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Corporate Governance

Definition:
Corporate Governance may be defined “as a set of systems, processes and principles which ensure
that a company is governed in the best interest of all stakeholders”. It is the system by which
companies are directed and controlled. It is about promoting corporate fairness, transparency and
accountability. The system of rules, practices and processes by which a company is directed and
controlled. Corporate governance essentially involves balancing the interests of the many
stakeholders in a company - these include its shareholders, management,customers, suppliers,
financiers, government and the community.

Corporate governance is the system by which organisations are governed and controlled. It is
concerned with the ways in which corporations are governed generally and in particular with the
relationship between the management of an organisation and its shareholders. In this respect,
several control mechanisms, often in the form of committees, are implemented within in order to
monitor its management activities and functioning. As a part of critical corporate governance
mechanisms, the audit committee has an oversight function dealing with different managerial
activities, corporate reporting, and auditing. This oversight includes ensuring the quality of
accounting policies, internal controls, and independent auditors to enhance control mechanisms,
anticipate financial risks, and promote accurate, transparent, and timely disclosure of corporate
information to various users of the organisation’s financial information.

Concept
It involves a set of relationships between a company’s management, its board, its shareholders
and other stakeholders.

It deals with prevention or mitigation of the conflict of interests of stakeholders. Ways of


mitigating or preventing these conflicts of interests include the processes, customs,
policies, laws, and institutions which have an impact on the way a company is controlled.

An important theme of corporate governance is the nature and extent of accountability


of people in the business, and mechanisms that try to decrease the principal–agent problem.

Objective
A properly structured board capable of taking independent and objective decisions is in
place at the helm of affairs.

The board is balance as regards the representation of an adequate number of non-executive


and independent directors who will take care of their interests and well-being of all the
stakeholders.

The board adopts transparent procedures and practices and arrives at decisions on the strength
of adequate information.

The board has an effective machinery to subserve the concerns of stakeholders.

The board keeps the shareholders informed of relevant developments impacting the company.
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The board effectively and regularly monitors the functioning of the management team.

The board remains in effective control of the affairs of the company at all times.

Advantage of corporate governance


Enhanced Performance- helps a company improve overall performance.
Without corporate governance, a company tends to be weak and sluggish.
Access to Capital- The better corporate governance a company has, the more easily it can
access outside capital that the business can use to fund its projects.
Since corporate governance includes major shareholders, it connects investors with the
business itself, and these investors use their resources and contacts to support the
company monetarily.
Better Standards- Corporate governance makes many decisions about business operations,
but one of the most important decisions involves corporate standards.
Standards affect the quality of products and the goals that the business has in
technology, customer service, and marketing.
Better Talent Utilisation- With a strong corporate governance structure, people can find
positions that utilise their talents more effectively, and the board of directors and top leaders of
the business are always looking to add more talented people to their numbers.

Disadvantage of corporate governance


Easily Corruptible-Corporate governance needs a certain level of government oversight to
avoid increasing levels of corruption. The lack of governmental oversight in corporate
governance leads to a misallocation of credit that actually worked against competition.

Family-Owned Companies- Corporate governance works at its best when shareholders


and board members are able to make objective decisions that are in the best interest of the
company. According to Ibis Associates, a business planning firm, family-run corporations
(founding family members own controlling share of the company), such as Ford and
Walmart, lose objectivity in business making decisions due to the family's financial investment
in the business' performance and the emotional ties associated with building a worldwide
corporation from the ground up.

Costs of Monitoring- To effectively govern a publicly traded corporation, shareholders


must speak with one voice and have enough votes to allow that voice to have any real weight.
This requires individuals that have a collective vision for the company to pour more
money into that company to gain a controlling share.

Factors affecting Corporate Governance


A) REGULATION & THEIR ENFORCEMENT

Since corporate governance failures have proved to be harmful not just for the organizations
but also for the economy and the general public at large as well, there have been public
pressures on the government and regulatory authorities to reform business practices and
increase transparency.

Consequently, it has become a part of the government’s duty to ensure accountability


and responsibility in corporate behavior.
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Effective disposal of this responsibility basically revolves around two things:

First, the designing of regulatory commands i.e. the regulations and laws to ensure good
corporate governance; and

Second is the enforcement of regulations.

B) RISK MANAGEMENT & EFFECTIVE GOVERNANCE

In today’s world, frauds are an undeniable fact of business life.

Affecting all types of businesses. New technologies such as the Internet, and the development
of fully automated accounting systems, have increased the opportunities for fraud to be
committed.

Once suspected or discovered, investigating fraud is a specialist task

Requiring experience and technical skill and can be very costly. Thus, there is no doubt.
That fraud is best prevented, rather than dealt with after the fact. The most effective and
appropriate response to the problem of fraud involves a combination of risk management
techniques.

