and Governance (Transparency,
Accountability and Empowerment)

3. Corporate
refers to a group or association of people, usually
authorized by some form of agreement, acting as
an individual (i.e. the group) especially in
business and civic activities.
Governance
is the act, manner or functioning of the rules,
guidance and controls which determine a course
of action through an intended or emergent system
of processes.

4. What is Corporate Governance?
Corporate governance is meant to run companies
ethically in a manner such that all stakeholders including
creditors, distributors, customers, employees, the society
at large, governments and even competitors are dealt
with in a fair manner. Good corporate governance should
look at all stakeholders and not just the shareholders
alone. Corporate governance is not something which
regulators have to impose on a management, it should
come from within. The heart of corporate governance is
transparency, disclosure, accountability and integrity. It
is to be borne in mind that mere legislation does not
ensure good governance. Good governance flows from
ethical business practices even when there is no
legislation.

5. Definition of Corporate Governance
Noble laureate Milton Friedman defined Corporate Governance as “the
conduct of business in accordance with shareholders’ desires, which
generally is to make as much money as possible, while conforming to
the basic rules of the society embodied in law and local customs.
“Corporate Governance is concerned with the way corporate entities are
governed, as distinct from the way business within those companies is
managed.
Corporate governance addresses the issues facing Board of Directors,
such as the interaction with top management and relationships with the
owners and others interested in the affairs of the company” Robert Ian
(Bob) Tricker (who introduced the words corporate governance for the
first time in his book in 1984).
“Corporate Governance is about promoting corporate fairness,
transparency and accountability”.
James D. Wolfensohn (Ninth President World Bank)

6. CADBURY COMMITTEE
Cadbury Committee, U.K defined Corporate
Governance is a system of structuring, operating and
controlling a company with the following specific
aims:
(i) Fulfilling long-term strategic goals of owners;
(ii) Taking care of the interests of employees;
(iii) A consideration for the environment and local
community;
(iv) Maintaining excellent relations with customers
and suppliers;
(v) Proper compliance with all the applicable legal
and regulatory requirements.

7. Why there is need for Corporate
Governance?
• Corporate Performance
• Enhanced Investor Trust
• Better Access To Global Market
• Combating Corruption
• Easy Finance From Institutions
• Enhancing Enterprise Valuation
• Reduced Risk of Corporate Crisis and Scandals
• Accountability

8. Corporate Governance
Transparency Disclosure Accountability Integrity

9. Ethical business practice will lead to good governance
and corporate governance to govern the corporate
entities. Issues facing Board of Directors, interaction
with top management, relationship with owners and with
others interested in the affairs of the company. How
companies can implement right corporate governance
approach so that it can fulfill long-term strategic goals,
take care the interest of employees, environment and
communities, improve relationship with customers and
suppliers, comply to legal and regulatory requirements.
Besides this the corporate also concerned about
corporate performance, investor trust, better access to
global market, eliminating corruption in the companies,
enhancing enterprise valuation, better risk management
and accountability of the companies.

10. “Corporate governance deals with laws, procedures, practices and implicit rules that determine
a company’s ability to take informed managerial decisions vis-à-vis its claimants - in
particular, its shareholders, creditors, customers, the State and employees. There is a global
consensus about the objective of ‘good’ corporate governance: maximising long-term
shareholder value.”
Confederation of Indian Industry (CII) –
Desirable Corporate Governance Code (1998)
“Strong corporate governance is indispensable to resilient and vibrant capital markets and is
an important instrument of investor protection. It is the blood that fills the veins of transparent
corporate disclosure and high quality accounting practices. It is the muscle that moves a
viable and accessible financial reporting structure.”
Report of Kumar Mangalam Birla Committee
on Corporate Governance constituted by SEBI (1999)
“Corporate Governance is the acceptance by management of the inalienable rights of
shareholders as the true owners of the corporation and of their own role as trustees on behalf
of the shareholders. It is about commitment to values, about ethical business conduct and
about making a distinction between personal and corporate funds in the management of a
company.”
Report of N.R. Narayana Murthy Committee on Corporate
Governance constituted by SEBI (2003)

