corporate governance conclusion essay

Corporate Governance in India: Need, Importance and Conclusion

Let us make in-depth study of the need, importance and conclusion of corporate governance in India.

Need of Corporate Governance:

The need for corporate governance has arisen because of the increasing concern about the non-compliance of standards of financial reporting and accountability by boards of directors and management of corporate inflicting heavy losses on investors.

The collapse of international giants likes Enron, World Com of the US and Xerox of Japan are said to be due to the absence of good corporate governance and corrupt practices adopted by management of these companies and their financial consulting firms.

The failures of these multinational giants bring out the importance of good corporate governance structure making clear the distinction of power between the Board of Directors and the management which can lead to appropriate governance processes and procedures under which management is free to manage and board of directors is free to monitor and give policy directions.

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In India, SEBI realised the need for good corporate governance and for this purpose appointed several committees such as Kumar Manglam Birla Committee, Naresh Chandra Committee and Narayana Murthy Committee.

Importance of Corporate Governance:

A good system of corporate governance is important on account of the following:

1. Investors and shareholders of a corporate company need protection for their investment due to lack of adequate standards of financial reporting and accountability. It has been noticed in India that companies raised capital from the market at high valuation of their shares by projecting wrong picture of the company’s performance and profitability.

The investors suffered a lot due to unscrupulous management of corporate that performed much less than reported at the time of rais­ing capital. “Bad governance was also exemplified by allotment of promoters’ share at preferential prices disproportionate to market value affecting minority holders interest”.

There is increasing awareness and consensus among Indian investors to invest in companies which have a record of observing practices of good corporate governance. Therefore, for encourag­ing Indian investors to make adequate investment in the stock of corporate companies and thereby boosting up rate of growth of the economy, the protection of their interests from fraudulent practices of corporate of boards of directors and management are urgently needed.

2. Corporate governance is considered as an important means for paying heed to investors’ grievances. Kumar Manglam Birla Committee on corporate governance found that companies were not paying adequate attention to the timely dissemination of required information to investors in by India.

Though some measures have been taken by SEBI and RBI but much more required to be taken by the companies themselves to pay heed to the investors grievances and protection of their investment by adopting good standards of corporate governance.

3. The importance of good corporate governance lies in the fact that it will enable the corporate firms to (1) attract capital and (2) perform efficiently. This will help in winning investors confidence. Investors will be willing to invest in the companies with a good record of corporate governance.

New policy of liberalization and deregulation adopted in India since 1991 has given greater freedom to management which should be prudently used to promote investors’ interests. In India there are several instances of corporate’ failures due to lack of transparency and disclosures and instances of falsification of accounts. This discourages investors to make investment in the companies with poor record of corporate governance.

4. Global Perspective. The extent to which corporate enterprises observe the basic principles of good corporate governance has now become an important factor for attracting foreign investment. In this age of globalisation when quantitative restrictions have been removed and trade barriers dis­mantled, the relationship between corporate governance and flows of foreign investment has become increasingly important.

Studies in India and abroad show that foreign investors take notice of well- managed companies and respond positively to them, capital flows from foreign institutional investors (FII) for investment in the capital market and foreign direct investment (FDI) in joint ventures with Indian corporate companies will be coming if they are convinced about the implementation of basic principles of good corporate governance.

Thus, “International flows of capital enable companies to access financing from a large pool of investors. If countries are to reap the full benefits of the global capital markets, and if they are to attract long-term capital, corporate governance arrangements must be credible and well understood across borders”. The large inflows of foreign investment will contribute immensely to economic growth.

5. Indispensable for healthy and vibrant stock market. An important advantage of strong corporate governance is that it is indispensable for a vibrant stock market. A healthy stock market is an important instrument for investors protection. A bane of stock market is insider trading. Insider trading means trading of shares of a company by insiders such directors, managers and other em­ployees of the company on the basis of information which is not known to outsiders of the company.

It is through insider trading that the officials of a corporate company take undue advantage at the expense of investors in general. Insider trading is a kind of fraud committed by the officials of the company. One way of dealing with the problem of insider trading is enacting legislation prohibiting such trading and enforcing criminal action against violators.

