Week 5 Chapter 6 Corporate Governance
Corporate Governance • Corporate governance is the formal system of control and accountability for organizational decisions and resource management. • Accountability: relates to how well decisions are aligned with a firm’s stated strategic direction • Control: involves the process of auditing and improving organiztional decisions and actions.
Major issues • From Table 6.1: • Shareholder rights • Executive compensation • Corporate culture • Board composition and structure • Disclosure and transparency • CEO selection and executive succession
Models of Corporate Governance • Shareholder model • Maximizes of wealth for investors and owners. • Develops and improves the formal system of performance. • Agency problems - need to balance interests between management and investors. • Criticized for its singularity of purpose.
Models of Corporate Governance (cont.) • Stakeholder model • Broader purspose for business • Assumes a collaborative and relationalapproach to business. • Considers stakeholder welfare in tandem with coporate needs. • Promotes long term relationships with primary stakeholders
History of Corporate Governance • Late 1800’s - early 1900’s: “Captains of Industry” • Mid 1900’s - Separation of ownership and control • Hard to align the interests of principals and agents. • Fostered short-term view • Birth of shareholder activism; 1932 • U.S. Securities & Exchange Commission (SEC) formed. • Required shareholder resolutions to be brought to a vote of all shareholders. Short-term view.
History of Corporate Governance (cont.) • Mid-1990’s—Boards of directors • Play a greater role in strategy formulation, and there is movement toward corporate governance committees. • 2002—Sarbanes-Oxley Act • Response to lack of effective control and accountability mechanisms
Boards of Directors • Assume legal responsibility for firm’s resources and strategic decisions. • Maintain a fiduciary duty. • Appoint top executive officers. • Monitor decisions made by managers on behalf of the company. • Rarely, if ever perform management function.
Issues in Corporate Governance Systems • Boards of directors • Independence (“outside directors”) • Quality and experience (not spread too thin) • Focus on long term performance • Shareholders and investors • Activism (resolutions, lawsuits) • Social investing (75%) • Investor confidence increases stock value
Environmental Workplace equity and safety Product safety and testing Global operations Human rights www.greenmoney.com www.goodfunds.com www.calvertfoundation.org www.socialinvest.org Social Investing Selection Criteria
Internal Control and Risk Management • Allow for comparison between goals and actual performance • Controls - help to safeguard corporate assets and resources, protect the reliability of organizational information, and ensure compliance with regulations, laws and contracts. • Limit employee and management opportunism. • Ensure that board members have access to timely and quality information. • Risk Management - to anticipate and shield from unnecessary or overwhelming circumstances. • Minimize negative situations. • Uncertainty needs to be hedged.
Executive Compensation • The average executive makes 600 times the average worker’s salary. • Up from 40 times the average salary in the ’60s. • Two contrasting perspectives • Executives assume a great deal of risk and therefore deserve great rewards. • No executive is worth millions of dollars regardless of investor return. • Plans that base achievement on several performance goals and long-term performance are growing in popularity.
OECD Best Practices • Ensure the rights of shareholders to vote and influence corporate strategy. • Recruit greater number of skilled, independent members on boards of directors. • Eliminate techniques that protect failing management and strategy. • Promote wider use of international accounting standards. • Promote better disclosure of executive pay and remuneration.
Future of Corporate Governance • Boards will be held responsible for developing company purpose statements that cover stakeholder interests. • Annual reports will include more nonfinancial information. • Boards will be required to perform self-assessments. • Board member selection process will become increasingly formalized (less networking). • Boards will need to work more as teams.
Future of Corporate Governance (cont.) • Board membership will require more time. • Focus will move from a shareholder model to a stakeholder model. • Systems will ensure greater organizational-level accountability and control. • General support for corporate governance will rise. • Governments will play a more significant role.