CH- 3 CONCEPTUAL FRAMEWORK OF CORPORATE GOVERNANCE
FOR CS PROFESSONAL, CA, CMA
Definitions of Corporate Governance
• ICSI Principles of Corporate Governance
• Need for Corporate Governance
• Theories of Corporate Governance
• Evolution and Development of Corporate Governance
• Elements of Good Corporate Governance
The root of the word Governance is from ‘gubernate’, which means to steer. Corporate governance would mean to steer an organization in the desired direction. The responsibility to steer lies with the board of directors/governing board.
• Kautilya’s Arthashastra maintains that for good governance, all administrators, including the king were considered servants of the people. Good governance and stability were completely linked. There is stability if leaders are responsive, accountable and removable. These tenets hold good even today.
• Corporate Governance Basic theories: Agency Theory; Stock Holder Theory; Stake Holder Theory; Stewardship Theory
OECD has defined corporate governance to mean “A system by which business corporations are directed and controlled”. Corporate governance structure specifies the distribution of rights and responsibilities among different participants in the company such as board, management, shareholders and other stakeholders; and spells out the rules and procedures for corporate decision making. By doing this, it provides the structure through which the company’s objectives are set along with the means of attaining these objectives as well as for monitoring performance.
2. Definitions of Corporate Governance
• ICSI Principles of Corporate Governance
• Need for Corporate Governance
•Theories of Corporate Governance
• Evolution and Development of Corporate
Governance
• Elements of Good Corporate Governance
3. The root of the word Governance is from ‘gubernate’, which means to steer. Corporate
governance would mean to steer an organization in the desired direction.The
responsibility to steer lies with the board of directors/governing board.
• Kautilya’s Arthashastra maintains that for good governance, all administrators,
including the king were considered servants of the people. Good governance and
stability were completely linked.There is stability if leaders are responsive, accountable
and removable.These tenets hold good even today.
• Corporate Governance Basic theories: AgencyTheory; Stock HolderTheory; Stake
HolderTheory; StewardshipTheory
OECD has defined corporate governance to mean “A system by which business
corporations are directed and controlled”. Corporate governance structure specifies the
distribution of rights and responsibilities among different participants in the company
such as board, management, shareholders and other stakeholders; and spells out the
rules and procedures for corporate decision making. By doing this, it provides the
structure through which the company’s objectives are set along with the means of
attaining these objectives as well as for monitoring performance.
4. •The initiatives taken by Government of India in 1991, aimed at economic liberalisation and
globalisation of the domestic economy, led India to initiate reform process in order to suitably respond
to the developments taking place world over.
On account of the interest generated by Cadbury Committee Report, the Confederation of Indian
Industry (CII), the Associated Chambers of Commerce and Industry (ASSOCHAM) and, the Securities
and Exchange Board of India (SEBI) constituted Committees to recommend initiatives in Corporate
Governance.
• As per CII “Corporate governance deals with laws, procedures, practices and implicit rules that
determine a company’s ability to take informed managerial decisions vis-à-vis its claimants - in
particular, its shareholders, creditors, customers, the State and employees.There is a global consensus
about the objective of ‘good’ corporate governance: maximising long-term shareholder value.”
•The Kumar Mangalam Birla Committee constituted by SEBI has observed that: “Strong corporate
governance is indispensable to resilient and vibrant capital markets and is an important instrument of
investor protection. It is the blood that fills the veins of transparent corporate disclosure and high
quality accounting practices. It is the muscle that moves a viable and accessible financial reporting
structure.”
• N.R. Narayana Murthy Committee on Corporate Governance constituted by SEBI has observed that:
“Corporate Governance is 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 and corporate funds in the management of a company.”
5. •The Institute of Company Secretaries of India has also defined the term Corporate
Governance to mean “Corporate Governance is the application of best management practices,
compliance of law in true letter and spirit and adherence to ethical standards for effective
management and distribution of wealth and discharge of social responsibility for sustainable
development of all stakeholders.”
• Initiated by Cadbury Committee, corporate governance has grown multifold in UK. UK
Corporate Governance Code, 2012 is a revised version of earlier code with few new
recommendations.