In India, insider trading has been rampant and therefore it was prohibited by SEBI. However, the experience shows prohibiting insider trading by law is not the effective way of dealing with the problem of insider trading because legal process of providing punishment is a lengthy process and conviction rate is very low.

According to Sandeep Parekh, an advocate (Securities and Financial Regulations), the effective way of tackling the problem is by encouraging the companies to practice self regulation and taking prophylactic action. This is inherently connected to the field of corporate governance.

It is a means by which the company signals to the market that effective self-regulation is in place and that investors are safe to invest in their securities. In addition to prohibiting inappropriate actions (which might not necessarily be prohibited) self-regulation is also considered an effective means of creating shareholders value. Companies can always regulate their directors/officers beyond what is prohibited by the law”.

Conclusion:

It is evident from above that it is essential that good governance practices must be effectively implemented and enforced preferably by self-regulation and voluntary adoption of ethical code of business conduct and if necessary through relevant regulatory laws and rules framed by Govern­ment or its agencies such as SFBI, RBI.

The effective implementation of good governance practices would ensure investors confidence in the corporate companies which will lead to greater investment in them ensuring their sustained growth. Thus good corporate governance would greatly benefit the companies enabling them to thrive and prosper.

Further, in the context of liberalization and globalisation there is growing realization in the emerging economies including India that a country’s business environment must be maintained and operated in a manner that is conducive to investors’ confidence so that both domestic and foreign investors are induced to make adequate investment in corporate companies. This will be conducive to rapid capital formation and sustained growth of the economy.

Some persons regard certain good corporate practices as ‘irritants’ to the growth of their busi­nesses since they require the implementation of minimum standards of corporate governance. How­ever, fact of the matter is that the observance of practices of good corporate governance will ensure investors’ confidence in the companies which have record of good corporate governance.

Further, it needs to be emphasized that practices and principles of good corporate governance have been evolved which stimulate business rather than stifle it. In fact in good corporate governance structure what is ensured is that companies must preferably follow voluntarily ethical code of busi­ness conduct which are conducive to the expansion of investment in them and ensure good outcome in terms of rates of return.

Related Articles:

• Corporate Governance and Social Responsibility of Business
• Good Corporate Governance and Its Principles
• Corporate Bond Market in India
• Measures Regarding Capital Market Reforms: 5 Measures

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The Principles of Corporate Governance: A Guide to Understanding Concepts of Corporate Governance

A roadmap to understanding the fundamental concepts of corporate governance based on theory, empirical research, and data. This guide takes an in-depth look at the Principles of Corporate Governance .

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Corporate Governance and Corporate Social Responsibility Essay (Critical Writing)

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Introduction

Corporate social responsibility (CSR) is a form of corporate self-regulation incorporated into the business, which functions as an instrument by which a corporation examines and ensures its active conformity with the provisions of the law, ethical norms, and global practices.

The main role of social initiatives is to uphold responsibility and promote a positive impact through its conduct towards the environment, customers, staff, the immediate community, and all members of the public domain (Pearce & Robinson, 2011). In addition, CSR actively promotes the community’s growth and development, and eradicates norms that harm the public, irrespective of legality.

Although there is no single universally accepted definition of CSR, it can be summarized as the intentional inclusion of public interest into corporate decision-making processes, and the honoring of the three corporate pillars: people, planet, and profit.

CSR ensures that a corporation goes beyond its normal requirements so as to handle staff with dignity, operate with integrity and ethics, respect human rights, sustain the environment for future generations, and be responsible in the community (be a good ‘corporate citizen’).

A study conducted by the Fleishman –Hillard in association with the National consumers League came up with the following results regarding the importance of CSR:

From the table, it is evident that CSR programs are very important towards communities and the corporation’s staff.

On the other hand, corporate governance generally refers to the rules, processes, or laws by which corporations are managed, regulated and controlled, and can refer to the internal processes agreed upon by the officers, stockholders or constitution of a corporation, as well as external forces such as consumer groups, customers, and government directives (Brown and Dacin, 1997, pp. 81).

A fundamental theme of corporate governance is the nature and extent of responsibility and accountability of specific individuals in the corporation’s hierarchy, and mechanisms that attempt to eliminate or mitigate the problems that arise due to a lack of corporate governance (Freeman and Jeannen, 1991, pp. 122).