11. Stakeholders

12. THE CORPORATE GOVERNANCE THEORIES
• Agency Theory
• Stewardship Theory
• Stakeholder Theory

13. Agency Theory
According to this theory, managers act as ‘Agents’ of the
corporation. The owners set the central objectives of the
corporation. Managers are responsible for carrying out
these objectives in day-to-day work of the company.
Corporate Governance is control of management through
designing the structures and processes.
In agency theory, the owners are the principals. But
principals may not have knowledge or skill for getting
the objectives executed. Thus, principal authorises the
mangers to act as ‘Agents’ and a contract between
principal and agent is made. Under the contract of
agency, the agent should act in good faith. He should
protect the interest of the principal and should remain
faithful to the goals.

14. Stewardship Theory
The word ‘steward’ means a person who manages another’s
property or estate. Here, the word is used in the sense of guardian
in relation to a corporation, this theory is value based. The
managers and employees are to safeguard the resources of
corporation and its property and interest when the owner is absent.
They are like a caretaker. They have to take utmost care of the
corporation. They should not use the property for their selfish ends.
This theory thus makes use of the social approach to human nature.
The managers should manage the corporation as if it is their own
corporation. They are not agents as such but occupy a position of
stewards. The managers are motivated by the principal’s objective
and the behavior pattern is collective, pro-organizational and
trustworthy. Thus, under this theory, first of all values as standards
are identified and formulated. Second step is to develop training
programmes that help to achieve excellence. Thirdly, moral support
is important to fill any gaps in values.

15. Stakeholder Theory
According to this theory, the company is seen as an input-output model and all
the interest groups which include creditors, employees, customers, suppliers,
local-community and the government are to be considered. From their point of
view, a corporation exists for them and not the shareholders alone.
The different stakeholders also have a self interest. The interests of these
different stakeholders are at times conflicting. The managers and the
corporation are responsible to mediate between these different stakeholders
interest. The stake holders have solidarity with each other. This theory assumes
that stakeholders are capable and willing to negotiate and bargain with one
another. This results in long term self interest.
The role of shareholders is reduced in the corporation. But they should also
work to make their interest compatible with the other stake holders. This
requires integrity and managers play an important role here. They are faithful
agents but of all stakeholders, not just stockholders.

16. Separation of ownership and control

17. Corporate Governance Mechanism
 Anglo-American Model
 Japanese Model
 German Model
 Indian Model

18. Anglo-American Model
The Anglo-US model is characterized by share
ownership of individual and interestingly
institutional, investors not affiliated with the
corporation a well-developed legal framework
defining the rights and responsibilities of three
key players, namely management, directors and
shareholders.

19. Anglo-American Model
1. Key players in the Anglo-US Model: Management,
Shareholders, Board of Directors
2. Share ownership pattern in the Anglo-US model
3. Composition of the BOD in the Anglo-US model
4. Regulatory framework in the Anglo-US model
5. Disclosure requirements in the Anglo-US model
6. Corporate actions requiring shareholders approval in
the Anglo-US model
7. Interaction among players in the Anglo-US model

20. OECD Emphasis on Corporate Governance
The OECD Principles of Corporate Governance set out a framework for
good practice which was agreed by the governments of all 30 countries
that are members of the OECD. They were designed to assist
governments and regulatory bodies in both OECD countries and
elsewhere in drawing up and enforcing effective rules, regulations and
codes of corporate governance. They also provide guidance for stock-
exchanges, investors, companies and others that have a role in the
process of developing good corporate governance.
The original OECD Principles were issued in 1999, they became a
generally accepted standard in this area. The original principles of OECD
were revised and the revised principles were issued in 2004. The revision
of the original principles was to take into account the developments and
the corporate governance scandals highlighted the need for improved
standards. It was recognized that the integrity of the stock market was
critical and to the revised principles were designed to underpin this
integrity.

