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CG German Model Project DRAFT
CG German Model Project DRAFT
CG German Model Project DRAFT
LETTER OF TRANSMITTAL
Mr. Banking Policy & Regulation Department State Bank of Pakistan Karachi. Dear Sir, Please accept our internship report on Stakeholders Approach to Corporate Governance of Banks- The German Model During the process of preparing this report, we have learnt valuable amount of practical Knowledge regarding the corporate governance practices and prevailing laws and regulation in Pakistan. We hope the work comes up to your expectations. Yours Sincerely, Mr. Mehtab Hussain Shah Project Supervisor, Assistant Director, BPRD Dated: August 03, 2012
ACKNOWLEDGEMENTS
Table of Contents
Table of Contents................................................................3 Corporate Governance- An Overview: ...................................................................................4 Some Definitions of Corporate Governance:.......................................................................5 Role of Banks and Good Corporate Governance:...................................................................5 Background:....................................................................................................................... 7 Stakeholders:......................................................................................................................... 8 Banks and the stake holders:............................................................................................. 9 Employees:.................................................................................................................... 10 Shareholders:................................................................................................................ 10 Board of Directors:........................................................................................................ 11 Management:................................................................................................................ 11 Clients:.......................................................................................................................... 12 Customers:.................................................................................................................... 12 Three Models of Corporate Governance from Developed Capital Markets...........................15 Introduction ..................................................................................................................... 15 The Anglo-US Model............................................................................................................. 16 Key Players in the Anglo-US Model ..................................................................................16 Share Ownership Pattern in the Anglo-US Model..............................................................17 Composition of the Board of Directors in the Anglo-US Model..........................................17 Disclosure Requirements in the Anglo-US Model..............................................................18 Corporate Actions Requiring Shareholder Approval in the Anglo-US ................................18 Interaction among Players in the Anglo-US Model............................................................19 The Japanese Model............................................................................................................. 20 Key Players in the Japanese Model...................................................................................20 Share Ownership Pattern in the Japanese Model..............................................................21 Composition of the Board of Directors in the Japanese Model..........................................21 Regulatory Framework in the Japanese Model..................................................................22 Disclosure Requirements in the Japanese Model..............................................................22 Corporate Actions Requiring Shareholder Approval in the Japanese Model......................23 Interaction Among Players in the Japanese Model............................................................24 Regulatory Framework in the German Model:..................................................................27 Disclosure Requirements in the German Model:...............................................................27 Corporate Actions Requiring Shareholder Approval in the German Model:.......................28 German Panel on Corporate Governance: ...........................................................................30 Institutional Ownership........................................................................................................ 40
Stakeholders Approach to Corporate Governance of Banks- The German Model business. All the decisions taken should be transparent so that no question should be posed against any of them. This could be done easily by both internal and external audit systems.
Stakeholders Approach to Corporate Governance of Banks- The German Model banking has been growing in recent years, primarily because of the sustained high share of debt financing of the economy, systemic transformations taking place in many countries, and the role of banks in ensuring financial stability. In Pakistan, we have been witnessing significant changes in the banking sector over the last decade or so, following start of the liberalization of the financial system and privatization of the nationalized banks (except NBP) and emergence of a few new private banks. As a result, the ownership structure of some banks and the entire banking system has changed which emitted significant improvements in the banking industry of Pakistan and enabling it to be ranked on scale of global admiration. The purpose of the study is to make an assessment of the corporate governance of banking industry considering different approaches adopted by the stakeholders worldwide with a view to improve the governance structure of Pakistani banking industry. Banks are a critical component of any economy. Corporate governance is important in banks because: a.) They provide financing for commercial enterprises, basic financial services to a broad segment of the population and access to payment systems. b.) In addition, some banks are expected to make credit and liquidity available in difficult market conditions. c.) The importance of banks to national economies is underscored by the fact that banking is, almost universally, a regulated industry and that banks have access to government safety nets. It is of crucial importance therefore that banks have strong corporate governance. Although, banks are similar to other firms in terms of the composition of shareholders, debt holders, board of directors, competitors, etc, there in one important distinction between banks and other firms. The nature of transaction banks are involved in suggests that banks are expected utility maximize, (sometimes, it takes more than 20 years to complete a transaction). As a result, the risk factor increases substantially and hence risk management becomes important. In an emerging economy where banks are the main source of generating savings and investment, these concerns are even more important.
