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IBU5GW

Governance

in a Globalising World

Week 1

Background to concepts of

governance

Welcome

• Unit co-ordinator: Dr Suzanne Young Department of Management

E-mail: [email protected]

Instance coordinator: Josephine Thi Hoang

Consultations: Monday 14.00 – 15.00.

HU3 Building, room 119.

Email: [email protected]

• Prescribed text: Steen, T. & Conyon, M., 2012,

Corporate Governance: Mechanisms and Systems

Berkshire: McGraw-Hill.

Assessments

Assessment task Limit Marks Due date

Individual assignment 2000 words 30% Week 4

Group Assignment 2000w/student 30% Week 9

Take-home exam 2000 words 30% Week 12

In order to qualify for a ‘pass’ this subject, students

must:

• submit ALL assessment items AND

• achieve a MINIMUM aggregate mark of 50% for the

subject

Assessment 1

• Due date: Week 4 (21 March 2016)

• 30 marks

Choose a newspaper or trade journal articlethat is corporate

governance related and complete the following:

• Outline and summarize the arguments made.

• Discuss in the context of your readings, the issues raised in

relation to corporate governance

• Why are these arguments being made in the media?

• Conclude by providing your opinion about the issues raised in

the article.

Assessment 2 (Group Assignment)

Choose one contemporary governance issue below and discuss it in terms of:

• its contemporary international context;

• corporate governance knowledge, practice and theories; and

• recent government, business, industry and organizational examples.

• Make recommendations in relation to improvements to corporate governance practice

in terms of the issue you choose.

Issues:

• Shareholders versus Stakeholder priorities. Anglo Corporations should have only one

focus that is shareholders.

• The Convergence of International Corporate Governance Systems: Are international

corporate governance systems converging to the Anglo based model or not?

• Principles-based versus Rules-based Governance Principles: Should hard law or soft

law take the primary role?

Due date: Week 9 (9 May 2016)

Assessment 3

• The take-home final exam allows students to undertake it at home and be in open book format.

• The exam questions will be handed out in Week 12. Students are required to demonstrate their acquisition, assimilation and synthesis of the body of knowledge by providing a considered response to the questions provided. Referencing of all sources is required.

• Assessment is to be submitted on LMS by 8 pm on 1 June 2016.

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Our classes

• Lecture

• Case studies

• Discussion

• Group work

A thought:

“It is necessary only for the good man to do

nothing for evil to triumph.”

[Edmund Burke, 18th century philosopher]

Keith B. Darrell

...and another

“Business will only be legitimate in the eyes of

stakeholders if it behaves in an accountable

way. Companies cannot behave as if they

operate in a vacuum.”

[CIPD Professional Standards]

Toshiba CEO resigns over massive

accounting scandal:

The company had overstated its

operating profit by 151.8 billion yen

($1.22 billion) over several years

"There existed a corporate culture at

Toshiba where it was impossible to

go against the boss' will,"

Corporation – A Definition

“An instrument through which capital is assembled

for the activities of producing and distributing goods

and services and making investments. It should have

as its objective the enhancement of profit and gains

for shareholders.” Monks R 2004 “Corporate Governance” Carlton; Blackwell Publishing

“An organisation engaged in mobilising resources

for productive uses in order to create wealth and

other benefits [and not to intentionally destroy

wealth, increase risk, or cause harm] for its multiple

constituents or stakeholders.” Du Plessis, McConvill, Bagaric 2005 “Principles of Contemporary Corporate

Governance”

Five Characteristics

• Limited liability;

Individual members not liable for debts on bankruptcy

• Transferability;

Transfer one’s holdings freely [shares]

• Legal personality;

Lives for as long as it has capital, difficult to prosecute members acting on behalf of the corporation e.g health and safety, corporations cannot be sent to prison.

• Centralised management;

Power to determine direction given to directors, power to control day to day activities given to managers

• Perpetual lifeline;

Assets and structure exist beyond the lifetime of any of its members.

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Example ENRON

• US’s 7th largest publicly traded corporation until its bankruptcy in late 2001.

• Was an energy, commodities, and services company with 20,000 staff and presence in 40 countries.

• How did things go wrong:

– Traded in electronic energy markets

– Used convoluted financial and accounting structures such as forward, prepaid contracts, hedge, etc. and created off-balance entities to hide debt.