21. Principles of Corporate Governance – OECD
(a) They call on governments to have in place an effective institutional and
legal framework to support good corporate governance practices.
(b) They call for a corporate governance framework that protects and
facilitates the exercise of shareholders’ rights.
(c) They also strongly support the equal treatment of all shareholders,
including minority and foreign shareholders.
(d) They recognize the importance of the role of stakeholders in corporate
governance.
(e) They look at the importance of timely, accurate and transparent
disclosure mechanisms
(f) They deal with board structures, responsibilities and procedures.

22. Principles of Corporate Governance – OECD
The preamble to the OECD Principles states that
they “are evolutionary in nature and should be
reviewed in light of significant changes in
circumstances”. It is also recognises that, “To
remain competitive in a changing world,
corporations must innovate and adapt their
corporate governance practices so that they can
meet new demands and grasp new opportunities”.

23. Ensuring the Basis for an Effective Corporate
Governance Framework
The corporate governance framework should promote transparent and efficient
markets, be consistent with the rule of law and clearly articulate the division of
responsibilities among different supervisory, regulatory and enforcement
authorities.
 The corporate governance framework should be developed with a view to its
impact on overall economic performance, market integrity and the incentives it
creates for market participants and the promotion of transparent and efficient
markets.
 The legal and regulatory requirements that affect corporate governance practices
in a jurisdiction should be consistent with the rule of law, transparent and
enforceable.
 The division of responsibilities among different authorities in a jurisdiction
should be clearly articulated and ensure that the public interest is served.
 Supervisory, regulatory and enforcement authorities should have the authority,
integrity and resources to fulfil their duties in a professional and objective
manner. Moreover, their rulings should be timely, transparent and fully
explained.

24. The Rights of Shareholders and Key Ownership
Functions
The corporate governance framework should protect and facilitate the exercise
of shareholders’ rights.
 Basic shareholder rights should include the right to: 1) secure methods of
ownership registration; 2) convey or transfer shares; 3) obtain relevant and
material information on the corporation on a timely and regular basis; 4)
participate and vote in general shareholder meetings; 5) elect and remove
members of the board; and 6) share in the profits of the corporation.
 Shareholders should have the right to participate in, and to be sufficiently
informed on, decisions concerning fundamental corporate changes such as: 1)
amendments to the statutes, or articles of incorporation or similar governing
documents of the company; 2) the authorisation of additional shares; and 3)
extraordinary transactions, including the transfer of all or substantially all
assets, that in effect result in the sale of the company.
 Shareholders should have the opportunity to participate effectively and vote in
general shareholder meetings and should be informed of the rules, including
voting procedures, that govern general shareholder meetings:

25. The Rights of Shareholders and Key Ownership
Functions
1. Shareholders should be furnished with sufficient and timely information
concerning the date, location and agenda of general meetings, as well as
full and timely information regarding the issues to be decided at the
meeting.
2. Shareholders should have the opportunity to ask questions to the board,
including questions relating to the annual external audit, to place items on
the agenda of general meetings, and to propose resolutions, subject to
reasonable limitations.
3. Effective shareholder participation in key corporate governance decisions,
such as the nomination and election of board members, should be
facilitated. Shareholders should be able to make their views known on the
remuneration policy for board members and key executives. The equity
component of compensation schemes for board members and employees
should be subject to shareholder approval.
4. Shareholders should be able to vote in person or in absentia, and equal
effect should be given to votes whether cast in person or in absentia.