•With the introduction of Sarbanes – Oxley Act, 2002 Corporate Governance practices have
been fundamentally altered – auditor independence, conflict of interests, financial disclosures,
severe penalties for willful default by managers and auditors in particular.The Dodd-Frank
Wall Street Reform and Consumer Protection Act, 2010 has given an opportunity to
shareholders to hold accountable executives of the companies they own.
• Good governance is integral to the very existence of a company. It inspires and strengthens
investor’s confidence by ensuring company’s commitment to higher growth and profits.
• Corporate Governance extends beyond corporate law. Its fundamental objective is not mere
fulfillment of the requirements of law but in ensuring commitment of the Board in managing
the company in a transparent manner for maximizing stakeholder value.The real onus of
achieving desired levels of corporate governance lies with corporates themselves and not in
external measures.
6. James D.-“CorporateGovernance is about promoting
corporate fairness, transparency and accountability”.
OECD -“A system by which business Corporations are
directed and controlled”
Cadbury Committee, U.K -“(It is) the system by which
companies are directed and controlled”.
Other -“CorporateGovernance is about promoting
corporate fairness, transparency and accountability”.
Corporate Governance pillars on transparency ,fairness
accountability and responsibility towards the
stakeholders.
7. 1. Sustainable development of all stakeholders
Ensure growth of all individuals associated with or effected by the
enterprise on sustainable basis.
2. Effective management and distribution of wealth
Ensure that enterprise creates maximum wealth and judiciously uses the
wealth so created for providing maximum benefits to all stakeholders and
enhancing its wealth creation capabilities to maintain sustainability.
3. Discharge of social responsibility
Ensure that enterprise is acceptable to the society in which it is functioning.
4. Application of best management practices
Ensure excellence in functioning of enterprise and optimum creation of
wealth on sustainable basis.
5. Compliance of law in letter and spirit
Ensure value enhancement for all stakeholders guaranteed by the law for
maintaining socio-economic balance.
6. Adherence to ethical standards
Ensure integrity, transparency, independence and accountability in dealings
with all stakeholder
8. Corporate Governance is needed to create a corporate culture ofTransparency,
accountability and disclosure. It refers to compliance with all the moral & ethical
values, legal framework and voluntarily adopted practices.
Corporate Performance: Improved governance structures and processes help ensure
quality decisionmaking, encourage effective succession planning for senior
management and enhance the long-term goal.This can be linked with improved
corporate performance- either in terms of share price or profitability.
Enhanced InvestorTrust: Investors consider corporate Governance as important as
financial performance when evaluating companies for investment. Investors who
are provided with high levels of disclosure & transparency are likely to invest openly
in those companies.
Better AccessTo Global Market: Good corporate governance systems attracts
investment from global investors, which subsequently leads to greater efficiencies in
the financial sector.
9. Combating Corruption: Companies that are transparent, and have sound system
that provide full disclosure of accounting and auditing procedures.Transparency in
all business transactions, provide environment where corruption will certainly fade
out. CorporateGovernance enables a corporation to compete more efficiently and
prevent fraud and malpractices within the organization.
Easy Finance From Institutions: Several structural changes like increased role of
financial intermediaries and institutional investors
Enhancing EnterpriseValuation: Improved management accountability and
operational transparency .Investors’ expectations and confidence on management
and corporations, and return, increase the value of corporations.
Reduced Risk of Corporate Crisis and Scandals: Effective CorporateGovernance
ensures efficient risk mitigation system in place. Board of a company aware of all
the risks involved in particular strategy, thereby, placing various control systems to
monitor the related issues.
Accountability: Investor relations’ is essential part of good corporate governance.
10. Raksha – literally means protection, in the corporate
scenario it can be equated with the risk management
aspect.
Vriddhi – literally means growth, in the present day
context can be equated to stakeholder value
enhancement
Palana – literally means maintenance/compliance, in
the present day context it can be equated to compliance
to the law in letter and spirit.
Yogakshema – literally means well being and in
Kautilya’s Arthashastra it is used in context of a social
security system.
12. According to this theory, managers act as 'Agents'
of the corporation.
In agency theory, the owners are the principals.
Principals may not have knowledge or skill for
getting the objectives executed.
The principal authorises the mangers to act as
'Agents' for executing task.
contract between principal and agent is made.
Under the contract of agency, the agent should
act in good faith
13. It is the property of shareholders/ stockholders.
They can dispose off this property, as they like.
