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Chapter 2

PRINCIPLES OF CORPORATE
GOVERNANCE

Objective
To understand the governance structure.
To have a detailed understanding of the roles,

duties and responsibilities of directors.

1. Elements of Corporate
Governance
Good Board practices
Control Environment
Transparent disclosure
Well-defined shareholder rights
Board commitment

Good Board Practices


Clearly defined roles and authorities
Duties and responsibilities of Directors

understood
Board is well structured
Appropriate composition and mix of skills

Good Board procedures


Appropriate Board procedures
Director Remuneration in line with best

practice
Board self-evaluation and training conducted

Control Environment
Internal control procedures
Risk management framework present
Disaster recovery systems in place
Media management techniques in use

Control Environment
Business continuity procedures in place
Independent external auditor conducts audits
Independent audit committee established

Control Environment
Internal Audit Function
Management Information systems established
Compliance Function established

Transparent Disclosure
Financial Information disclosed
Non-Financial Information disclosed
Financials prepared according to

International Financial Reporting


Standards (IFRS)

Transparent Disclosure
Companies Registry filings up to date
High-Quality annual report published
Web-based disclosure

Well-Defined Shareholder
Rights
Minority shareholder rights formalised
Well-organised shareholder meetings

conducted
Policy on related party transactions

Well-Defined Shareholder
Rights
Policy on extraordinary transactions
Clearly defined and explicit dividend policy

Board Commitment
The Board discusses corporate governance

issues and has created a corporate


governance committee
The company has a corporate governance
champion
A corporate governance improvement plan
has been created
Appropriate resources are committed to
corporate governance initiatives

Board Commitment
Policies and procedures have been

formalised and distributed to relevant staff


A corporate governance code has been
developed
A code of ethics has been developed
The company is recognised as a corporate
governance leader

Other Entities
Corporate Governance applies to all types of

organisations not just companies in the


private sector but also in the not for profit and
public sectors
Examples are NGOs, schools, hospitals,

pension funds, state-owned enterprises

2. Directors and Board Structure


Shareholders
Board Structure
Unitary board or two tier (dual) board

structure
Board of Directors
Some key board roles
Key Board Committees

Shareholders
The term shareholders may seem quite

straightforward but shareholders may be


individuals, institutions, firms, or other entities
that own shares in a company.
In the UK and US there is a predominance of
institutional shareholders: for example, pension
funds, insurance companies, mutual funds.

Stakeholders
The term stakeholders can encompass a wide

range of interests: it is any individual or group on


which the activities of the company have an
impact.

Board structure
Unitary board or two tier (dual) board

structure.
Implications of board structure
Examples of unitary structure
Examples of two tier structure

Unitary Board
Is characterized by one single board

comprising both executive and non-executive


directors.
The unitary board is responsible for all aspect
of the companys activities. The shareholders
elect the directors to the board at companys
AGM.

Two tier (Dual) Board


A dual board system consists of a supervisory

board and executive board of management.


The supervisory board overseas the direction of
the business, whilst the management board is
responsible for the running of the business.
Members of one board cannot be members of
another.
Shareholders appoint the members of the
supervisory board, whilst the supervisory board
appoints the members of management board.

Implications of two tier


board
structure
Two tier: supervisory board and an executive board
of management BUT many similarities in board
practice:
Usually both the unitary board of directors and the
supervisory board (in a two tier system) are elected
by shareholders (in some countries, employees
may elect some supervisory board members)
Usually there is both a supervisory function and a
managerial function (more formalized in two tier
structure)

Similarities between one


and two tier board
Similarities:
structures

The unitary board and the supervisory board usually

appoint the members of the managerial body:


- management board in two tier system
- group of managers to whom the unitary board
delegates authority in the unitary system
Both bodies usually have responsibility for ensuring
that financial reporting and control systems are
functioning properly and for ensuring that the
corporation complies with the law

One and two tier board


structures

One tier system: closer relationship and better

information flow
Two tier system: embodies a clearer, formal
separation between the supervisory body and
those being supervised

One and two tier board


structures
However whether the structure is one tier or

two tier, many codes show consensus on


issues relating to board structure, function,
roles, and responsibilities. Provisions designed
to enhance the distinction between the roles of
the supervisory and managerial bodies, such
as supervisory body independence, separation
of Chairman and CEO roles, reliance on board
committees.