26. The Rights of Shareholders and Key Ownership
Functions
 Capital structures and arrangements that enable certain shareholders to obtain a degree of control
disproportionate to their equity ownership should be disclosed.
 Markets for corporate control should be allowed to function in an efficient and transparent manner.
1. The rules and procedures governing the acquisition of corporate control in the capital markets, and
extraordinary transactions such as mergers, and sales of substantial portions of corporate assets,
should be clearly articulated and disclosed so that investors understand their rights and recourse.
Transactions should occur at transparent prices and under fair conditions that protect the rights of all
shareholders according to their class.
2. Anti-take-over devices should not be used to shield management and the board from accountability.
 The exercise of ownership rights by all shareholders, including institutional investors, should be
facilitated.
1. Institutional investors acting in a fiduciary capacity should disclose their overall corporate governance
and voting policies with respect to their investments, including the procedures that they have in place
for deciding on the use of their voting rights.
2. Institutional investors acting in a fiduciary capacity should disclose how they manage material
conflicts of interest that may affect the exercise of key ownership rights regarding their investments
 Shareholders, including institutional shareholders, should be allowed to consult with each other on
issues concerning their basic shareholder rights as defined in the Principles, subject to exceptions to
prevent abuse.

27. The Equitable Treatment of Shareholders
The corporate governance framework should ensure the equitable treatment of all shareholders, including
minority and foreign shareholders. All shareholders should have the opportunity to obtain effective redress
for violation of their rights.
A. All shareholders of the same series of a class should be treated equally.
1. Within any series of a class, all shares should carry the same rights. All investors should be able to obtain
information about the rights attached to all series and classes of shares before they purchase. Any changes in voting
rights should be subject to approval by those classes of shares which are negatively affected.
2. Minority shareholders should be protected from abusive actions by, or in the interest of, controlling shareholders
acting either directly or indirectly, and should have effective means of redress.
3. Votes should be cast by custodians or nominees in a manner agreed upon with the beneficial owner of the shares.
4. Impediments to cross border voting should be eliminated.
5. Processes and procedures for general shareholder meetings should allow for equitable treatment of all
shareholders. Company procedures should not make it unduly difficult or expensive to cast votes.
B. Insider trading and abusive self-dealing should be prohibited.
C. Members of the board and key executives should be required to disclose to the board whether they, directly,
indirectly or on behalf of third parties, have a material interest in any transaction or matter directly affecting the
corporation.

28. The Role of Stakeholders in Corporate Governance
The corporate governance framework should recognise the rights of stakeholders
established by law or through mutual agreements and encourage active co-operation
between corporations and stakeholders in creating wealth, jobs, and the
sustainability of financially sound enterprises.
A. The rights of stakeholders that are established by law or through mutual agreements are
to be respected.
B. Where stakeholder interests are protected by law, stakeholders should have the
opportunity to obtain effective redress for violation of their rights.
C. Performance-enhancing mechanisms for employee participation should be permitted to
develop.
D. Where stakeholders participate in the corporate governance process, they should have
access to relevant, sufficient and reliable information on a timely and regular basis.
E. Stakeholders, including individual employees and their representative bodies, should be
able to freely communicate their concerns about illegal or unethical practices to the board
and their rights should not be compromised for doing this.
F. The corporate governance framework should be complemented by an effective, efficient
insolvency framework and by effective enforcement of creditor rights.

29. Disclosure and Transparency
The corporate governance framework should ensure that timely and
accurate disclosure is made on all material matters regarding the
corporation, including the financial situation, performance, ownership, and
governance of the company.
A. Disclosure should include, but not be limited to, material information on:
1. The financial and operating results of the company.
2. Company objectives.
3. Major share ownership and voting rights.
4. Remuneration policy for members of the board and key executives, and
information about board members, including their qualifications, the
selection process, other company directorships and whether they are
regarded as independent by the board.
5. Related party transactions.
6. Foreseeable risk factors.
7. Issues regarding employees and other stakeholders.
8. Governance structures and policies, in particular, the content of any corporate
governance code or policy and the process by which it is implemented.

30. Disclosure and Transparency
B. Information should be prepared and disclosed in accordance with high
quality standards of accounting and financial and non-financial disclosure.
C. An annual audit should be conducted by an independent, competent and
qualified, auditor in order to provide an external and objective assurance to the
board and shareholders that the financial statements fairly represent the
financial position and performance of the company in all material respects.
D. External auditors should be accountable to the shareholders and owe a duty
to the company to exercise due professional care in the conduct of the audit.
E.Channels for disseminating information should provide for equal, timely and
coste-fficient access to relevant information by users.
F. The corporate governance framework should be complemented by an
effective approach that addresses and promotes the provision of analysis or
advice by analysts, brokers, rating agencies and others, that is relevant to
decisions by investors, free from material conflicts of interest that might
compromise the integrity of their analysis or advice.