A clearly defined and implemented corporate governance provides a structure that benefits all stakeholders and ensures that the corporation holds onto standard ethical norms and best practices in addition to the formal laws.

Their has been a recent focus on corporate governance among international firms due to the high-profile scandals involving misuse of corporate power that have at times led to the collapse of these corporations. Some of these corporate scandals include the Enron Corporation scandal of 2001 and MCI Inc (previously WorldCom) scandal.

The scandals led to the collapse of these corporations and reminded governments and corporations of the significance or corporate governance. A primary element of corporate governance includes provisions for civil or criminal prosecution of staff who are found guilty of unethical and/or illegal activities due to the power bestowed upon them by the corporation (Gobe, 2002, pp. 12).

Both corporate governance and corporate social responsibility are becoming increasingly important to organizations, governments, and service providers as they strive to meet the challenges of social and economic problems while altering welfare environments and this can be attributed to a number of factors, economic, social, cultural, and legal, and so on.

However, progress in these two areas is often hampered by the fact that the fields are under researched even as corporations face new demands to improve their accountability, transparency, integrity and ethical behavior while observing the interests of its staff and that of the general public (Pearce & Robinson, 2011, pp. 5).

The paper will present a critical analysis of factors that have led many international firms to focus on corporate social responsibility and corporate governance in recent years.

Factors that have led to the increase of Interest in corporate social responsibility and corporate governance

Economic factors.

The importance of corporate governance lies in its contribution both to the success of the business and to accountability. Companies that have embraced corporate governance, mostly public companies, are today regarded as the most accountable companies.

They make their trading results public, and they are required to disclose as much information as possible about their dealings, relationships, remuneration and government arrangements. The importance of accountability was evident in the prosperity made by Cadbury Inc.

However, business prosperity cannot be forced or commanded, it requires the collective contribution of people through teamwork, effective leadership, enterprise, experience and skills (Cochran and Wood, 1984, pp. 43).

There is no single strategy for bringing these elements together, and it is risky to encourage the notion that rules and regulations on structure will automatically deliver success. On the other hand, accountability must be accompanied by rules and regulations, in which disclosure is the central facet.

Therefore, since corporate governance emphasizes on accountability, an international corporation or business will be able to bring together the above-mentioned elements to ensure prosperity in its operations in various locations around the world (Pearce & Robinson, 2011, pp. 122).

Rules and regulations instituted by the committee at the home country are relayed across all divisions, branches and franchises around the world and this results in success in these individual locations, and of the international organization in general.

Besides, good corporate governance can considerably reduce malpractice and fraud in an organization, although it cannot totally eliminate them.This reduces financial losses incurred by the organization whenever such malpractices occur.

A final economic factor that has made international organization increase their interest in corporate governance is related to confidence among investors.

Logically, a very small number of investors will be attracted to an organization that offers weak investor protection, however, for an organization that embraces corporate governance, investor confidence levels are up and this has the potential of attracting investors and raising extra cash through activities such as public listing, sale of shares, stocks, debentures, and so on (Cooper, 2004, pp. 76).

In a similar fashion CSR is of great importance to the economic success of any business organization, be it local or international. CSR not only involves doing the right thing(s), it entails responsible conduct, and also dealing with suppliers, distributors and other constituents of the supply chain network who do the same.

When a corporation implements CSR programs, then this can become known by the customers, suppliers and the local community.

This publicity can contribute significantly to the business in terms of winning contracts. Besides, customers often want to buy from corporations and businesses that are responsible in the way they treat them and in general those corporations that conduct their activities in in an ethical manner as dictated by the CSR policies.

Some clients do not only prefer to deal with responsible corporations, they insist on it (McWilliams and Siegel, 2000, pp. 608). For instance, the Co-operative Group, a consumer co-operative in the UK, attaches a significant importance on its CSR and publishes in depth reports on its performance on a wide range of measures, from animal welfare to the quantities of salt in its pizzas.

And in a study conducted in 2001 by Hill & Knowlton/Harris Interactive showed that 79 per cent of US citizens take into account CSR practices in their decision to buy from a given company. Overall, 36 per cent of those interviewed believe that CSR is a primary factor in deciding to buy a product.

