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Corporate governance is the structure of rules, practices and processes by which a company is directed.
Table of contents
- corporate governance
- Promoting Better Companies in Emerging Markets
- What is corporate governance?
- Mentioned in These Terms
- About Corporate Governance | What is Corporate Governance
Corporate Governance refers to the way in which companies are governed and to what purpose. It identifies who has power and accountability, and who makes decisions. It is, in essence, a toolkit that enables management and the board to deal more effectively with the challenges of running a company. Corporate governance ensures that businesses have appropriate decision-making processes and controls in place so that the interests of all stakeholders shareholders, employees, suppliers, customers and the community are balanced.
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In finance, directorate is sometimes used in place of "board An outside director is a member of a company's board of directors Fund boards oversee management and operations of the fund on behalf of shareholders. Make sure you've got a board that will look out for you. Shareholders are getting a bigger say in how companies are run. Find out how you can be heard. Each year, public companies hold shareholder meetings where individual and institutional investors vote on the future. Here is what to watch in Governments, the biggest influence in the markets today, can create some unintended consequences.
Government contracts can be rewarding, but they also come with a variety of risks. The government allows itself the leeway to do many things that would be illegal for a private citizen or corporation. Several parties are supposed to be responsible for protecting and managing shareholders' interests, including the company's Understand the usual voting rights of common stock shareholders, along with the importance of shareholders exercising their As a rule, compliance with these governance recommendations is not mandated by law, although the codes linked to stock exchange listing requirements may have a coercive effect.
The investor-led organisation International Corporate Governance Network ICGN was set up by individuals centered around the ten largest pension funds in the world The aim is to promote global corporate governance standards. The network is led by investors that manage 18 trillion dollars and members are located in fifty different countries. ICGN has developed a suite of global guidelines ranging from shareholder rights to business ethics.
Strategic challenges for business in the use of corporate responsibility codes, standards, and frameworks. In , the International Finance Corporation and the UN Global Compact released a report, Corporate Governance - the Foundation for Corporate Citizenship and Sustainable Business , linking the environmental, social and governance responsibilities of a company to its financial performance and long-term sustainability.
Most codes are largely voluntary.
An issue raised in the U. For example, the guidelines issued by associations of directors, corporate managers and individual companies tend to be wholly voluntary but such documents may have a wider effect by prompting other companies to adopt similar practices. The modern practice of corporate governance has its roots in the 17th-century Dutch Republic. Wright argues in Corporation Nation that the governance of early U. Means pondered on the changing role of the modern corporation in society.
US economic expansion through the emergence of multinational corporations after World War II saw the establishment of the managerial class. Several Harvard Business School management professors studied and wrote about the new class: Myles Mace entrepreneurship , Alfred D.
According to Lorsch and MacIver "many large corporations have dominant control over business affairs without sufficient accountability or monitoring by their board of directors". In the s, Eugene Fama and Michael Jensen  established the principal—agent problem as a way of understanding corporate governance: In the period from to , corporate directors' duties in the U.
In the first half of the s, the issue of corporate governance in the U. The California Public Employees' Retirement System CalPERS led a wave of institutional shareholder activism something only very rarely seen before , as a way of ensuring that corporate value would not be destroyed by the now traditionally cozy relationships between the CEO and the board of directors for example, by the unrestrained issuance of stock options, not infrequently back-dated.
In the early s, the massive bankruptcies and criminal malfeasance of Enron and Worldcom , as well as lesser corporate scandals such as those involving Adelphia Communications , AOL , Arthur Andersen , Global Crossing , and Tyco led to increased political interest in corporate governance.
This was reflected in the passage of the Sarbanes-Oxley Act of In the East Asian Financial Crisis severely affected the economies of Thailand , Indonesia , South Korea , Malaysia , and the Philippines through the exit of foreign capital after property assets collapsed. The lack of corporate governance mechanisms in these countries highlighted the weaknesses of the institutions in their economies. However, using stock return as a performance measure revealed a weak positive relationship between the efficiency of corporate governance structure and bank performance.
This is a list of countries by average overall rating in corporate governance: Key parties involved in corporate governance include stakeholders such as the board of directors, management and shareholders.
Promoting Better Companies in Emerging Markets
External stakeholders such as creditors, auditors, customers, suppliers, government agencies, and the community at large also exert influence. The agency view of the corporation posits that the shareholder forgoes decision rights control and entrusts the manager to act in the shareholders' best joint interests. Partly as a result of this separation between the two investors and managers, corporate governance mechanisms include a system of controls intended to help align managers' incentives with those of shareholders.