Stakeholders Approach to Corporate Governance of Banks- The German Model State Bank of Pakistan, during 1990s and the decade that follows it, has implemented policies to improve and reform the banking sector in Pakistan. These reforms were initiated in 1990s and were slow in nature at the start. Although slow, these reforms have been consistent and continuous recently. As a result of these reforms, the commercial banking industry in Pakistan has taken a new shape and is working on a new vision. Part of these reforms is also related to the issue of corporate governance of banks in Pakistan. This is the main focus of the remainder of this study. It is, however, imperative to have a brief discussion of the banking sector restructuring before we embark on the issue of corporate governance.
Background:
At the time of independence, out of 99 commercial banks only one, Habib Bank, had its head office located in the area that was to become the new country named Pakistan. From 1947 to 1974 the banking sector grew rapidly. The private sector started investing in the commercial banks with branching network. In 1974 the ruling political party decided to nationalize the banks which were working at that time. These banks were collectively called as nationalized commercial banks (NCBs). In 1980s the military regime decided to denationalize the banks with a purpose of to enhance competition among the banks. Following policies were introduced: a). The partial deregulation of interest rates. b). The expansion rates of NCBs were reduced deliberately. c.) Foreign banks were allowed entry in order to improve the competition by providing those licenses.
Stakeholders Approach to Corporate Governance of Banks- The German Model collaboration with the Economic Affairs Division (EAD) of the Ministry of Finance. The project was launched in August 2002 with the objective to design, develop and implement a Code of Corporate Governance. Though this project had some discussion on corporate governance for banks but its main focus was the corporate sector in Pakistan and issued measures to create stakeholder awareness, capacity building and networking with other emerging economies. To address the problems of banking sector, the State Bank of Pakistan (SBP) issued a Handbook of Corporate Governance in 2003. The objective of this handbook is to provide guidelines for Board of Directors, managers and shareholders. Most of the recommendations and guidelines stated in the handbook are directly drawn from the recommendations made by Basel Committee on corporate governance and OECD. These guidelines cover four important areas, namely, Board of Directors, Management, Financial Disclosure, and Auditors.
Stakeholders:
A corporation enjoys the status of a separate legal entity; however, the formation of a public listed company is such that its success is dependent upon the performance of a contribution of factors encompassing a number of stakeholders. A stakeholder is a person (including an entity or group) that has an interest or concern in a business or enterprise though not necessarily as an owner. The ownership of listed companies is comprised of a large number of shareholders drawn from institutional investors to members of public and thus it is impossible for it to be managed and controlled by such a large number of diversified minds. Hence, management and control is delegated by the shareholders to agents called the Board of directors. In order to achieve maximum success, the Board of directors is further assisted by managers, employees, contractors, creditors, etc. Therefore it is imperative to recognize the importance of stakeholders and their rights. Communication with stakeholders is considered to be an important feature of corporate governance as cooperation between stakeholders and corporations allows for the creation of wealth, jobs and sustain ability of financially sound enterprises. It is the Board's duty to present a balanced assessment of the company's position when reporting to stakeholders. Both positive and negative aspects of the activities of the company should be presented to give an open and transparent account thereof. The annual report is a vital link and, in most instances, the only link between the company and its stakeholders. The Companies Ordinance requires
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Stakeholders Approach to Corporate Governance of Banks- The German Model directors to attach in the annual report a directors' report on certain specific matters. The Code expands the content of the directors' report and requires greater disclosure on a number of matters that traditionally were not reported on. The aim is for the directors to discuss and interpret the financial statements to give a meaningful overview of the enterprise's activities to stakeholders and to give users a better foundation on which to base decisions. Specific emphasis has been placed upon the fiduciary obligations of directors and hence the need to understand the implications of such obligations also arises.
Key stakeholders in a business organization include creditors, customers, directors, employees, government (and its agencies), owners (shareholders), suppliers, unions, and the community from which the business draws its resources. Shareholders Board of Directors Management o CEO o Key Executives Clients/Customers Pier Groups Government Regulators Employees Creditors Employees: There is widespread agreement that they are a prime stakeholder. They work in the corporations (company) or in the banks. The primary interest of the employees should be the profit maximization of their firm which is indirectly related with their benefit i.e. if a corporation or bank functions well then it will provide bonuses to their employees. Shareholders: A shareholder is a one who holds stocks of a company/ bank. A share holder has the right to vote in certain matters of the company. For each share a shareholder owns he earns some dividend, which is some amount of money given to shareholder yearly/monthly/quarterly/semi annually depending on the nature of the share.
