Corporate governance

Session 14

Organizational purposes
Corporate governance -Whom should the organization serve? -How should purposes be determined? Business Ethics -Which purposes should be prioritized? Why?

Stakeholder -Whom does the organization serve?

Organizational purposes -Mission -Objectives

Cultural context -Which purposes are prioritized? -Why?

 Ethics
What is the objective of the firm/sca/stakeholdrs objective/creating value Why does the firm exist, and in the form it does

CSR
Who are the stakeholders- what type, how do we understand them

Governance
How are the stakeholders interests/objectives taken care of ?

Ethics
The principle of conduct professional ethics A system or philosophy of conduct A discipline dealing with what is good and bad- moral duty and obligation A set of moral principles or values.

Ethical standards may be expressed in a companys formal conduct requirements, or contained in generally stated principles that guide a companys preferred conduct or behavior. Most companies have put in place a code of ethics for its employees to conduct themselves in a particular manner while doing business. Code of ethics for certain professions

Why have a code of ethics?

To define acceptable behavior To promote high standards of practice To provide a benchmark for self-evaluation To establish a framework for professional behavior and responsibilities As a vehicle for occupational identity As a mark of occupational maturity.

Moral theories and organizational ethics

Ethical fundamentalism: external source of ethics Utilitarianism: behaviour that maximises welfare Kantian ethics: universal rules- all cases treated alike, exception in one becomes the general rule Rawls- social justice , veil of ignorance Ethical relativism: each having its own standard

Stakeholder approach
In defining or redefining the company mission, strategic managers must recognize the legitimate rights of the firms claimants. These include outside stakeholders affected by the firms actions.

Steps to include stakeholders

1. Identification of stakeholders 2. Understanding stakeholders specific claims vis--vis the firm 3. Reconciliation of these claims and assignment of priorities 4. Coordination of the claims with other elements of the company mission

Dynamics of social responsibility

Inside vs. Outside Stakeholders Duty to serve society plus duty to serve stockholders Flexibility is key Firms differ along:
Competitive Position Industry Country Environmental Pressures Ecological Pressures

Social responsibility- facets

Economic the duty of managers, as agents of the company owners, to maximize stockholder wealth Legal the firms obligations to comply with the laws that regulate business activities Ethical the companys notion of right and proper business behavior. Discretionary voluntarily assumed by a business organization.

The paradox of value

The companies that are most successful in creating long term shareholder value are typically those that:
a) Have a missionThey give precedence to goals other than profitability and shareholder return; b) Have strong, consistent, ethical values.

Theories of social responsibility

Maximising profits: duty to make profits Moral Minimum: make profits while avoiding harm, follow all laws, compensate for harm. Stakeholder interests: consider effects on stakeholders other than shareholders Corporate citizenship: business has responsibility to do good, to solve social problems

What is corporate governance?

Corporate Governance is concerned with holding the balance between economic and social goals and between individual and communal goals. The corporate governance framework is there to encourage the efficient use of resources and equally to require accountability for the stewardship of those resources. The aim is to align as nearly as possible the interests of individuals, corporations and society - Sir Adrian Cadbury

Corporate Governance in India

Corporate governance in India was initially driven by an industry association, the Confederation of Indian Industry
In December 1995, CII set up a task force to design a voluntary code of corporate governance The final draft of this code was widely circulated in 1997 In April 1998, the code was released. It was called Desirable Corporate Governance: A Code Between 1998 and 2000, over 25 leading companies voluntarily followed the code: Bajaj Auto, Hindalco, Infosys, Dr. Reddys Laboratories, Nicholas Piramal, Bharat Forge, BSES, HDFC, ICICI and many others

 Following CIIs initiative, the Securities and Exchange Board of India (SEBI) set up a committee under Kumar Mangalam Birla to design a mandatory-cumrecommendatory code for listed companies The Birla Committee Report was approved by SEBI in December 2000 Became mandatory for listed companies through the listing agreement, and implemented according to a rollout plan

 Following CII and SEBI, the Department of Company Affairs (DCA) modified the Companies Act, 1956 to incorporate specific corporate governance provisions regarding independent directors and audit committees In 2001-02, certain accounting standards were modified to further improve financial disclosures. These were: Disclosure of related party transactions Disclosure of segment income: revenues, profits and capital employed Deferred tax liabilities or assets Consolidation of accounts Initiatives are being taken to (i) account for ESOPs, (ii) further increase disclosures, and (iii) put in place systems that can further strengthen auditors independence

Constituents of Corporate Governance

The Board of Directors Pivotal role Accountable to stakeholders Directs management The Shareholders & Stakeholders To participate in appointment of directors To hold the BoD accountable for governance through proper disclosures The Management To act on the direction of the BoD To provide requisite information to the BoD for decision making To implement and monitor control systems

 An effective disclosure based regulation (DBR) implies greater responsibilities on the company directors, its management and advisers An effective DBR promotes investor activism Markets believe that perceived benefits outweigh perceived costs

 Agency theory is a set of ideas on organizational control based on the belief that the separation of the ownership from management creates the potential for the wishes of owners to be ignored.

Agency theory and agency costs

The cost of agency problems plus the cost of actions taken to minimize agency problems are collectively termed agency costs. Executives are often free to pursue their own interests because of the disproportionate access they have to company information. This is the moral hazard problem. Adverse selection is an agency problem caused by the limited ability of stockholders to determine the competencies and priorities of executives at hire

Problems arising from agency issues

Executives pursue growth in company size rather than earnings Executives attempt to diversify their corporate risk Executives avoid healthy risk Managers act to optimize their personal payoffs Executives protect their status

Major board responsibilities

Establish and update mission Elect top officers & CEO Establish compensation for top officers Determine amount & timing of dividends Set broad company policy Set objectives and authorize managers to implement long-term strategy Mandate companys legal and ethics compliance

Aligning top management incentives

Stock Option Plans Bonus plans Incentives for Long-Term Performance

 Owners pay executives a premium for their service to increase loyalty Executives receive back-loaded compensation. Creating teams of executives across different units of a corporation can help to focus performance measures on organizational rather than personal goals.

Sarbanes Oxley Act of 2002- US

CEO and CFO must certify every report containing companys financial statements Restricted corporate control of executives, accounting firms, auditing committees, and attorneys Specifies duties of registered public accounting firms that conduct audits Composition of the audit committee and specific responsibilities Rules for attorney conduct Disclosure periods are stipulated Stricter penalties for violations

Consequences
Restructuring governance structure in American corporations Heightened role of corporate internal auditors Auditors now routinely deal directly with top corporate officials CEO information provided directly by the companys chief compliance and chief accounting officers