31. The Responsibilities of the Board
The corporate governance framework should ensure the strategic guidance of the company, the effective
monitoring of management by the board, and the board’s accountability to the company and the
shareholders.
A. Board members should act on a fully informed basis, in good faith, with due diligence and care, and in the best
interest of the company and the shareholders.
B. Where board decisions may affect different shareholder groups differently, the board should treat all shareholders
fairly.
C. The board should apply high ethical standards. It should take into account the interests of stakeholders.
D. The board should fulfil certain key functions, including:
1. Reviewing and guiding corporate strategy, major plans of action, risk policy, annual budgets and business plans;
setting performance objectives; monitoring implementation and corporate performance; and overseeing major
capital expenditures, acquisitions and divestitures.
2. Monitoring the effectiveness of the company’s governance practices and making changes as needed.
3. Selecting, compensating, monitoring and, when necessary, replacing key executives and overseeing succession
planning.
4. Aligning key executive and board remuneration with the longer term interests of the company and its shareholders.
5. Ensuring a formal and transparent board nomination and election process.
6. Monitoring and managing potential conflicts of interest of management, board members and shareholders, including
misuse of corporate assets and abuse in related party transactions.

32. The Responsibilities of the Board
7. Ensuring the integrity of the corporation’s accounting and financial reporting systems, including the
independent audit, and that appropriate systems of control are in place, in particular, systems for risk
management, financial and operational control, and compliance with the law and relevant standards.
8. Overseeing the process of disclosure and communications.
E. The board should be able to exercise objective independent judgement on corporate affairs.
1. Boards should consider assigning a sufficient number of non-executive board members capable of
exercising independent judgement to tasks where there is a potential for conflict of interest.
Examples of such key responsibilities are ensuring the integrity of financial and non-financial
reporting, the review of related party transactions, nomination of board members and key
executives, and board remuneration.
2. When committees of the board are established, their mandate, composition and working procedures
should be well defined and disclosed by the board.
3. Board members should be able to commit themselves effectively to their responsibilities.
F. In order to fulfill their responsibilities, board members should have access to accurate, relevant and
timely information.

33. Ensuring the Basis for an Effective Corporate
Governance Framework
The corporate governance framework should promote transparent and
efficient markets, be consistent with the rule of law and clearly articulate
the division of responsibilities among different supervisory, regulatory and
enforcement authorities.
 The corporate governance framework should be developed with a view to its impact on
overall economic performance, market integrity and the incentives it creates for market
participants and the promotion of transparent and efficient markets.
 The legal and regulatory requirements that affect corporate governance practices in a
jurisdiction should be consistent with the rule of law, transparent and enforceable.
 The division of responsibilities among different authorities in a jurisdiction should be
clearly articulated and ensure that the public interest is served.
 Supervisory, regulatory and enforcement authorities should have the authority, integrity
and resources to fulfil their duties in a professional and objective manner. Moreover, their
rulings should be timely, transparent and fully explained.

34. Process and Corporate Governance
(Transparency, Accountability and
Empowerment)

35. US Financial Scandals
 Adelphia Communications A cable operator that filed for bankruptcy in
July, is under investigation by the Securities and Exchange Commission
and two federal grand juries for multi- billion dollar, off-balance-sheet
loans to its founders, the Rigas family.
 Arthur Andersen The global accounting firm that audited Enron was
found guilty on 15 June in federal court for obstructing justice in the
government’s investigation of Enron.
 Computer Associates A technology company that agreed to a $638 000
penalty in April to settle charges with the Justice Department that it
violated pre-merger rules after announcing it would acquire Platinum
Technology Inc.
 Dynegy An energy trader that tried to acquire Enron, now under Federal
probes into alleged sham trading aimed at artificially pumping up
revenue and volume. Its long-time chief executive, Chuck Watson,
resigned in May, and the company announced a major restructuring.
 Enron Corp. Once the nation’s largest energy trader collapsed into the
largest-ever US bankruptcy on 2 December amid an investigation
surrounding off-the-book partnerships that were allegedly used to hide
debt and inflate profits.