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Stakeholders Approach to Corporate Governance of Banks- The German Model The objective of share holders is to maximize their profit i.e. get the shares of the company whose dividends are high. Board of Directors: The Board of Directors has most of the powers to take decisions in respect of loans, guarantees and borrowings as well as seeing that the Bank is properly run, it ensures that the Bank is managed in keeping with the provisions of the Treaty and the Statute. The board of directors is selected by share holders in general elections/ meetings. Once they are selected there are some responsibilities which they need to fulfill: The board of directors will be responsible for the review and update of the existing policies. The board will ensure effective Management information system to cater the needs of changing markets conditions. The board of directors should clearly define the authorities and key responsibilities of both directors and senior management. The board of directors should meet frequently i.e. in monthly or weekly basis in order to discuss the matters of the corporation or bank. Management: The management includes CEO and other key executives who act as custodians of their respective departments. They are answerable to the BODs on the matters and decision of the departments in the banks. However, the banks are required to adhere to the SBPs guidelines including the Fit and Proper Test Criteria for the appointment of CEOs and key executives, non compliance to which may result into punitive actions against the banking company. The key criterions of the Fit and Proper test include: The incumbent should have a track record of Honesty, integrity and reputation, not convicted of any criminal offence including fraud or financial crime. Should be competent and capable of fulfilling his/her duties, having adequate qualification and experience. Should not have been removed/ dismissed from service in the capacity of an employee, director or chairman on account of financial crime or moral conduct. Should not be defaulter of payment(s) due to any financial institutions or tax office.
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Stakeholders Approach to Corporate Governance of Banks- The German Model Should not supervise more than one functional areas that give rise to conflict of interest within the banking company and should not hold directorship of a company that is a client to the bank. Clients: There are some of the discussions about the differences between clients and the stake holders. One of the differences told by Dr. Ichak Adizes was Stakeholders are all those who have a stake in the organization, i.e., who have a certain interest in the existence of the organization, but the organization does not EXIST for the stakeholder. It tries to satisfy the needs of stakeholders by satisfying the needs of its clients. Stakeholders are the driven force. Not the driving force. Clients are the purpose for which the organization exists and stakeholders are all those interests, internal and external, that came together for the purpose of satisfying client needs and in doing so expect some return for their effort.
Creditors: Creditors rights are often protected under contract and backed by collateral so they are seldom treated as owners as the shareholders are treated. Future generations: Sustainable development is at the center of the stakeholder debate and this suggests a responsibility to future generations --those who will one day be reliant upon the physical environment-- as a stakeholder group. Sometimes they are included as stake holders and sometimes not. Customers: A customer can be external or internal to banks. Our understanding of our
customers/stakeholders should be at a depth appropriate to our role. When you demonstrate this level of understanding, it enables you and banks to deliver a comprehensive service with impact for customers/stakeholders. You are responsive to customer and stakeholder needs and understand the business environment in which they operate. You also appreciate the diverse challenges they face and maintain an impartial and independent view, as necessary.