Indeed, 91 per cent of the respondents said that they will switch loyalty to another company if the company has a negative image (Gobe, 2002, pp. 96). In another study conducted by The Aspen Institute Initiative for Social Innovation through Business among students, more than 50 per cent of the respondents said that they would quit their positions if the corporation did not support their values.

In conclusion, CSR programs increase a company’s sales turnover and thereby increases the returns on investments (ROI) besides improving cash flows. Therefore, corporations that implement CSR programs achieve more economic growth and become more competitive in the rapidly changing international business environment (Herremans et al. 1993, pp. 689).

Social factors

The importance of effective CSR strategies and corporate governance in the social spheres cannot be overemphasized. The role that businesses can play in the development of society is very important, and has been underestimated at times.

In fact, the activist community has been very instrumental in pushing organizations to implement CSR programs and corporate governance, and most of these programs are implemented with an aim of improving the organization’s image in the eyes of the public.

In other words, businesses and organizations introduced CSR reports and programs to reduce the damage inflicted on their activities and reputation by attacks from activist social groups who benefitted from 24-hour news media that mainly focus on corporate misconducts.

While, on one hand, this makes a captivating news item, it puts pressure on corporations to give back part of their wealth to society in return for what they have obtained from it (McWilliams and Siegel, 2000, pp. 608). Hence, it not just important for organizations to make profits, the way the profit is made and how it is used is a deep concern for social activists and the general public (Pearce & Robinson, 2011, pp. 75).

An organization must not be seen to be engaging in unethical or illegal practices in any area of its operations such as market conduct, trade policies, staff relations, obtaining raw materials, human rights, and environmental laws.

Whenever any of these offences are detected or observed in any organization, the activists put pressure on them through various forms of media and other channels such as boycotts, sabotage, and protests (Burke and Logsdon, 1996, pp. 501).

Therefore, in implementing CSR programs, a company aims to improve its image and this results into numerous advantages such as increase in sales of the organization’s products and the ability to attract and retain competent staff.

Indeed, a study conducted in 2008 by the Grant Thornton Grant Thornton International Business Report (IBR) revealed the desire to recruit and retain staff is one of the major drivers of CSR as shown below.

CSR also help a corporation differentiate itself by creating a strong corporate brand through CSR programs. Even among competitors, CSR can be significant in helping a corporation stand out. For instance, Wal-Mart, an international corporation, is famous as a business owned by its workers. Its CSR activities are directed to customer service, sales and profits.

Corporate governance also has a similar effect of improving the company’s image in the eyes of the public. The primary role of corporate governance is its transparency and accountability principles. An advantage of corporate governance is that its benefits, or the outcome of failing to implement it, can be assessed and measured by the public.

For instance, when Enron Corporation failed to fix poor financial reporting and a lack of conformation to standard accounting principles, the outcome was evident to all: the bankruptcy of the corporation. On the positive end, companies such as Coca Cola have continued to win public support due to their strong corporate governance policies (McWilliams and Siegel, 2000, pp. 607).

Legal Factors

Another reason for the increasing interest of international corporations in corporate governance and CSR is the need to conform to legal provisions and requirements. Central and state labor offices investigate compliance with all matters pertaining to employment such as wages, working conditions, working hours, discrimination, child labor and other human rights violations, and so on (Linton et al, 2004, pp. 230).

Other authorities also investigate issues pertaining to the environment with respect to the operations of the operations such as environmental pollution and degradation, use of toxic substances in the manufacture of products meant for human consumption, use of non-biodegradable materials, and so on.

These organization fine companies found to be flouting any rules, and in serious situations, such organizations can be shut down temporarily or permanently (Herremans et al. 1993, pp. 704). Other punishments may include profit disgorgement from firms found to be selling goods obtained from corporations that do not comply with the legal requirements.

However, implementing and monitoring CSR programs and corporate governance policies can be significant in helping a corporation comply with the various regulatory requirements, especially in an international market where the management may not have adequate information regarding the requirements.

Implementing a CSR aimed at ensuring that staff works in humane conditions and the wages equal or exceed the minimum wage requirements. Such a move can ensure that the firm does not violate legal requirements relating to these issues (Pearce & Robinson, 2011, pp. 56).

Other business processes that may lead to legal action against the corporation include the failure to have an effective Foreign Corrupt Practices Act compliance program and this may result into investigation and if found guilty, the corporation may be fined millions of dollars.