The Board of Directors


The BOD leads and controls a company, hence

an effective board is fundamental to the


success of the company.
UK: unitary board system. The roles of
chairman and CEO are split because otherwise
there could be too much power vested in one
individual.
The chairman is responsible for the running of
the board whilst the CEO is responsible for
running of business.

Role of the Board


The board is responsible for:
Determining the companys aim and the
strategies, plans and policies to achieve those
aims.
Monitoring progress in the achievement of
those aims.
Appointing a CEO with appropriate leadership
qualities

Role of the Board


Board must achieve three core objectives:
Provide superior strategic guidance to ensure the

companys growth and prosperity,


Ensure accountability of the company to its stakeholders
including shareholders, employees, customers,
suppliers, regulators and the community.
Ensure that a highly qualified executive team is
managing the company.
Decisions relating to board composition and structure are
importance in determining whether and to what extend,
the board is successful in achieving these objectives

Principle Responsibilities of
the Board - MCCG

A board is required to explicitly assume the


six specific responsibility of the board
Reviewing and adopting a strategic plan
for the company.
Overseeing the conduct of the companys
business to evaluate whether the business
is being properly managed.
Identifying principal risks and ensuring
the implementation of appropriate systems
to manage these risks.

Principle Responsibilities of
the Board - MCCG
Succession planning, including appointing,

training, fixing the compensation of and where


appropriate, replacing senior management.
Developing and implementing an investor
relations programme or shareholder
communications policy for the company
Reviewing the adequacy and the integrity of the
companys internal control systems and
management information systems, including
systems and management for compliance with
applicable laws, regulations, rules, directives and
guidelines.

Directors Core Duties - MCCG


1. Fiduciary duty
The duty to act in good faith
The duty to exercise power for a proper

purpose
The duty to exercise discretion properly
The duty to avoid conflict and selfdealing
2. Duty to use reasonable care skill and

diligence

Board Leadership and


Competencies
A balanced board avoids the risk of

being nominated by an individual or


a small group within management.
Wider skill sets will promote broadbased competencies with a plurality
of viewpoints that facilitate sound
and constructive decision-making.

Core Competencies
Personal

Qualities
Leadership
Strategic
Work ethics
Professionalis
m

Competencies
Industry

knowledge
Business
judgment
Expertise
Special skills

Independent Directors
A board is strengthened

significantly by a group of nonexecutive directors who have no


connection with the company.
Independent directors are essential
for protecting the interests of
minority shareholders and can make
significant contributions to a
companys decision making.

Some key board roles


Chief Executive Officer (CEO)
Chairman
Senior Independent Director
Company Secretary

Chairman of BOD and CEO


Every board should be headed by a chairman

who is able to discharge his duties effectively.


The chairman carry the authority of the board,

whilst CEO carry the authority delegated to


them by the board.
Chairman exercise their authority on behalf of

the board, CEO have personal authority in line


with the terms of their appointment.

Role of Chairman
Monitor the workings of the board, especially the

conduct of board meetings


Ensure that all relevant issues for the effective
running of companys business are on agenda.
Ensure that quality information to facilitate decision
making delivered to board members on a timely
basis.
Encourage all directors to play an active role in
board activities.
Chair general meetings of shareholders.
Liaise with the CEO and the company secretary on
the agenda of board meetings.

Role of CEO
The role of CEO is seen as critical to the
performance of company. A CEO is expected
to provide:
Leadership
Strategic vision
High- level business judgment and wisdom.
The ability to meet immediate performance
targets without neglecting longer-term
growth opportunities of the company.

Senior Independent
Director

Act as "deputy" to the Chairman of the Board as


and when required.
Chair meetings with the other non-executive
directors (without the Chairman being present)
encouraging open dialogue, particularly
regarding the Chairman's performance.
Be available to shareholders in case they have
concerns which cannot, or should not, be
addressed by the Chairman or Executive
Directors.

Senior Independent
Director

Act on the results of any performance evaluation

of the Chairman.
Maintain sufficient contact with major
shareholders, when requested, to understand
their issues and concerns thereby assisting the
Board to develop a balanced understanding.
Attend the Company's AGM and be available for
discussion with shareholders.

Company Secretary
Must act in good faith and avoid conflict of

interest.
Responsibilities:
Facilitating the work of the board by ensuring
that the directors have all information they need
for the main board and board subcommittees.
Advise the boards via the chairman on all
governance matters.

