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CORPORATE GOVERNANCE : AN OVERVIEW

CORPORATE GOVERNANCEZeenat JabbarOBJECTIVESOver the past three decades, the concept of corporate governance has gone through a metamorphosis. Theoretically, from one that was related to agency cost, it is now perceived to encompass everyones interests. This chapter discusses the theoretical basis, mechanisms and the divergent models of corporate governance and culminates in the identification of an ideal corporation.OUTLINEThe Concept of CorporationTheoretical Basis of Corporate GovernanceAgency TheoryStewardship TheoryStakeholder TheoryCorporate Governance MechanismsCorporate Governance SystemsIndian Model of Governance What Is Good Corporate GovernanceObligation to Society at LargeObligation to InvestorsObligation to EmployeesObligation to CustomersManagerial Obligation

What is a Corporate?The term corporate refers to an association of many persons, who contribute money or moneys worth to a common stock and employ it in some trade or business, and who share the profit and loss arising therefrom. The common stocks so contributed is denoted in money and is the capital of the company. The persons who contribute it, or to whom it belongs, are its members. The proportion of the capital to which each member is entitled is his share. Shares are always transferable, although the right to transfer them is often more or less restricted.What is Governance?Governance is the process of decision making and the process by which decisions are implemented or not implemented.Characteristics of a CorporationIncorporated AssociationArtificial Legal ExistencePerpetual ExistenceCommon SealExtensive MembershipSeparation of Management and OwnershipLimited LiabilityTransferability of sharesTheoretical Basis of Corporate Governance Agency TheoryProblems with the Agency TheoryStewardship TheoryShareholder Vs Stakeholder ApproachesStakeholder TheoryCriticisms of the Stakeholder TheorySociological TheoryBehavioural DifferencesTHEORYAGENCYSTEWARDSHIPManagers act asAgentsStewardsGovernance ApproachMaterialisticSociological and PsychologicalBehaviour Pattern Individualistic Opportunistic Self-servingCollectivistic Pro-organisational TrustworthyManagers motivated byTheir own objectivesPrincipals objectivesManagers and Principals InterestsDifferConvergeManagement Structures Monitor and controlFacilitate and empowerOwners AttitudeRisk AvoidanceRisk takenPrincipal Manager Relationship based onControlTrustPsychological MechanismsPSYCHOLOGICALRESPONSESAGENCY THEORYSTEWARDSHPTHEORYMotivation Lower order needs Extrinsic needs Higher order needs Intrinsic needsSocial comparisonCompatriotsPrincipalAttachmentLittle attachment to companyGreat attachment to companyPowerInstitutionalPersonalSituational MechanismsSITUATIONALRESPONSESAGENCY THEORYSTEWAREDSHIPTHEORYManagement PhilosophyControl orientedInvolvement orientedWhile dealing with increasingUncertainty and riskGreater controls More supervisionsTraining and empowering people Making jobs to be more challenging and motivatingRisk orientationThrough a system of control Through trustTime frameShort term basedLong term basedObjectiveCost controlImproving performance Cultural differencesIndividualism Large power distanceCollectivism Small power distanceCorporate Governance Mechanisms

The Importance of Corporate GovernanceContemporary Corporate Governance SituationGrowing Awareness and Societal Responses Corporate Governance SystemsAnglo-American ModelThe German ModelThe Japanese ModelIndian Model of Corporate GovernanceFig.1 : The Anglo-American ModelCompanyOfficers(Managers)Board of Directors(Supervisors)Legal/Regulatory SystemStakeholdersCreditorsShareholdersElectMonitors & RegulatesLien on OwnStake inAppoints & SupervisesManageFig.2 : The German ModelCompany

Management Board(Including Labour Relations Officer)Supervisory BoardEmployees and Labour Unions

ShareholdersAppoints and SupervisesAppoint 50%Appoint 50%ManageFig.3 : The Japanese ModelCompany

Executive Management(Primarily Board of Directors)

PresidentSupervisory Board(Including President)