Agency concerns risk are necessarily lower for a controlling shareholder. In private for-profit corporations, shareholders elect the board of directors to represent their interests. In the case of nonprofits, stakeholders may have some role in recommending or selecting board members, but typically the board itself decides who will serve on the board as a 'self-perpetuating' board. Smale wrote in That responsibility cannot be relegated to management.
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The board has responsibility for: CEO selection and succession; providing feedback to management on the organization's strategy; compensating senior executives; monitoring financial health, performance and risk; and ensuring accountability of the organization to its investors and authorities. Boards typically have several committees e. All parties to corporate governance have an interest, whether direct or indirect, in the financial performance of the corporation. Directors, workers and management receive salaries, benefits and reputation, while investors expect to receive financial returns.
For lenders, it is specified interest payments, while returns to equity investors arise from dividend distributions or capital gains on their stock. Customers are concerned with the certainty of the provision of goods and services of an appropriate quality; suppliers are concerned with compensation for their goods or services, and possible continued trading relationships.
These parties provide value to the corporation in the form of financial, physical, human and other forms of capital. Many parties may also be concerned with corporate social performance. A key factor in a party's decision to participate in or engage with a corporation is their confidence that the corporation will deliver the party's expected outcomes. When categories of parties stakeholders do not have sufficient confidence that a corporation is being controlled and directed in a manner consistent with their desired outcomes, they are less likely to engage with the corporation.
When this becomes an endemic system feature, the loss of confidence and participation in markets may affect many other stakeholders, and increases the likelihood of political action. There is substantial interest in how external systems and institutions, including markets, influence corporate governance. Control and ownership structure refers to the types and composition of shareholders in a corporation.
In some countries such as most of Continental Europe, ownership is not necessarily equivalent to control due to the existence of e. Some features or types of control and ownership structure involving corporate groups include pyramids, cross-shareholdings , rings, and webs. German "concerns" Konzern are legally recognized corporate groups with complex structures.
Cross-shareholding are an essential feature of keiretsu and chaebol groups . Corporate engagement with shareholders and other stakeholders can differ substantially across different control and ownership structures.
What is corporate governance?
Family interests dominate ownership and control structures of some corporations, and it has been suggested that the oversight of family-controlled corporations are superior to corporations "controlled" by institutional investors or with such diverse share ownership that they are controlled by management.
One of the biggest strategic advantages a company can have is blood ties," according to a Business Week study  . The significance of institutional investors varies substantially across countries. While the majority of the shares in the Japanese market are held by financial companies and industrial corporations, these are not institutional investors if their holdings are largely with-on group.
Mentioned in These Terms
The largest pools of invested money such as the mutual fund ' Vanguard ', or the largest investment management firm for corporations, State Street Corp. The idea is this strategy will largely eliminate individual firm financial or other risk. A consequence of this approach is that these investors have relatively little interest in the governance of a particular corporation. It is often assumed that, if institutional investors pressing for changes decide they will likely be costly because of " golden handshakes " or the effort required, they will simply sell out their investment.
Corporate governance mechanisms and controls are designed to reduce the inefficiencies that arise from moral hazard and adverse selection. There are both internal monitoring systems and external monitoring systems. Furthermore, the various board mechanisms provide for internal monitoring. External monitoring of managers' behavior, occurs when an independent third party e. Stock analysts and debt holders may also conduct such external monitoring.
An ideal monitoring and control system should regulate both motivation and ability, while providing incentive alignment toward corporate goals and objectives.
About Corporate Governance | What is Corporate Governance
Care should be taken that incentives are not so strong that some individuals are tempted to cross lines of ethical behavior, for example by manipulating revenue and profit figures to drive the share price of the company up. Internal corporate governance controls monitor activities and then take corrective actions to accomplish organisational goals. In publicly traded U. While this practice is common in the U. External corporate governance controls the external stakeholders' exercise over the organization.
The board of directors has primary responsibility for the corporation's internal and external financial reporting functions. The Chief Executive Officer and Chief Financial Officer are crucial participants and boards usually have a high degree of reliance on them for the integrity and supply of accounting information. They oversee the internal accounting systems, and are dependent on the corporation's accountants and internal auditors. Current accounting rules under International Accounting Standards and U. GAAP allow managers some choice in determining the methods of measurement and criteria for recognition of various financial reporting elements.