These techniques include:

Setting up inherent control based upon soft controls that occur continuously and c onsistently
throughout the organization. Such controls should be embedded in normal business practice
and be designed in such a way that they are to a large extent self sustaining; and

Setting up formal control processes of monitoring, reviewing and reporting

Factors affecting for investors and companies-

For Investors For companies

o Compensation o Risk Oversight

o Board Independence o Compensation

o Shareholder Rights o Board Competence

o Risk Oversight o Board Independence

o Board Competence o Takeover o Shareholder Rights

o Takeover Defences o Audit-Related

o M&A/Proxy Fights o Environmental/Social

o Audit Related o Takeover Defense


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For example, a significant issue many corporate executives face every year is their annual meeting
planning as well as understanding current shareholder sentiment. Through our annual
meeting planning sessions, we are able to analyze your constituent bases to ensure even the vocal
minority concerns are being addressed and heard.

Based on their shareholder makeup, each company could have different concerns on both
sides of the table. One of the first steps to obtaining shareholder identification is to conduct a
detailed shareholder analysis. We will identify the constituents; work with your team to build a plan,
and create an outreach program that is in step with your annual meeting and
board reelection efforts.

Principles of corporate governance


Rights and equitable treatment of shareholders: Organizations should respect the rights of
shareholders and help shareholders to exercise those rights. They can help shareholders
exercise their rights by openly and effectively communicating information and by encouraging
shareholders to participate in general meetings.
Interests of other stakeholders: Organizations should recognize that they have legal,
contractual, social, and market driven obligations to non-shareholder stakeholders,
including employees, investors, creditors, suppliers, local communities, customers,
and policy makers.

Role and responsibilities of the board: The board needs sufficient relevant skills and
understanding to review and challenge management performance. It also needs adequate size
and appropriate levels of independence and commitment.
Integrity and ethical behavior: Integrity should be a fundamental requirement in choosing
corporate officers and board members. Organizations should develop a code of conduct for
their directors and executives that promotes ethical and responsible decision making.
Disclosure and transparency: Organizations should clarify and make publicly known the
roles and responsibilities of board and management to provide stakeholders with a level of
accountability. They should also implement procedures to independently verify and safeguard
the integrity of the company's financial reporting. Disclosure of material matters concerning
the organization should be timely and balanced to ensure that all investors have access
to clear, factual information.

Models:

Different models of corporate governance differ according to the variety of capitalism in which they
are embedded. The Anglo-American "model" tends to emphasize the interests of shareholders. The
coordinated or Multi stakeholder Model associated with Continental Europe and Japan also
recognizes the interests of workers, managers, suppliers, customers, and the community. A
related distinction is between market- orientated and network-orientated models of corporate
governance

Indian model

The Securities and Exchange Board of India Committee on Corporate Governance defines
corporate governance as the "acceptance by management of the inalienable rights of shareholders as
the true owners of the corporation and of their own role as trustees on behalf of the shareholders. It
is about commitment to values, about ethical business conduct and about making a distinction
between personal & corporate funds in the management of a company.”
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Why corporate governance?

AT NATIONAL LEVEL:-

As barriers to the free flow of capital fall, it becomes imperative to recognize that the quality of
corporate governance is relevant to capital formation and that sound corporate governance
principles is the foundation upon which the trust of investors is built.

Corporate governance represents the ethical the moral framework under which business
decisions are taken. Thus, any investor, when making investments across the borders or even
otherwise, wants to be sure that not only are the capital markets or enterprises with which
they are investing are being run competently but they also have good corporate governance.

Consequently, lack of sound corporate governance practices in any country can badly affect
the confidence of foreign investors, in turn causing damage to the amount of foreign
investments flowing in.

At the company and individual level:-

It is self evident that sound corporate governance is essential to the well being of an individual
company and its stakeholders, particularly its shareholders and creditors.

We need only remind ourselves of the many companies, across the world, whose financial
difficulties and,

Ultimate demise have been substantially attributable to weak corporate governance.

On the other hand, there are several areas of self-interest that should drive companies to
embrace more effective governance. These areas are:

1. Effective governance helps to minimize reputational risks and thus, protecting the brand;
2. It helps to instill trust in customers and vendors;
3. It also helps to assure effectiveness and integrity of a company’s business processes.
4. Further, in many cases, the punishment, in terms of penalties or imprisonment, for White-
collar crimes is now in excess for such criminal acts such as armed robbery, assault, and
negligent murder. Even to escape such punishments, ensuring corporate governance
compliance is a must.

Corporate governance in different type of companies

Corporate governance in private companies-

Most of the regulations made, such as SOX in US and Clause 49 of Listing Agreement in India, are
applicable only to publicly-registered or listed companies and private companies are out of the ambit
of these regulations.

However, today we see that private companies are also becoming big in size and impact.

Very near examples would include joint ventures being organized as private companies within the
insurance industry in India.
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Thus, failure of corporate governance within these private companies as well can very badly harm
the general public at large. And also since new standards of corporate governance, while only
required by law at public companies, are for forming “best practices” in many will governed private
companies, we strongly feel that the applicability of such regulations, after suitable modifications, be
extended to private companies as well.

Apart from the necessity as above, it is also in the self-interest of private companies to ensure good
corporate governance. This is primarily because:-

1. Usually, in most private companies, controls are informal or even if there are formal controls,
they tend to be detective rather than preventive. This makes private companies unprotected
against risks, which needs to be mitigated.