Role of the Company


Secretary- MCCG
1. Implementation of corporate

governance
2. Supports the board and chairman
3. Appointment a new directors
4. Compliance with filling and
administrative requirements.

Board Committees
Boards can delegate powers to committees but

such delegation should be subject to the following:


Delegated authority in accordance with the
companys Articles of Association.
Clearly established terms of reference, defining
their responsibilities and authority, which are
approved by board.
The board must supervise its delegation.
The board must not merely adopt or rely on the
committees recommendations without proper
assessment and testing or challenging the same.

Key Board Committees


The board may appoint various subcommittees:
Audit committee
Remuneration committee
Nomination committee
Risk committee

Audit Committee
The audit committee is fundamental to the

concept of corporate accountability and


sound governance.
An audit committee provides the board
with assurance of the quality and reliability
of financial information used by the board
and of the financial information issues
publicly by the company.

Audit Committee
The Audit Committees primary purpose is to:
1.Assist the Board in its oversight responsibilities to

shareholders, specifically with respect to:


the integrity of the Companys financial statements,
the Companys compliance with legal and regulatory
requirements
the qualifications and independence of the independent
auditor and internal auditing function,
the performance of the Companys internal audit
function and independent auditor, and
the risks associated with the foregoing; and
2.Prepare the audit committee report required to be
included in the Companys annual proxy statement.

Audit Committee
The Audit Committees primary duties and responsibilities
are to:
Monitor the integrity of the Companys internal controls
over financial reporting.
Monitor the qualifications, independence and performance
of the Companys independent auditor and internal auditing
function.
Provide a channel of communication among the Board, the
independent auditor, internal auditing function, management
and other concerned individuals.
As a committee of the Board of Directors, assist the Board
in meeting its fiduciary duties to shareholders and the
Company.

Remuneration committee
The remuneration committee is established to ensure that

remuneration arrangements support the strategic aims of


the business and enable the recruitment, motivation and
retention of senior executives while complying with the
requirements of regulatory and governance bodies,
satisfying the expectations of shareholders and remaining
consistent with the expectations of the wider employee
population.
Key Role:
Link rewards to both company and individual performance
Align the interests of directors and shareholders in
promoting the companys progress

Remuneration committee
A remuneration committee will, in accordance with

the Codes provisions, commonly have delegated


authority to set executive pay. Its proposals will be
discussed with the chairman and/or chief executive,
and there may be a broad policy on directors pay
agreed with the board, but the responsibility will lie
with the committee, not the board. By contrast, the
nomination committee will usually make
recommendations to the full board and leave the
final decision to the board as a whole. Membership
of these committees is closely defined by the Code.

Nomination Committee
The nomination committee has two responsibilities:

identifying and nominating directors and evaluating


them on an annual basis.
The board of every company should appoint a
committee of directors composed exclusively of nonexecutive directors, a majority of whom are
independent, with the responsibility for proposing
new nominees to the board and for assessing
directors on an ongoing basis. The actual decision
as to who should be nominated should be the
responsibility of the full board after considering the
recommendations of such a committee (MCCG)

RISK COMMITTEE
The Risk Committee must assist the

Boards in assessing the different


types of risk to which the organization is
exposed Management is responsible for
executing the organization's risk
management policy.
The Risk Committee must exercise
oversight, and must provide evidence
about it. The members of the committee
must have direct access to, and receive
regular reports from management.

Non-executive directors
(NEDs)

Provide a control or counterweight to the

executive directors, that is, independent nonexecutive directors help provide balance on the
board
Contribution to the overall leadership and
development of the company

Independence of NEDs
Independence means that the non-executive

director is not:
Employed by the company
Former employee of company (within last 5 years)
Closely related to the company by economic or
other ties
Closely related to the directors or advisers of the
company (no family ties)
Serving on board for more than 10 years
Representing a significant shareholder

Concluding comments
Boards may be one tier (unitary) or two tier

(dual)
Under both types of system there is usually a
supervisory function and a managerial function
(a distinction more formalised in the two tier
system)
Role, duties, and responsibilities of directors
concern strategic decisions based on adequate
information, and with accountability to
shareholders (and other stakeholders as
appropriate).

Best Practice in Corporate


Governance
There is no single model of good corporate

governance.
Principles and best practices recommendations
in code of corporate governance (differences
between countries)