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Types of Stakeholders:
Stakeholders are people/communities who may - directly or indirectly, positively or negatively affect or be affected by the outcomes of projects or programs. 2.2.1 Primary stakeholders are the beneficiaries of a development intervention or those directly affected (positively or negatively) by it. They include local populations (individuals and communitybased organizations) in the project/program area, in particular, poor and marginalized groups who have traditionally been excluded from participating in development efforts. 2.2.2 Secondary stakeholders are those who influence a development intervention or areindirectly affected by it. They include the borrowing government, line ministry and project staff, implementing agencies, local governments, civil society organizations, private sector firms, the Bank and its shareholders and other development agencies. 2.2.3 A key element in participatory development is the ability to identify stakeholders, their needs, interests, relative power and potential impact on project outcomes. Stakeholder analysis, as described
Groups / individuals that are affected by and/or have an interest in the operations and objectives of the business
Stakeholder groups vary both in terms of their interest in the business activities and also their power to influence business decisions. Here is a useful summary :
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Stakeholder Shareholders Banks Lenders Directors managers Employees Suppliers Customers Community Government &
Profit growth, Share price growth, Election of directors other Interest and principal to be repaid, Can maintain credit rating and Salary ,share options, satisfaction, status satisfaction & motivation Long term contracts, payment, growth of purchasing Reliable quality, value for money, Revenue Environment, local jobs, local impact Indirect Operate legally, tax receipts, jobs / via repeat local business and product availability, customer service Word of mouth recommendation planning opinion leaders Regulation, planning subsidies, taxation, job Make enforce decisions, turnover, loan have industrial covenants detailed action,
Can withdraw banking facilities information service quality prompt Pricing, quality, product availability
Stakeholder power is an important factor to consider whenever you are asked to write about the relationship between a business and its stakeholders. In the context of strategy, what is important is the power and influence that a stakeholder has over the business objectives. For stakeholders to have power and influence, their desire to exert influence must be combined with their ability to exert influence on the business. The power a stakeholder can exert will reflect the extent to which: The stakeholder can disrupt the business plans The stakeholder causes uncertainty in the plans The business needs and relies on the stakeholder The reality is that stakeholders do not have equality in terms of their power and influence. For example:
A venture capitalist with 40% of the companys share capital will have a greater influence that a small shareholder
Banks have a considerable impact on firms facing cash flow problems but can be ignored by a cash rich firm
A customer that provides 50% of a business revenues exerts significantly more influence than several smaller customer accounts
Businesses that operate from many locations across the country will be less relevant to the local community than a business which is the dominant employer in a town or village
Governments exercise relatively little influence on many well-established and competitive business-to-business markets. However their power is much stronger over businesses in markets which are regulated (e.g. water, gas & electricity) or where the public sector has a direct stake (e.g. retail banking)
Employees have traditionally sought to increase their power as stakeholders by grouping together in trade unions and exercising that power through industrial action. However, in the last two decades the level of union membership has declined significantly as has the total time lost to industrial act.
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An outsider is a person or
Stakeholders Approach to Corporate Governance of Banks- The German Model Financial Aspects of Corporate Governance in the UK and shareholder organizations in the US.
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Stakeholders Approach to Corporate Governance of Banks- The German Model There is one important distinction between the US and the UK: in the US, shareholders do not have the right to vote on the dividend proposed by the board of directors. In the UK, shareholders do vote on the dividend proposal. Anglo-US model also permits shareholders to submit proposals to be included on the agenda of the AGM. The proposals - known as shareholder proposals - must relate to Shareholders owning at least ten percent of a a corporations business activity. (EGM) of shareholders. In the US, the SEC has issued a wide range of regulations concerning the format, substance, timing and publication of shareholder proposals. The SEC also regulates communication among shareholders.
corporations total share capital may also convene an extraordinary general meeting
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equity, trading of goods and services, and informal business contacts, are known as
Stakeholders Approach to Corporate Governance of Banks- The German Model In contrast with the Anglo-US model, non-affiliated shareholders have little or no voice in Japanese governance. As a result, there are few truly independent directors, that is, directors representing outside shareholders.
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Stakeholders Approach to Corporate Governance of Banks- The German Model Japanese boards are generally larger than boards in the UK, the US and Germany. The average Japanese board contains 50 members.
Stakeholders Approach to Corporate Governance of Banks- The German Model information on each nominee to the board of directors (including name, occupation, relationship with the corporation, and ownership of stock in the corporation); aggregate date on compensation, namely the maximum amount of compensation payable to all executive officers and the board of directors; information on proposed mergers and restructurings; proposed amendments to the articles of association; and names of individuals and/or companies proposed as auditors. Japans disclosure regime differs from the US regime (generally considered the worlds strictest) in several notable ways. These include: semi-annual disclosure of financial data, compared with quarterly disclosure in the US; aggregate disclosure of executive and board compensation, compared with individual data on the executive compensation in the US; disclosure of the corporations ten largest shareholders, compared with the US requirement to disclose all shareholders holding more than five percent of the corporations total share capital; and significant differences between Japanese accounting standards and US Generally Accepted Accounting Practices (US GAAP).