Arthur Andersen

– Was founded in 1918; offered accounting services and management consultancy to businesses.

– 1997-2000: Tension between auditing vs management teams => Break-away of the consultancy group to form a new company named Accenture => A weaker, smaller Andersen

“Think Straight

Talk Straight.”

Arthur Andersen

• In early 2000: Increase of revenue – top priority

• Enron and fast-growing, high risk- taking: targeted clients

Enron paid $1mil per week =>

Compromised Andersen’s motto

• The end: On 15 June 2002 Andersen was convicted of obstruction of justice for shredding documents relating to its audit of Enron.

Example

The Barings Bank: • Founded in 1762 by Sir France Baring

• The oldest merchant bank in England until

its collapse in 1995

• Nick Leeson in 1990’s lost of $1.4 billion

speculating -Primarily on futures contracts

Nick Leeson - Appointed general manager of a new operation

in futures markets on the Singapore

International Monetary Exchange (SIMEX)

• In charge of both making deals and overseeing

the paperwork on these deals

• Caused the collapse of the Baring Bank

How Leeson Broke Barings?

• Arrived in Singapore in 1992

• Arbitrage opportunities of Nikkei 225 futures between SIMEX and OSE

• Leeson’s Singapore office is terribly understaffed – errors frequently occurred

• Error account “88888” created by a new phone clerk: Loss of £20,000

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Barings Inadequate Controls

• Lesson controlled both the dealing desk and the

back office

• Leeson removed account “88888” from daily

accounts sent to Barings

• Barings ignored internal auditor’s reports

Introducing governance

 What is corporate governance?

 (Shleifer & Vishny 1997): ‘The ways in which suppliers of finance assure themselves of getting a return on their investment’

 (Cadbury 1992): ‘The system by which companies are directed and controlled’

 Or even broader (Charkham 1994): ‘The way companies are run’

Definition of

Corporate Governance

“To protect and advance the interests of

shareholders through setting the strategic direction

of a company and appointing and monitoring capable

management to achieve this.”

[Walker Review of Corporate Governance 2009]

“Corporate governance describes the framework of

rules, relationships, systems and processes within,

and by which, authority is exercised and controlled

in corporations”

[Justice Owen “Report of Royal Commission on HIH”]

Key Elements of Definition

• Monitor and assess risk;

• Optimise performance;

• Create value;

• Provide accountability.

What corporate governance is not

• Not about management as such but about

steering managers

• Not a religion but a field of practice

• Not synonymous with governance codes or

Sarbanes-Oxley like regulation?

Why good governance is

important

• Separation of ownership and control

• Gap between investor expectations and corporate

performance

• Rise of corporate take-overs

• Perceived priorities of managers changed from

professionalism to own careers

• Tension between managers desire for growth and

investors desire for maximum return on investment

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Corporations Act 2001

[Amended 2010]

• Auditing independence;

• Conflict of interest;

• Continuous disclosure;

• Director duties & responsibilities;

• Due care;

• Insider trading;

• Voting;

• Remuneration;

• Shareholding.

Bosch Reports 1991-1995

Recommendations Only

• Annual Reports confirm directors will adhere to good corporate governance principles

• If not – then explain

• Identify most important functions of the Board

• Chairman/Chief Executive roles separated

• Audit Committee with majority of non-executives

• Produce code of ethics

• Directors disclose contracts with corporation

• Compensation and nomination committees

Henry Bosch

Hilmer Report 1993

Recommendations Only

• Board strive for above average performance

• Monitor own Board performance

• Chairman non-executive

• Audit Committee

• Independent outside auditor

• Calibre of Board

• Incentives for above average performance

Fred Hilmer

Principles of Good Corporate Governance and

Best Practice Recommendations

• Lay solid foundations for management oversight

• Structure the Board to add value

• Promote ethical and responsible decision making

• Safeguard integrity in financial reporting

• Make timely and balanced disclosure

• Respect shareholder rights

• Recognise and manage risk

• Encourage enhanced performance

• Remunerate fairly and reasonably

• Recognise legitimate interests of stakeholders [ASX Code]

But!!

• Market control;

• Regulatory control;

• Political and cultural control.