They want to get maximum return from this
property.
The owners seek a return on their investment and
that is why they invest in a corporation
So the directors are responsible for any damage or
harm done to their property i.e., the corporation
The role of managers is to maximise the wealth of
the shareholders.
14. It is input-output model and all the interest
groups which include creditors, employees,
customers, suppliers, local-community and the
government.
The different stakeholders also have a self
interest.
The stake holders have solidarity with each other.
This results in long term self interest.
The role of shareholders is reduced in the
corporation. But they should also work to make
their interest compatible with the other stake
holders.
15. The word 'steward' means a person who manages another's
property or estate.
Here, the word is used in the sense of guardian in relation to
a corporation, this theory is value based.
They are like a caretaker.They have to take utmost care of
the corporation.
This theory thus makes use of the social approach to human
nature.
The managers should manage the corporation as if it is their
own corporation.
They are not agents as such but occupy a position of
stewards.
Thirdly, moral support is important to fill any gaps in values.
16. 1977 The Foreign Corrupt PracticesAct
Provides for specific provisions regarding establishment, maintenance and review of systems of internal
control.
1979 US Securities Exchange Commission
Prescribed mandatory reporting on internal financial controls.
1985 Treadway commission
Emphasized the need of putting in place a proper control environment, desirability of constituting
independent boards and its committees and objective internal audit function.As a consequence, the
Committee of Sponsoring Organisations (COSO) took birth.
1992 COSO issued InternalControl – Integrated Framework.
TheCommittee of Sponsoring Organizations of theTreadway Commission (COSO) issued Internal Control –
Integrated Framework. It is a framework "to help businesses and other entities assess and enhance their
internal control systems”.
2002 Sarbanes – Oxley Act
The Act made fundamental changes in virtually every aspect of corporate governance in general and auditor
independence, conflict of interests, corporate responsibility, enhanced financial disclosures and severe
penalties for wilful default by managers and auditors, in particular.
The Dodd-FrankWall Street Reform and Consumer Protection Act, 2010
Vote on Executive Pay and Golden Parachutes: Gives shareholders a say on pay with the right to a non-
binding (advisory) vote on executive pay and golden parachutes (acquisitions)
17. The Financial Aspects on Corporate Governance, 1992 .The Code of
Best Practice” directing the boards of directors of all listed
companies registered in the UK,
1. Board of Directors-
“The board should meet regularly, division of responsibilities, chairman is
also the chief executive access to the advice independent and services of
the company
2. Non-Executive Directors
Non-executive directors should bring an independent
3. Executive Directors:
Disclosure of directors’ total emoluments and those of the chairman and
highest-paid directors
4. Financial Reporting and Controls:
Balanced and understandable assessment of their company’s position, in
reporting of financial statements
18. 1995 Greenbury Report
Confederation of British Industry constituted a group under the
chairmanship of Sir Richard Greenbury.
findings were incorporated in Code of Best Practice on Directors’
Remuneration of the Report.The majority of the recommendations
were incorporated in Listing Rules of London Stock Exchange.
1998 Hampel Report
Combined Code on Corporate Governance. –The original combined
Code.
1999Turnbull Report
Turnbull Committee published “Internal ControlGuidance for
Directors on Combined Code
2001 Myners: Review of Institutional Investment
The analysis contained in the Report pointed to a number of problems
2003 Revised Combined Code
Recommendations of Higgs Report, Smith Report &Tyson Report
relating to role and effectiveness of non-executive directors, audit
committee and recruitment
19. 2008Combined Code on Corporate Governance
. All companies incorporated in the UK and listed .The Combined Code on
Corporate Governance sets out standards of good practice in relation to issues
such as board composition and development, remuneration, accountability
and audit and relations with shareholders
2009 Walker Review of Corporate Governance of UK Banking Industry
To examine corporate governance in the UK banking industry.The effectiveness
of risk management at board level, skills, experience and independence of
board
2012 UK Corporate Governance Code (Revised)
As with all existing provisions of the Code, these additions are subject to
“comply or explain”. *FTSE - FTSE is an independent index company jointly
owned byThe FinancialTimes and the London Stock Exchange.