Insufficient knowledge of the corporation’s supply chain may result in the use of an unauthorized contractor, leading to hefty fines. Besides, corporations that do not sufficiently monitor suppliers’ product safety systems can be sued (Brown and Dacin, 1997, pp. 75).

With a strong CSR program that is employee focused in place, legal actions relating to staff discrimination, abuse, or issues relating to wages can be mitigated.

A customer and environment oriented CSR program can lead to an improvement of product safety and use of green technologies in manufacturing processes that ensure environmental protection and compliance to environmental laws both at home and in international locations.

Similarly, corporate governance policies can result in transparency regarding the corporation’s handling of issues relating to staff, production methods, supply chain processes, and so on.

This may result in a review and evaluation of these policies by external persons and bodies and this may assist a corporation in identifying areas that have not conformed to the legal provisions in the country of operation (McWilliams and Siegel, 2000, pp. 607).

Cultural Factors

The influence of culture in setting CSR programs and corporate governance policies is considerable. International corporations such as Bayer AG are known for having a culture of corporate citizenship dating back more that a century ago.

For example, the company has supported community sporting activities since the early 20 th century, the most evident of these activities is its supporting of Bayer 04 Leverkusen soccer club, which it has supported since 1904 to date. Bayer AG has continued with its corporate citizenship activities through the support of disabled athletes, evident during the Beijing Olympics in 2008 (Bayer, 2011, para. 3).

Cultural influence to implementing corporate citizenship policies are seen when a corporation moves into a country or community where specific aspects of business operations and values are observed.

For example, when Coca Cola began production of its products in the Saudi Arabian market in 1988, it had to conform to the Muslim ways of doing business and in the process, embraced CSR activities aimed at fulfilling its corporate citizenship objectives (McWilliams and Siegel, 2000, pp. 605).

These shifts included the use of decently dressed persons in its advertisements to reflect the Muslim tradition and use of halaal materials in its production processes. Incidentally, these activities represented people-directed CSR activities in respect of their tradition and culture. The company also embraced corporate governance principles such as ethical and transparent accounting procedures.

Both corporate governance and corporate social responsibility are very important towards the overall success of a business entity operating in numerous countries. These two aspects of large organizations are important in a number of business processes and can be used as marketing, tools.

Economically, corporate governance enables firms to bring together elements of business success such as teamwork, effective leadership, enterprise, experience and skills. Besides, good corporate governance can considerably reduce malpractice and fraud in an organization and improve investor confidence. Customers other groups in the supply chain network prefer to deal with companies that embrace CSR.

Socially, in implementing CSR programs and embracing corporate governance, a company can improve its public image and this results into numerous advantages such as increase in sales of the organization’s products and the ability to attract and retain competent staff.

CSR and corporate governance are important in legal spheres as they ensure that a corporation conforms to the legal requirements in the country if operation regarding wages, workplace conditions, discrimination, environmental issues, product manufacturing processes, and supply chain networks, among others.

CSR and corporate governance can also be of importance in conforming to the culture and traditions of a community, or the country in general.

Bayer. (2011). Social Initiatives: Working on behalf of a better life . Web.

Brown, T. J., and Dacin,. P. A. (1997). The Company and the Product: Corporate Associations And Consumer Product Responses. Journal of Marketing , Vol. 61, No. 1, pp. 68-84.

Burke, L., and Logsdon, J. M. (1996). How Corporate Social Responsibility Pays Off. Long Range Planning , Vol. 29, No. 4, pp. 495- 502.

Cochran, P. L., and Wood, R. A. (1984). Corporate Social Responsibility and Financial Performance . The Academy of Management Journal , Vol. 27, No. 1, pp. 42-56.

Cooper, S. (2004). Corporate Social Performance: A Stakeholder Approach . Ashgate: Burlington.

Freeman, R. E., and Jeannen, L. (1991). Corporate Social Responsibility: A Critical Approach . OH: Business Horizons.

Gobe, M. (2002). Citizen Brands . New York: Allworth Press.

Herremans, I. M., Akathaporn, P. and McInnes, M. (1993). An Investigation of Corporate Social Responsibility Reputation and Economic Performance. Accounting Organizations and Society , Vol. 18, No. 7/8, pp. 687-705.