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Composition of the Management Board (Vorstand) and Supervisory Board (Aufsichtsrat) in the German Model:
The two-tiered board structure is a unique construction of the German model. German corporations are governed by a supervisory board and a management board. The supervisory board appoints and dismisses the management board, approves major management decisions; and advises the management board. The supervisory board usually meets once a month. A corporations articles of association sets the financial threshold of corporate acts requiring supervisory board approval. The management board is responsible for daily management of the company. The management board is composed solely of insiders, or executives. The supervisory board contains no insiders, it is composed of labor/employee representatives and shareholder representatives. The Industrial Democracy Act and the Law on Employee Co-determination regulate the size and determine the composition of the supervisory board; they stipulate the number of members elected by labor/employees and the number elected by shareholders. The numbers of members of the supervisory board is set by law. In small corporations (with less than 500 employees), shareholders elect the entire supervisory board. In medium-size corporations (defined by assets and number of employees) employees elect one-third of a nine member supervisory board. In larger corporations, employees elect one-half of a 20-member supervisory board.
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The purpose of Corporate Governance is to achieve a responsible, value-oriented management and control of companies. Corporate Governance Rules promote and reinforce the confidence of current and future shareholders, lenders, employees, business partners and the general public in
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Stakeholders Approach to Corporate Governance of Banks- The German Model national and international markets. The Supervisory Board, Management Board and Executive Staff of the Company identify themselves with these Rules and are contractually bound by them. They are part of the general obligation to observe other interests related to the corporate activity. The Rules of the Code serve as general guidelines for Corporate Governance for quoted German companies. Quoted companies are all enterprises whose shares are officially listed on a German stock exchange or traded over-the counter. The Rules, their acceptance, implementation and respective adjustments to the specifics of the individual Company shall be communicated in the Annual Report. Due to the various legal systems, institutional parameters, and traditions, there is presently no internationally accepted universal model for Corporate Governance. The parameters for the code are provided by codified law and leading cases, generally accepted national and international codes of good conduct and market practice. They include the directly relevant provisions of company and group law, in particular, the law governing stock corporations, financial accounting, banking supervision and the capital market as well as the Company's Memorandum and Articles of Association. From these derive the provisions, some of them detailed, with regard to the responsibilities and duties of the governing bodies: Supervisory Board (German Stock Corporation Act), Management Board (76-94 German Stock Corporation Act) and General Meeting (118-147 German Stock Corporation Act) as well as the code of conduct of the members of the governing bodies. The essential points of the OECD Principles for Corporate Governance of May 1999 are covered as follows: Protection of Shareholders' rights: Following the introduction of the German Act on Corporate Control and Transparency (KonTraG) in 1998, there are adequate provisions safeguarding the rights of shareholders through the comprehensive mandatory rules under the German Stock Corporation Act. In particular, the following OECD points are covered by mandatory law (23 German Stock Corporation Act):
Full voting right for each ordinary share (12 German Stock Corporation Act) No impediments with regard to ownership or registration (67 German Stock Corporation Act) Transferability of shares at any time (68 German Stock Corporation Act) Participation, proxy and exercise of voting rights at General Meetings (134 German Stock Corporation Act) Election of members of the Supervisory Board (101 German Stock Corporation Act)
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Stakeholders Approach to Corporate Governance of Banks- The German Model Participation in company profits. (58 German Stock Corporation Act). These points are mandatorily covered by German Law (23 German Stock Corporation Act). An authorization to increase the share capital with exclusion of shareholder participation rights in order to pursue either an acquisition or a share placement near the prevailing market price will only be exercised by the Management Board if the share capital increase does not exceed 10 % of the then existing share capital. In this calculation the re-utilization of any repurchased shares will be included. Equal treatment of shareholders: The 'Equal treatment of shareholders' stipulated by the OECD is also in place for German companies. The precautionary measures against insider trading, selfdealing and disclosure of any personal interests in transactions or matters are extended beyond the legal requirements by the subsequent points i.e. Two and three, Management board' and the Supervisory Board'. Until the enactment of the German Takeover Law, the voluntary Takeover Code of the Capital Markets Expert Commission of the German Ministry of Finance applies. This Code is accepted by the Company. In the case of repurchase of own shares according to 71, subparagraph 1, No. 8 German Stock Corporation Act, the Company shall observe the principle of equal treatment of all shareholders. Disclosure and transparency: The point 'Disclosure and transparency' of the OECD Principles is generally covered by law for German companies through the corresponding provisions on the obligation to provide and enclose information (20 - 22, 160, 328 German Stock Corporation Act; 15, 25 German Securities Trading Act; 285, 325 German Commercial Code; 35, 39 German Antitrust Act; 24 German Banking Act). In addition, the Management Board shall regularly and with due regard to equal treatment of all shareholders ('Fair Disclosure') report on all Company matters through Annual and Interim Reports, 'ad hoc' communications, analyst and press conferences. The OECD information requirements are covered by these publicity undertakings. The Company shall adopt an accounting standard that is suitable for international comparison purposes. As the Management Board and Supervisory Board of German companies have the decisive functions for Corporate Governance, the relevant points are dealt with in detail below:
Stakeholders Approach to Corporate Governance of Banks- The German Model The Management Board develops, in consultation with the Supervisory Board, the strategy for the Group and is responsible for its implementation. The Management Board is responsible for ensuring compliance with legal provisions within the Group and to ensure their observation by Group companies.