2012The UK Stewardship Code (Revised)
Engagement includes pursuing purposeful dialogue on strategy, performance
and the management of risk. clarification of the respective responsibilities of
asset managers and asset owners
20. Confederation of Indian Industry (CII)- Desirable Corporate Governance:
A Code ,CII took a special initiative on Corporate Governance, the first institution initiative in
Indian Industry.
It was called Desirable Corporate Governance:A Code. A brief summary of the Desirable
Corporate GovernanceCode is reproduced hereunder:
Recommendation
I =The full board should meet a minimum of six times a year.
II =Any listed company with a turnover of Rs.100 crores and above
should have professionally competent, independent, non-executive
directors
III =No single person should hold directorships in more than 10 listed
companies
IV =For non-executive directors to play a material role in corporate
decision making and maximising long term shareholder value
V =Pay a commission over and above the sitting fees for the use of the
professional inputs. • Consider offering stock options, so as to relate
rewards to performance.
VI =While re-appointing members of the board, companies should give
the attendance record of the concerned directors.
VI=Operational issues, CB, RB, Labor Issues , IA, JV, M&A
21. VIII =Formed Audit Committees
IX =Under “Additional Shareholder’s Information”, listed
companie
X =Consolidation of Group Accounts should be optional and
subject
XI = compliance certificate, signed by the CEO and the CFO
XII =For all companies with paid-up capital of Rs. 20 crores or
more. GDR issue.
XIII =The Government must allow far greater funding to the
corporate sector against the security of shares and other paper.
XIV =It would be desirable for FIs as pure creditors to re-write ,
Serious debt /default
XV = If any company goes to more than one credit rating agency.
It is not enough to state the ratings
XVI =Companies that default on fixed deposits ,
22. Recommendation
I =Frequency of Board meetings
II= Board Composition
III =No. of directorships
IV =Role, Responsibilities, Qualifications of Non-executive Directors
V =Remuneration of non-executive directors
VI =Disclosure of attendance record for reappointment
VII =Key information to the Board
VIII= Audit Committee
IX =Disclosure on shareholder information
X =Consolidated Accounts
XI =Compliance certificate
XII =Disclosure relating to Global Depository Receipts(GDR)
XIII= Funding
XIV =Nominee Director
XV =Disclosure of Ratings
XVI= Default on fixed deposits by company
23. SEBI had set up a Committee under the Chairmanship of Kumar
Mangalam Birla.
The recommendations of the Report, led to inclusion of Clause 49 in the
Listing Agreement in the year 2000.
Applicable - all listed companies with the paid-up capital of Rs. 3 crores
and above or net worth of Rs. 25 crores or more at any time in the
history of the company.
A summary of the Report is reproduced hereunder:
The Board should have an optimum combination of Executive and Non
Executive Directors with not less than 50 per cent of the Board consisting
of non-executive directors.
Board meetings should be held at least four times in a year, with a
maximum time gap of four months between any two meetings.
Financial Institutions should appoint nominee directors on a selective
basis and nominee director
Audit Committee - that a qualified and independent audit committee
RemunerationCommittee- should comprise of at least three directors
Shareholders/Investors' Grievance Committee of Directors
24. In May 2000, the Department of Company Affairs under chairmanship of Dr. P.L. Sanjeev
Reddy, Secretary, DCA
A Summary ofTask Force Report given below:
• Higher delineation of independence criteria and minimization of interest conflict
potential.
• Directorial commitment and accountability through fewer and more focused
board and committee membership.
• Meaningful and transparent accounting and reporting, improved annual report
along with more detailed filing ,information and communications technologies.
• Setting up of an independent, Autonomous Centre for Corporate Excellence to
accord accredition and promote policy research and studies, training and education,
etc., in the field of corporate excellence through improved corporate governance.
• Introducing formal recognition of Corporate Social Responsibility
• Clear distinction between two basic components of governance in terms of policy
making and oversight responsibilities of the board of directors, and the executive
• Apply the highest and toughest standards of corporate governance to Listed
companies.
• PSUs be relieved from multiple surveillance agencies and simultaneously a
commission be appointed to draft a suitable code of public behaviour.
25. Highlights of Naresh Chandra Committee Report
: Recommendation
2.1: Disqualifications for audit assignments
Prohibition of any direct financial interest in the audit client
Prohibition of receiving any loans and/or guarantees
Prohibition of any business relationship
Prohibition of personal relationships
Prohibition of service or cooling off period
Prohibition of undue dependence on an audit client.