Linton, A., Liou, C. C. and Shaw, K. A. A (2004). Taste of Trade Justice: Marketing Global Social Responsibility via Fair Trade Coffee. Globalizations, Vol. 1, No. 2, pp. 223-246.

McWilliams, A., and Siegel, D. (2000). Corporate Social Responsibility and Financial Performance: Correlation or Misspecification? Strategic Management Journal , Vol. 21, No. 5, pp. 603-609.

Pearce, J. A., & Robinson, R. B. (2011). Strategic management: Formulation, implementation, and control. (12th ed.). Boston: McGraw-Hill/Irwin.

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What Is Corporate Governance?

• How It Works
• Board of Directors
• Assessing Corporate Governance

The Bottom Line

• Corporate Finance

Corporate Governance: Definition, Principles, Models, and Examples

Good corporate governance can benefit investors and other stakeholders, while bad governance can lead to scandal and ruin

James Chen, CMT is an expert trader, investment adviser, and global market strategist.

Amanda Bellucco-Chatham is an editor, writer, and fact-checker with years of experience researching personal finance topics. Specialties include general financial planning, career development, lending, retirement, tax preparation, and credit.

Investopedia / Jessica Olah

Corporate governance is the system of rules, practices, and processes by which a company is directed and controlled. Corporate governance essentially involves balancing the interests of a company's many stakeholders , which can include shareholders, senior management, customers, suppliers, lenders, the government, and the community. As such, corporate governance encompasses practically every sphere of management, from action plans and internal controls to performance measurement and corporate disclosure .

Key Takeaways

• Corporate governance is the structure of rules, practices, and processes used to direct and manage a company.
• A company's board of directors is the primary force influencing corporate governance.
• Bad corporate governance can destroy a company's operations and ultimate profitability.

The basic principles of corporate governance are accountability, transparency, fairness, responsibility, and risk management.

Understanding Corporate Governance

Governance refers to the set of rules, controls, policies, and resolutions put in place to direct corporate behavior. A board of directors is pivotal in governance , while proxy advisors and shareholders are important stakeholders who can affect governance.

Communicating a company's corporate governance is a key component of community and  investor relations . For instance, Apple Inc.'s investor relations site profiles its corporate leadership (the executive team and board of directors) and provides information on its committee charters and governance documents, such as bylaws, stock ownership guidelines, and articles of incorporation .

Most successful companies strive to have exemplary corporate governance. For many shareholders, it is not enough for a company to be profitable; it also must demonstrate good corporate citizenship through environmental awareness, ethical behavior, and other sound corporate governance practices.

Benefits of Corporate Governance

• Good corporate governance creates transparent rules and controls, guides leadership, and aligns the interests of shareholders, directors, management, and employees.
• It helps build trust with investors, the community, and public officials.
• Corporate governance can give investors and stakeholders a clear idea of a company's direction and business integrity.
• It promotes long-term financial viability, opportunity, and returns.
• It can facilitate the raising of capital.
• Good corporate governance can translate to rising share prices.
• It can reduce the potential for financial loss, waste, risks, and corruption.
• It is a game plan for resilience and long-term success.

Corporate Governance and the Board of Directors

The board of directors is the primary direct stakeholder influencing corporate governance. Directors are elected by shareholders or appointed by other board members and charged with representing the interests of the company's shareholders.

The board is tasked with making important decisions, such as corporate officer appointments, executive compensation, and dividend policy. In some instances, board obligations stretch beyond financial optimization, as when shareholder resolutions call for certain social or environmental concerns to be prioritized.

Boards are often made up of a mix of insiders and independent members. Insiders are generally major shareholders, founders, and executives. Independent directors do not share the ties that insiders have. They are typically chosen for their experience managing or directing other large companies. Independents are considered helpful for governance because they dilute the concentration of power and help align shareholder interests with those of the insiders.

The board of directors must ensure that the company's corporate governance policies incorporate corporate strategy, risk management, accountability, transparency, and ethical business practices.

A board of directors should consist of a diverse group of individuals, including those with matching business knowledge and skills, and others who can bring a fresh perspective from outside the company and industry.