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Stakeholders Approach to Corporate Governance of Banks- The German Model g) As soon as the Company is notified (25 German Securities Trading Act), or becomes otherwise aware that another party has obtained, exceeds or no longer holds 5, 10, 25, 50 or 75% of the voting rights in the Company, this will immediately be published by the Management Board. h) In the Notes to the Company Accounts details with regard to the Management Board's interest in shares of the Company (including any existing option rights) and their changes in relation to the previous year have to be published.
2.) Remuneration
The remuneration of the Management Board and the Executive Staff shall include sufficient motivation to ensure long-term corporate value creation. This includes share option programs and performance-related incentives related to the share price development and the continuing success of the company. In connection with the granting of share options and similar rights to members of the Management Board and the executive staff the following points shall be observed: The initial exercise of the rights arising from share option programs shall not be possible before two years since the grant. To document the incentive character as well as to balance the surrender of the subscription right by the shareholders, the exercise shall depend on achieving or exceeding relevant and transparent benchmarks (e.g. the development of an industry index). The structure, total amount, exercise prices and exercise periods as well as the allocations of share options and similar rights in the reporting period shall be published in the Notes to the Company Accounts, separately by members of the Management Board and Executive Staff. To ensure compliance with insider laws, suitable precautions like closed periods of time are implemented. The fixed and variable remuneration elements of the Management Board shall be detailed in the Annual Report.
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Stakeholders Approach to Corporate Governance of Banks- The German Model In the running of the management of the company, the Management Board members must not pursue any own interest that could be in conflict with the interest of the Company. Members of the Management Board must disclose to the Supervisory Board material personal interests in transactions of the Company and Group companies as well as other conflicts of interest. They must also inform their Management Board colleagues. All transactions between the Company or any Group company and Management Board members as well as associated persons or companies must comply with normal industry standards. The transactions and the terms and conditions thereof must be approved in advance by the Supervisory Board. They may not run counter to the interests of the Company or any Group company. The granting of loans to Management Board members must be approved by the Supervisory Board with advance notice to the Management Board. In all such transactions, the Company shall be represented by the Supervisory Board. Management Board members and senior Group executives may not exploit business opportunities available to the Company or Group companies for themselves or for the benefit of associated persons or companies. Management Board members and senior Group executives are also prohibited from conducting transactions, conflicting with the interests of the Company or any Group company, for themselves or for associated persons. This prohibition also extends beyond their business duties. Management Board members must disclose to the whole Management Board transactions (except daily life transactions) among themselves or with Supervisory Board members or senior Group executives. The transactions require the approval of the Supervisory Board. Management Board members and senior Group executives are during their employment subject to a comprehensive prohibition of competition (Members of the Management Board: 88 German Stock Corporation Act). Any other activities of Management Board members, in particular the acceptance of Supervisory Board appointments, require the approval of the Supervisory Board. Any other activities of senior Group executives require the approval of the Management Board. The purchase and sale of Company shares, options or other share derivatives by members of the Management Board and senior Group executives are subject to special rules. It is generally welcomed that the Management Board and senior Group executives document their identification with the Company through a shareholder status. However,
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Stakeholders Approach to Corporate Governance of Banks- The German Model they should refrain from frequent transactions and counter transactions which aim to achieve very short term gains (speculative deals). Appropriate measures such as closed periods for the purchase or sale of shares should ensure the observation of the provisions of the insider laws. The Management Board shall ensure the compliance through a Compliance Officer that shall report to the Supervisory Board at least once a year. i) Management Board members and Group employees may in connection with their activity neither request nor receive gifts or other advantages for themselves or third parties, if this could jeopardize the interests of the Group or the interests of customers.