• China stock

market hit by

biggest one-day

fall since 2007

• 30 June: Greek

failure to make IMF

payment deals

historic blow to

eurozone

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Components of Corporate Governance

Component Examples

Parties Board of Directors, CEO, Management,

Shareholders, other stakeholders.

Principles

Good corporate citizen, Performance

reporting, Monitoring & evaluation,

Compliance & risk management,

Independent review & verification.

Culture &

Values

Honesty, integrity, openness, performance

orientation, responsibility, mutual respect,

commitment to organisation.

Tools Codes, charters, committees, delegations,

policies & procedures, KPIs.

Corporate Crimes

• Fraud;

• Embezzlement;

• Price fixing;

• Health and safety;

• Tax evasion;

• Bribery;

• Undisclosed political donations.

Ray Williams,

HIH

Trevor Flugge, AWB

Rodney Adler, One.Tel, HIH

Punishment?

• White collar crime considered not serious

but what about Enron’s CEO!;

• Fines paid by the business;

• Defining who is ultimately responsible;

• Cannot send a company to prison;

• Corporate manslaughter.

Balance Effectiveness

Approaches

• Stakeholder

Approach – the

satisfaction of groups

that have a stake in

organisational

performance can be

assessed as an

indicator of

performance

Owners Financial return

Employees Satisfaction, pay,

supervision

Customers Quality

Creditors Creditworthiness

Community Contribution to

community affairs

Suppliers Quality of goods,

timeliness

Government Obedience to laws,

regulation

Corporate Governance Issues

• Quality of directors;

• Performance;

• Shareholder rights;

• Executive compensation;

• Structure of Board of Directors;

• Auditing;

• Financial reporting;

• Stakeholder participation;

• Organisational ethics.

Seven key issues for 2014?

1. Strategy 2. Organisational culture 3. The economy 4. The new government and

regulatory change 5. Mergers and

acquisitions 6. Emerging directors and

diversity 7. Executive remuneration

Challenges After GFC

• Improve public

confidence & trust;

• Communicate more

clearly to all stakeholders;

• Develop more

transparency;

• Participation of

shareholders;

• Maintain ethical

standards.

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The basic governance problem

• Dilemma of main concern is the agency problem

• Arises as a consequence of the separation of

ownership and control

• Owners (principals) hire managers (agents) to run

the firm in the best interest of the owners

• How ensure that managers really act in

accordance with the principals’ interest?

• Agency theory seeks to raise efficient solutions to

the agency problem; law, reputation, monitoring,

incentives etc.

The extended agency problem

• The firm has

more than two

actors (owners

and managers)

The extended agency problem

 Boards: elected by shareholders to perform monitoring of management

 Owners: private individuals, institutional investors, hedge funds. Differing incentives and agendas.

 Stakeholders:  Creditors  Employees  Suppliers  Customers  Governments

Why governance?

• Crucial for financial performance

• Aims to ensure good decision making

• Create checks and balances and prevent

abuse of power

• The rise of institutional investors have led

corporate governance to become a

fashionable topic

• Corporate failures and scandals attracted

additional attention to the field

Summary

• Corporate governance essentially concerns

how various mechanisms contribute to the

creation of value in corporations

• The variety of mechanisms available is

important, as it allows investors and

managers to make choices suitable for the

individual firm

• Some corporate governance essentially

concerns finance: how to best utilise the

huge savings accumulated by institutional

investors

Conclusion

[Justice Owen, “Report of the HIH Royal Commission”]

“For me, the key to good corporate governance lies in substance, not form. It is about the way

in which the directors of a company create and develop a model to fit the circumstances

of the company and then test it periodically for its practical effectiveness.

One thing is clear, though. Whatever the model, the public must know about it and how it is

operating in practice. Disclosure should be a central feature of any corporate governance

regime.” The Hon Justice Neville Owen

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Final Thought

“Corporate Governance is a key element

in improving economic efficiency and

growth, as well as in enhancing investor

confidence.”

[OECD 2004

“Principles of Corporate Governance.”]

Final, Final Thought!!

“If you have got the right sort of people in the

place you are not going to have a problem. If

they have the right moral fibre, you are just

not going to have a problem.”

[Young S & Thyil V [2008] “Principles-Based Anglo Governance Systems is not a Science but

an Art” Corporate Ownership and Control Vol. 6 Issue 1 Fall pp 127-137]

Next week

• Corporate governance theories

• Form groups for Assignment 2