36. US Financial Scandals
 Global Crossing Ltd A telecommunications company faced probes by the SEC and the
Federal Bureau of Investigation regarding its accounting practices. It allegedly swapped
network capacity with other telecommunications firms to inflate revenue.
 ImClone Systems A biotechnology company that is under investigation by a
congressional committee seeking to find out if it correctly informed investors that the US
Food and Drug Administration had declined to accept for review its experi- mental cancer
drug. Samuel Waksal, its former chief executive, was arrested 12 June on insider trading
charges.
 Merrill Lynch A major US financial services firm, which in May agreed to pay $100
million to settle a probe by the New York state attorney general into charges it tailored
stock research to win investment banking business. In June, it suspended two employees
after an internal probe on insider share-trading of ImClone.
 Tyco International A conglomerate that is under investigation into whether executives
used corporate cash to buy art and a home. Its former chairman, Dennis Kozlowski,
resigned 3 June, a day before he was indicted for evading about $1 million in New York
sales taxes on art purchases.
 Xerox The copier and printer company announced that it was restating five years’ results
to reclassify more than $6 billion in revenues. In April, the company settled charges that
it used ‘accounting tricks’ to defraud investors.
 WorldCom WorldCom, a telecommunications company, on 25 June said it hid $3.85
billion in expenses, allowing it to post net income of $1.38 billion in 2001, instead of a
loss. The company fired its chief financial officer, and on Friday began cutting 17 000
jobs, over 20 per cent of its work force.

37. High-flying companies had crashed in a series of
corporate governance failures unequalled in history
Accounting manipulation
Boardroom breakdown
CEO performance-related departures with large payoffs
Corporate fraud or other criminal acts
Environmental or social consequences of corporate
activities
Insider share trading
Lack of transparency in corporate reporting
Misuse of corporate resources
Risk management failures
Excessive remuneration for top management compared
with performance
Unexpected losses, profit declines or corporate collapses

38. The domains of corporate governance – internal and external

39. QUESTIONS
Q1.Describe the foundation of the present system of
corporate governance as it applies to limited liability
companies, and how it developed.
Q2. What are the forces that shape corporate governance
reform efforts, and what triggers them?
Q3. Roles and governance mechanisms evolve to fulfill a
need. Explain.
Q4. How does a supervisory board in a company with a
two-tier board structure, such as a public company in
Germany, differ from a unitary board, such as a board
of directors in a UK public company?

40. Case Study
Case Study-1
You have been asked by the board of directors of
a mid-sized listed manufacturing company to
update them on the emerging corporate
governance issues that should be of interest to
them. Take the help of Internet and using a good
search engine, prepare a report for the board on
the corporate governance issues that should be of
current concern to the directors of this company.

41. Case Study
Case Study-2
The Wigwam Investment Fund (WIF) monitors the performance of all the quoted
companies in which it holds equity shares. Decisions about buying, holding or selling
shares are based partly on reports by its analysts. The head of department is meeting a
newly-appointed analyst to explain the aspects of a company’s performance that are of
particular interest. He says that it is obviously important to look at all financial reports
issued by the company, including the financial statements in its annual report and
accounts, and it is also important to look for information about the company’s business
strategies and future prospects.
He then adds that WIF attaches great importance to corporate governance, and would be
inclined to avoid investing in companies with unsatisfactory corporate governance. The
newly-appointed analyst replies that he was not required to consider governance issues
in his previous job as credit analyst for a commercial bank, and he wants to know more
about what aspects of governance should be included in the reports that he prepares on
companies for his superiors.
Identify the corporate governance issues that should be of interest to an institutional
investor in equities, and explain why these issues may be of particular interest to the
fund managers of WIF.