The Business Case For Corporate Governance

An Affiliate of the U.S. Chamber of Commerce

CENTER FOR INTERNATIONAL PRIVATE ENTERPRISE

Aleksandr ShkolnikovBeirut, Lebanon, July 1 2008

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Drivers of Corporate Drivers of Corporate Governance Governance Dealing with Dealing with Failures and ScandalsFailures and Scandals• Chile Financial Crisis 1970s Chile Financial Crisis 1970s • Asian Financial Crisis 1997Asian Financial Crisis 1997• Russian Financial Crisis 1998Russian Financial Crisis 1998• Enron, WorldCom, Parmalat, etc.Enron, WorldCom, Parmalat, etc.• Impact of governance failures on:Impact of governance failures on:

• CompaniesCompanies• SocietiesSocieties• EconomiesEconomies

• Challenges today: Who is next?Challenges today: Who is next?

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Drivers of Corporate Drivers of Corporate Governance Governance In Search of BenefitsIn Search of Benefits

• Search for Search for investment (FDI investment (FDI trends)trends)

• Cost of capitalCost of capital• PrivatizationPrivatization• SOE reformSOE reform• Competitiveness Competitiveness

pressurespressures• SustainabilitySustainability

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Morocco Egypt Russia EasternEurope

The premium investors would pay for a well-governed company (McKinsey)

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Corporate Governance and Corporate Governance and

CompetitivenessCompetitiveness Stronger Shareholder Protection=Larger Stock Markets

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Corporate Governance and Corporate Governance and

CompetitivenessCompetitiveness Stronger Corporate Governance=Lower Cost of Capital

No need for investmentNo need for investment

• My company has enough (access to) My company has enough (access to) capital – why do I need corporate capital – why do I need corporate governance?governance?• Access to markets/competitionAccess to markets/competition• Combating corruptionCombating corruption• PartnershipsPartnerships• ProcurementProcurement• Managing conflict of interestManaging conflict of interest• Increase the value of a company (sale)Increase the value of a company (sale)

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Preventing Corporate Preventing Corporate RaidingRaiding• Raiding – using legal and extra legal Raiding – using legal and extra legal

means to expropriate ownership of a means to expropriate ownership of a companycompany

• Increasingly popular in emerging Increasingly popular in emerging markets with weak rule of lawmarkets with weak rule of law

• How does corporate governance help?How does corporate governance help?• TransparencyTransparency• EnforcementEnforcement• Institutional reformsInstitutional reforms

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Family FirmsFamily Firms

• Does Corporate Governance Matter?Does Corporate Governance Matter?• Risks associated with:Risks associated with:

• Family growth higher than profitability growthFamily growth higher than profitability growth• Succession planningSuccession planning• Separation of company and familySeparation of company and family• Maintenance of professionalismMaintenance of professionalism• NepotismNepotism• RivalryRivalry

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Family FirmsFamily Firms

• Benefits (CIPE/IBGC study of 15 family Benefits (CIPE/IBGC study of 15 family firms in Brazil)firms in Brazil)• ProfessionalizationProfessionalization• Formalization of the work processFormalization of the work process• Improved decision-making of the top Improved decision-making of the top

managementmanagement• Ability to attract and retain personnelAbility to attract and retain personnel• Better accounting practicesBetter accounting practices• Greater brand reputationGreater brand reputation

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Internal Controls and Internal Controls and EthicsEthics

TI’s Business Principles for Countering BriberyTI’s Business Principles for Countering Bribery• Political and philanthropic contributions, gifts, hospitality, etc.Political and philanthropic contributions, gifts, hospitality, etc.• Facilitation payments! Facilitation payments!

Implementing the principles requires that:Implementing the principles requires that:• Boards of directors take formal responsibilityBoards of directors take formal responsibility• Effective whistle-blowing channels exist Effective whistle-blowing channels exist • Embedded internal control measuresEmbedded internal control measures• Formal accounting procedures set up that check for briberyFormal accounting procedures set up that check for bribery• Internal communication and trainingInternal communication and training

Benefits to ShareholdersBenefits to Shareholders

• Protect the rights of minority Protect the rights of minority shareholdersshareholders

• Protect the rights of foreign shareholdersProtect the rights of foreign shareholders• Clear and predictable rules of the gameClear and predictable rules of the game• Boards act in the best interest of a Boards act in the best interest of a

company, not in their own best interestcompany, not in their own best interest• Bottom line: corporate governance Bottom line: corporate governance

reduces riskreduces risk

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CG as a Financial Risk CG as a Financial Risk ToolTool

• New push for corporate New push for corporate governance in the financial sectorgovernance in the financial sector

• Basel II: re-assess risk factors in Basel II: re-assess risk factors in loan decisions – how?loan decisions – how?

• Corporate governance as a Corporate governance as a means of risk assessment in the means of risk assessment in the provision of loansprovision of loans

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CG Benefits vs. CG CrisesCG Benefits vs. CG Crises

Who defines the agenda?Who defines the agenda?

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Corporate Governance:Corporate Governance:Key Institutions Must Function Key Institutions Must Function WellWell

• Procedures for bankruptcyProcedures for bankruptcy• Property rightsProperty rights• Contract enforcement – Judicial systemContract enforcement – Judicial system• Enforcement mechanismsEnforcement mechanisms• Securities marketsSecurities markets• Free press – financial pressFree press – financial press• Ratings agencies et al. Ratings agencies et al. • Other checks and balancesOther checks and balances