Main Bank

Shareholders

Provides Loans

elect

Ratifies the PresidentsDecisions

Consults

Manages

Provides Loans

Owns

Own

Provides ManagersMonitors & Acts in Emergencies

Fig.4 : Indian Corporate Governance ModelExternal Environment

Government Regulations,Corporate Culture, Structure,Policies, Guidelines etc.Characteristics, Influences

Company ActsDepositors, Borrowers,SEBICustomers and otherStock Exchanges External StakeholdersInternal Environment

Company vision; mission, policies, norms

Internal Auditors Stakeholders Board of Directors

Proper governance Shareholder value

Corporate Governance Outcomes / Benefits to Society

Transparency

Investor protectionConcern for customerHealthy corporate sector development

CORPORATEGOVERNANCESYSTEMWhat Is Good Corporate Governance?

Obligation to society at large

National Interest Political Non-alignment Legal Compliances Rule of Law Honest and Ethical Conduct Corporate Citizenship Ethical Behaviour Social Concerns Corporate Social Responsibility

Obligation to investorsEnvironment-friendlinessHealth, Safety and Working EnvironmentCompetition Trusteeship AccountabilityEffectiveness and EfficiencyTimely ResponsivenessCorporations Should Uphold the Fair Name of the Country Towards Shareholders Measures Promoting Transparency and Informed Shareholder ParticipationTransparencyFinancial Reporting and RecordsObligation to customers

Quality of Products and ServicesProducts at Affordable PricesUnwavering Commitment to Customer SatisfactionObligation to employeesFair Employment Practices Equal-opportunities Employer Encouraging Whistle BlowingHumane Treatment

ParticipationEmpowermentEquity and InclusivenessParticipative and Collaborative Environment Managerial obligationProtecting Companys AssetsBehaviour Towards Government AgenciesControlConsensus OrientedGifts and Donations Role and Responsibilities of Corporate Board and DirectorsDirection and Management must be DistinguishedManaging and Whole-Time Directors

Johnson & Johnsons excellent Credo exemplarily epitomises what an ideal corporate should aspire to be.

Our Credo

We believe our first responsibility is to the doctors, nurses and patients,to mothers and fathers and all others who use our products and services.In meeting their needs everything we do must be of high quality.We must constantly strive to reduce our costsin order to maintain reasonable prices.Customers' orders must be serviced promptly and accurately.Our suppliers and distributors must have an opportunity to make a fair profit.

We are responsible to our employees,the men and women who work with us throughout the world.Everyone must be considered as an individual.We must respect their dignity and recognize their merit.

They must have a sense of security in their jobs.Compensation must be fair and adequate,and working conditions clean, orderly and safe.We must be mindful of ways to help our employees fulfill their family responsibilities.Employees must feel free to make suggestions and complaints.There must be equal opportunity for employment, developmentand advancement for those qualified.We must provide competent management,and their actions must be just and ethical.

We are responsible to the communities in which we live and workand to the world community as well.We must be good citizens support good works and charitiesand bear our fair share of taxes.We must encourage civic improvements and better health and education.We must maintain in good orderthe property we are privileged to use,protecting the environment and natural resources. Our final responsibility is to our stockholders.Business must make a sound profit.We must experiment with new ideas.Research must be carried on, innovative programs developed and mistakes paid for.New equipment must be purchased, new facilities provided and new products launched.

Reserves must be created to provide for adverse times.When we operate according to these principles,the stockholders should realize a fair return. Johnson & JohnsonCorporate Governance in IndiaProblemsInadequate Sanction and Enforcement.No clear demarcation of control mechanisms between SEBI, DCA and Stock Exchanges.Lack of Professionalism of DirectorsInstitutional Investors show poor commitmentIndian boards are not professionalUnindependent Independent directorsWhistle Blower Policy not in place

Too many unlisted companiesAccounting gimmicksPoor Shareholder participationObliging auditorsSoft State, lethargic judiciary, inefficient market regulator, poor enforcement machinery, and a value system which is indifferent to moral turpitudes.However things are improving nowThe market is competition drivenProfessional new players are coming inHigh growth in market capitalisationWell-focussed, well-researched portfolio investorsMedia influences Influence of banks and financial institutionsRealisation among Indian companies of the benefits of corporate governance andImpending Capital Account Convertibility will exert its own pressure.

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