The Principles of Corporate Governance

While there can be as many principles as a company believes make sense, some of the most common ones are:

• Fairness : The board of directors must treat shareholders, employees, vendors, and communities fairly and with equal consideration.
• Transparency : The board should provide timely, accurate, and clear information about such things as financial performance, conflicts of interest, and risks to shareholders and other stakeholders.
• Risk Management : The board and management must determine risks of all kinds and how best to control them. They must act on those recommendations to manage risks and inform all relevant parties about the existence and status of risks.
• Responsibility : The board is responsible for the oversight of corporate matters and management activities. It must be aware of and support the successful, ongoing performance of the company. Part of its responsibility is to recruit and hire a chief executive officer (CEO) . It must act in the best interests of a company and its investors.
• Accountability : The board must explain the purpose of a company's activities and the results of its conduct. It and company leadership are accountable for the assessment of a company's capacity, potential, and performance. It must communicate issues of importance to shareholders.

Corporate Governance Models

There are many types of corporate governance that a company might follow. Some use a traditional hierarchical leadership structure, and others are more flexible . Different corporate governance models may be found throughout the world. Here are a few of them.

The Anglo-American Model

This model can take various forms, such as the Shareholder, Stewardship, and Political Models. The Shareholder Model is the principal model at present.

The Shareholder Model is designed so that the board of directors and shareholders are in control. Stakeholders such as vendors and employees, though acknowledged, lack control.

Management is tasked with running the company in a way that maximizes shareholder interest. Importantly, proper incentives should be made available to align management behavior with the goals of shareholders/owners.

The model accounts for the fact that shareholders provide the company with funds and may withdraw that support if dissatisfied. This is supposed to keep management working effectively.

The board will usually consist of both insiders and independent members. Although traditionally, the board chairperson and the CEO can be the same, this model seeks to have two different people hold those roles.

The success of this corporate governance model depends on ongoing communications among the board, company management, and the shareholders. Important issues are brought to shareholders' attention. Important decisions that need to be made are put to shareholders for a vote.

U.S. regulatory authorities tend to support shareholders over boards and executive management.

The Continental Model

Two groups represent the controlling authority under the Continental Model. They are the supervisory board and the management board.

In this two-tiered system, the management board is composed of company insiders, such as its executives. The supervisory board is made up of outsiders, such as shareholders and union representatives. Banks with stakes in a company also could have representatives on the supervisory board.

The two boards remain entirely separate. The size of the supervisory board is determined by a country's laws and can't be changed by shareholders.

National interests have a strong influence on corporations with this model of corporate governance. Companies can be expected to align with government objectives.

This model also greatly values the engagement of stakeholders, as they can support and strengthen a company's continued operations.

The Japanese Model

The key players in the Japanese Model of corporate governance are banks, affiliated entities, major shareholders called Keiretsu (who may be invested in common companies or have trading relationships), management, and the government. Smaller, independent, individual shareholders have no role or voice. Together, these key players establish and control corporate governance.

The board of directors is usually made up of insiders, including company executives. Keiretsu may remove directors from the board if profits wane.

The government affects the activities of corporate management via its regulations and policies.

In this model, corporate transparency is less likely because of the concentration of power and the focus on the interests of those with that power.

How to Assess Corporate Governance

As an investor, you want to select companies that practice good corporate governance in the hope that you can thereby avoid losses and other negative consequences such as bankruptcy.

You can research certain areas of a company to determine whether or not it's practicing good corporate governance. These areas include:

• Disclosure practices
• Executive compensation structure (whether it's tied only to performance or also to other metrics)
• Risk management (the checks and balances on decision-making)
• Policies and procedures for reconciling conflicts of interest (how the company approaches business decisions that might conflict with its mission statement)
• The members of the board of directors (their stake in profits or conflicting interests)
• Contractual and social obligations (how a company approaches issues such as climate change)
• Relationships with vendors
• Complaints received from shareholders and how they were addressed
• Audits (the frequency of internal and external audits and how any issues that those audits raised have been handled)

Types of bad governance practices include:

• Companies that do not cooperate sufficiently with auditors or do not select auditors with the appropriate scale, resulting in the publication of spurious or noncompliant financial documents
• Executive compensation packages that fail to create an optimal incentive for corporate officers
• Poorly structured boards that make it too difficult for shareholders to oust ineffective incumbents.