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Stakeholders Approach to Corporate Governance of Banks- The German Model g) The Supervisory Board shall receive regularly (at least annually) a report by the Management Board with regard to donations exceeding an amount determined by the Supervisory Board.
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Stakeholders Approach to Corporate Governance of Banks- The German Model - The preparation of a report by the Management Board with regard to corporate donations exceeding an amount determined by the Supervisory Board, And, if applicable, - The discussion of partial auditing results during the year (e.g. of the internal control system), - The discussion of Interim Accounts and the results of any audits performed therefore. Personnel Committee: The Personnel Committee deals with the personnel issues of the Management Board (including its succession planning). The Personnel Committee shall recommend with regard to the content of the employment contracts of the Management Board including their remuneration. In addition, the Committee is responsible for the approval of paid for outside company work by members of the Management Board. The granting of loans to members of the Management Board and the Supervisory Board shall also be dealt with by the Committee. Nomination Committee: The Nomination Committee is in charge of the composition, size, and balance of the Supervisory Board and the proposals for election to the General Meeting.
Market- and Credit Risk Committee: This Committee supervises the handling of
market risks and credit matters of the Group. It handles loans and other transactions requiring its approval and is informed of loans requiring its notification. For urgent matters, decisions can be delegated to nominated Committee members.
Stakeholders Approach to Corporate Governance of Banks- The German Model available to the Company or its Group companies. In the event of possible conflicts of interest, the interests of the Company and its Group companies must take priority and the Supervisory Board members concerned must abstain from voting. All transactions between the Company, any Group company, and Supervisory Board members as well as associated persons or companies must comply with normal industry standards. The transactions (except: daily life transactions) and their terms must be approved in advance by the Supervisory Board. They may not run counter to the interests of the Company or any Group company. The granting of loans to Supervisory Board members by the Company or Group companies requires the agreement of the Management Board and the Supervisory Board. Supervisory Board members may, in conjunction with their activity, neither request nor receive gifts or other advantages for themselves or third parties, if this could jeopardize the interests of the Group or customers. Frankfurt, January 2003
Institutional Ownership
Institutional ownership is defined as share ownership by financial institutions (both banks and non-bank financial companies) and non-financial corporations. These include both the publicowned as well as privately owned institutions. Typically institutions are categorized as follows: 1. Non-banking Finance Companies (NBFC): insurance companies, mutual funds, investment companies, leasing, venture capital companies etc 2. Banking Companies: These include the commercial banks 3. Non-financial Corporation 4. All other non-financial entities including trusts and non-profit organizations 5. Development Financial Institutions and International organizations/fund managers The scope of this paper is limited to only local financial institutions, which includes both banking and non-banking institutions.
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Shareholder Activism
Institutional investor activism is defined as monitoring of performance and corporate governance of portfolio companies by institutions, which include both banks and non-bank financial companies. But the scope of activism also includes attempts made to bring about
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Stakeholders Approach to Corporate Governance of Banks- The German Model changes in a companys behavior for adoption of good governance practices. Generally there can be two modes of institutional shareholder activism: 1. Block holders who buy shares in a company and are determined to bring about changes in decision-making policies of the firm 2. Market for Corporate Control
Stakeholders Approach to Corporate Governance of Banks- The German Model h) Mutual Funds
2. Foreign Institutional Investors Pakistan like other developing markets has certain characteristics, which differ, from developed countries. These include: 1. Family-owned business: Many listed companies especially in the textile sector in Pakistan are family-owned. This leads to insider control and concentrated ownership. 2. Less developed Capital Market. The capital market in Pakistan is less developed. Active trading is done in only a few companies. Also there have not been many new listings which means that there is less reliance on market for raising capital 3. Absence of market for corporate control: Market for corporate control does not exist. There is hardly any incident of corporate control and takeovers. The reason again is that controlling ownership lies with Directors. 4. Heavy reliance on Bank financing 5. With the Initial Public Offering, share distribution is done in such a way that majority of the shareholding lies with directors directly or indirectly. The Directors of the company endeavor to spread the remaining share ownership making it as diverse as possible so as to avoid possibility of corporate control. Table 1: Pattern of ownership in Pakistan