2.2: List of prohibited non-audit services
2.4: Compulsory Audit Partner Rotation
2.5: Auditor’s disclosure of contingent liabilities
2.6: Auditor’s disclosure of qualifications and consequent action
2.7: Management’s certification in the event of auditor’s replacement
2.8: Auditor’s annual certification of independence
26. 2.9: Appointment of auditors
2.10: CEO andCFO certification of annual audited accounts
3.1: Setting up of independentQuality Review Board
4.1: Defining an independent director
4.2: Percentage of independent directors
4.4: Disclosure on duration of board meetings/Committee meetings
4.5:Tele-conferencing and video conferencing
4.6: Additional disclosure to directors
4.7: Independent directors on Audit Committees of listed
companies
4.9: Remuneration of non-executive directors
4.10: Exempting non-executive directors from certain liabilities
4.11:Training of independent directors
27. In 2004, the Government constituted a committee under the Chairmanship of Dr.J.J. Irani,
Director
The Extracts of the Executive summary relating to Management and Board Governance is
reproduced here in below:
Board Composition:- Minimum number of directors necessary for various classes of
companies.
Appointment and resignation of director:-At least one director resident in India.
Requirement of obtaining approval of Central Govt
Independent Directors-independent directors and spell out their attributes, role,
qualifications, liability and manner of appointment
Remuneration of Directors: -“Government approval based system” but should be
left to the company. No limits need be prescribed.
Committees: -Certain committees by independent directors Audit, remuneration
,SH
Disqualification of director: -Failure to attend board meetings for a continuous
period of one year
Board meetings: -Board Meetings by electronic means to be allowed
Annual General Meetings:-Use of postal ballot during meetings of members should
be allowed to be more widely used by companies.
Appointment of MD/WTD:- Managing Director (MD)/WholeTime Directors (WTD
Key managerial Personnel: -Every company should be required to appoint
28. SEBI appointed the Committee on Corporate Governance on
May 7, 1999 under the Chairmanship of Shri Kumar Mangalam Birla
Key constituents of corporate governance identified by the
committee are:
the shareholders;
the Board of Directors; and
the management
Major aspects of corporate governance Accountability ,
Transparency , Equal treatment to all stakeholders .
The Committee’s primary aim was to:
(i) to suggest suitable amendments to the listing agreement executed
by the stock exchanges
(ii) to draft a code of corporate best practices; and
(iii) deal with insider information and insider trading.
29. 1. Role and powers of Board
▪ The Board as a main functionary is primary responsible to ensure value creation for
its stakeholders.
2. Legislation
▪ Legislation that requires continuing legal interpretation or is difficult to interpret on
a day-to-day basis.
3. Management environment
▪ clear objectives and appropriate ethical framework, establishing due processes,
providing for transparency and risk assessment.
4. Board skills
▪ Operational , Financial skills; Legal skills, regulatory
5. Board appointments
▪ A well-defined and open procedure must be in place for reappointments as well as
for appointment of new directors.
6. Board induction and training
▪ Attendance at continuing education and professional development programmes
7. Board independence
▪ Independent Board is essential for sound corporate governance. Assessing the
performance of managers with an objective perspective.
30. 8. Board meetings
▪ Directors must devote sufficient time and give due attention to meet their obligations
9. Code of conduct
▪ It is essential that the organization’s explicitly prescribed norms of ethical practices and code of
conduct .
10. Strategy setting
▪ The objectives of the company must be clearly documented in a long-term corporate strategy
including an annual business plan
11. Business and community obligations
▪ Though basic activity of a business entity is inherently commercial yet it must also take care of
community’s obligations.The Board requires comprehensive, regular, reliable, timely, correct and
relevant information financial and non-financial
13. Monitoring the Board performance
▪ The Board must monitor and evaluate its combined performance and also that of individual
directors
14. AuditCommittees
▪ TheAuditCommittee is inter alia responsible for liaison with the management; internal and
statutory auditors, reviewing the adequacy of internal control and compliance
15. Risk management
▪ Risk is an important element of corporate functioning and governanceFor this purpose the company
should subject itself to periodic external and internal risk reviews.
31. I M POSSIBLE
1
I M POSSIBLE
Bibek Prajapati
(FCMA, CS , MBA, M COM, ).
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