2. Good corporate governance increases creditworthiness of the company and thus, enables it to
raise funds at cheaper cost. Good corporate governance is also a must for companies that are
planning to seek stock exchange listing and raise money from markets by converting them
into public company.

3. Finally, if the owners of a private company are considering the sale of all or part of the entity,
or are seeking private equity financing, effective controls can increase prospective buyers’
willingness to pay a premium for the acquisition. Controls enhancements can also help attract
new business partners.

Public sector corporate governance-

Although the private sector model view shareholders as main stakeholders.

In public sector specific users group those directly responsible for funding and the community
at large assumes great importance as stakeholders.

Stewardship and accountability of use of funds and assets is particularly important in


public sector.

It is becoming more important to focus on corporate governance in public sector to maintain


faith in system and promote better service to the public sector to maintain faith in the system
and promote better service to the public.

Regulatory framework on corporate governance


The Indian statutory framework has, by and large, been in consonance with the international best
practices of corporate governance. Broadly speaking, the corporate governance mechanism for
companies in India is enumerated in the following enactments/ regulations/ guidelines/ listing
agreement:

1. The Companies Act, 2013 inter alia contains provisions relating to board constitution, board
meetings, board processes, independent directors, general meetings, audit committees, related party
transactions, disclosure requirements in financial statements, etc.

2. Securities and Exchange Board of India (SEBI) Guidelines: SEBI is a regulatory authority
having jurisdiction over listed companies and which issues regulations, rules and guidelines to
companies to ensure protection of investors.
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3. Standard Listing Agreement of Stock Exchanges: For companies whose shares are listed on
the stock exchanges.

4. Accounting Standards issued by the Institute of Chartered Accountants of India


(ICAI): ICAI is an autonomous body, which issues accounting standards providing guidelines for
disclosures of financial information. Section 129 of the New Companies Act inter alia provides that
the financial statements shall give a true and fair view of the state of affairs of the company or
companies, comply with the accounting standards notified under s 133 of the New Companies Act. It
is further provided that items contained in such financial statements shall be in accordance with the
accounting standards.

5. Secretarial Standards issued by the Institute of Company Secretaries of India


(ICSI): ICSI is an autonomous body, which issues secretarial standards in terms of the provisions
of the New Companies Act. So far, the ICSI has issued Secretarial Standard on "Meetings of the
Board of Directors" (SS-1) and Secretarial Standards on "General Meetings" (SS-2). These Secretarial
Standards have come into force w.e.f. July 1, 2015. Section 118(10) of the New Companies Act
provide that every company (other than one person company) shall observe Secretarial Standards
specified as such by the ICSI with respect to general and board meetings.

Key legal framework for corporate governance in India

The Companies Act, 2013


The Government of India has recently notified Companies Act, 2013 ("New Companies Act"), which
replaces the erstwhile Companies Act, 1956. The New Act has greater emphasis on corporate
governance through the board and board processes. The New Act covers corporate governance
through its following provisions:

New Companies Act introduces significant changes to the composition of the boards of
directors.
Every company is required to appoint 1 (one) resident director on its board.
Nominee directors shall no longer be treated as independent directors.
Listed companies and specified classes of public companies are required to appoint independent
directors and women directors on their boards.
New Companies Act for the first time codifies the duties of directors.
Listed companies and certain other public companies shall be required to appoint at least 1
(one) woman director on its board.
New Companies Act mandates following committees to be constituted by the board for
prescribed class of companies:

Audit committee
Nomination and remuneration committee
Stakeholders relationship committee
Corporate social responsibility committee

Listing agreement – Applicable to the listed companies


SEBI has amended the Listing Agreement with effect from October 1, 2014 to align it with New
Companies Act.
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Clause 49 of the Listing Agreement can be said to be a bold initiative towards strengthening
corporate governance amongst the listed companies. This Clause intends to put a check over the
activities of companies in order to save the interest of the shareholders. Broadly, cl 49 provides for
the following:

1. Board of Directors

The Board of Directors shall comprise of such number of minimum independent directors, as
prescribed. In case where the Chairman of the Board is a non-executive director, at least one-third of
the Board shall comprise of independent directors and where the Chairman of the Board is an
executive director, at least half of the Board shall comprise of independent directors. A relative of a
promoter or an executive director shall not be regarded as an independent director.

2. Audit Committee

The Audit Committee to be set up shall comprise of minimum three directors as members, two-thirds
of which shall be independent.

3. Disclosure Requirements

Periodical disclosures relating to the financial and commercial transactions, remuneration of


directors, etc, to ensure transparency.

4. CEO/ CFO Certification

To certify to the Board that they have reviewed the financial statements and the same are fair and in
compliance with the laws/ regulations and accept responsibility for internal control systems.

5. Report and Compliance

A separate section in the annual report on compliance with Corporate Governance, quarterly
compliance report to stock exchange signed by the compliance officer or CEO, company to disclose
compliance with non-mandatory requirements in annual reports.