Examples of Corporate Governance: Bad and Good

Bad corporate governance can cast doubt on a company's reliability, integrity, or obligation to shareholders. All can have implications for the financial health of the business.

Volkswagen AG

Tolerance or support of illegal activities can create scandals like the one that rocked Volkswagen AG starting in September 2015. The details of "Dieselgate" (as the affair came to be known) revealed that for years, the automaker had deliberately and systematically rigged engine emission equipment in its cars to manipulate pollution test results in the U.S. and Europe.

Volkswagen saw its stock shed nearly half its value in the days following the start of the scandal. Its global sales in the first full month following the news fell 4.5%.

VW's board structure facilitated the emissions rigging and was a reason it wasn't caught earlier. In contrast to a one-tier board system common to most U.S. companies, VW had a two-tier board system consisting of a management board and a supervisory board, in keeping with the Continental Model of corporate governance.

The supervisory board was meant to monitor management and approve corporate decisions. However, it lacked the independence and authority to carry out these roles appropriately.

The supervisory board included a large portion of shareholders. Ninety percent of shareholder voting rights were controlled by members of the board. There was no real independent supervisor. As a result, shareholders were in control and negated the purpose of the supervisory board, which was to oversee management and employees, and how they operated. This allowed the rigged emissions to occur.

Public and government concern about corporate governance tends to wax and wane. Often, however, highly publicized revelations of corporate malfeasance revive interest in the subject.

For example, corporate governance became a pressing issue in the United States at the turn of the 21st century, after fraudulent practices bankrupted high-profile companies such as Enron and WorldCom .

The problem with Enron was that its board of directors waived many rules related to conflicts of interest by allowing the chief financial officer (CFO) , Andrew Fastow, to create independent, private partnerships to do business with Enron.

These private partnerships were used to hide Enron's debts and liabilities. If they'd been accounted for properly, they would have reduced the company's profits significantly.

Enron's lack of corporate governance allowed the creation of the entities that hid the losses. The company also employed dishonest people, from Fastow down to its traders, who made illegal moves in the markets.

The Enron scandal and others in the same period resulted in the 2002 passage of the Sarbanes-Oxley Act . It imposed more stringent recordkeeping requirements on companies and stiff criminal penalties for violating them and other securities laws. The aim was to restore confidence in public companies and how they operate.

It's common to hear examples of bad corporate governance. In fact, it's often why companies end up in the news. You rarely hear about companies with good corporate governance because their corporate guiding policies keep them out of trouble.

One company that seems to have consistently practiced good corporate governance, and adapts or updates it often, is PepsiCo. In drafting its 2020 proxy statement, PepsiCo sought input from investors in six areas:

• Board composition, diversity, and refreshment, plus leadership structure
• Long-term strategy, corporate purpose, and sustainability issues
• Good governance practices and ethical corporate culture
• Human capital management
• Compensation discussion and analysis
• Shareholder and stakeholder engagement

The company included in its proxy statement a graphic of its current leadership structure. It showed a combined chair and CEO along with an independent presiding director and a link between the company's "Winning With Purpose" vision and changes to the executive compensation program.

What Are the 4 Ps of Corporate Governance?

The four P's of corporate governance are people, process, performance, and purpose.

Why Is Corporate Governance Important?

Corporate governance is important because it creates a system of rules and practices that determines how a company operates and how it aligns with the interest of all its stakeholders. Good corporate governance fosters ethical business practices, which lead to financial viability. In turn, that can attract investors.

What Are the Basic Principles of Corporate Governance?

Corporate governance consists of the guiding principles that a company puts in place to direct all of its operations, from compensation, risk management, and employee treatment to reporting unfair practices, dealing with the impact on the climate, and more.

Corporate governance that calls for upstanding, transparent behavior can lead a company to make ethical decisions that will benefit all of its stakeholders, including investors. Bad corporate governance can lead to the breakdown of a company, often resulting in scandal and bankruptcy.

Apple. " Investor Relations. Leadership and Governance ."

BBC. " Scandal Cuts VW Sales by 4.5% This Year ."

Dibra, Rezart. " Corporate Governance Failure: The Case of Enron and Parmalat ." European Scientific Journal , vol.12, no. 16, June 2016, pp. 283-290.

Corporate Secretary. " PepsiCo Finds Governance Success Through Evolution ."

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