Table 1 above shows pattern of ownership in Pakistan. As we can see, total financial institutions ownership in the manufacturing sector of Pakistan is 24%. Apart from financial institutions, other major shareholders can be directors and sponsors. It is pertinent to mention
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Stakeholders Approach to Corporate Governance of Banks- The German Model here that the sample for this study excludes financial institutions ownership in financial and government-owned companies. Banking sector turns out to be the most significant equity holder with around 12% holding. This is because there is no restriction currently on bank investment in equity and banks tend to diversify their portfolio by investing in equity. There is also a conflict because banks are also lenders and are interested in timely loan payment. Stock market responds positively to improvement in credit rating of a company. So banks can also gain benefit if they give loan to a company. One interesting aspect from this data is that Development Financial Institutions (DFI) has turned out to be significant equity holders with 8.56% holding. In Pakistan like many other developing countries DFIs usually play a very important role in termfinancing. However, it is evident from the table that financial institutions holding become insignificant if we remove bank holdings. One striking feature is that Mutual Funds have very low equity holding. This is probably due to market volatility, less developed mutual fund industry and lack of fund management skills. Lack of sophisticated financial instruments and price discovery mechanism in the market are also major deterrent for non-bank institutional investors We now examine investment of government-owned financial institutions namely National Investment Trust and Investment Corporation of Pakistan. Both are currently going through the process of privatization but these were government owned for the sample period. Therefore we treat ICP and NIT as government-owned financial institution as well. It turns out that ICP has 0.61% equity holding while stockholding of NIT is around 5%. NIT has high holding because according to Capital Issues Act it was mandatory for all companies to offer 20% of the paid up capital to NIT during IPO. This act was, however repealed in 1995.
Leasing Upto 30% of its total assets It is however pertinent to mention here that investment companies (closed-end mutual funds) are allowed to hold in a company an amount not exceeding 10% of the total paid-up capital of
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Stakeholders Approach to Corporate Governance of Banks- The German Model the Fund or the investee company as per investment companies and investment advisors rules 1971. According to Asset Management Companies Rules of 1995, open-end companies cannot invest more than 25% of its net asset value in securities of any one sector. Further Modaraba cannot make an investment in the shares of a listed company of an amount exceeding 5% of its own equity or 10% of paid up capital of that company whichever is less (Prudential Regulations for Modarabas, 2002). As we can see that law in Pakistan imposes limitations on Institutional shareholding. For Institutional shareholder activism this can be deterrent. This also means that corporate control market has no incentives to develop. However, recently promulgated ordinance on take over and acquisition states that prospective acquirers have to disclose information regarding their intension to acquire within the range of 25% to 50% holding. It is mandatory upon the company to give proportionate representation to these shareholders according to their controlling shares. Companies ordinance in Pakistan (1984) gives description of the way voting shall be carried out at AGM. Section 165 states At any general meeting, a resolution put to the vote of the meeting shall, unless a poll is demanded, be decided on a show of hands.Furthermore the law has clear provisions for proxy voting. It says that all the members may participate in the meeting (AGM) either personally or through proxy. Section 161 states Any member of a company entitled to attend and vote at a meeting of the company shall be entitled to appoint another person, as his proxy to attend and vote instead of him, and a proxy so appointed shall have such rights as respects speaking and voting at the meeting as are available to a member. It further states Every notice of a meeting of a company shall prominently set out the members right to appoint a proxy and the right of such proxy to attend, speak and vote in the place of the member at the meeting and every such notice shall be accompanied by a proxy form.So the law is not discouraging proxy voting. This law is protective for minority shareholders in particular. However according to section 167, demand for poll may also be made subject to discretion of the chairman by following persons: a) In the case of a public company, by at least five members having the right to vote on the
resolution and present in person or by proxy. b) c) total d) In the case of a private company, by one member having the right to vote on resolution By any member present in person or by proxy and having not less than one-tenth of the voting power in respect of the resolution Also if shares confer right to vote on the resolution From the law, it is obvious that
institutional shareholders can demand poll. They may do so if they have other conflicts of interest e.g. if they have other business with the company as well. The board of directors sends
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Stakeholders Approach to Corporate Governance of Banks- The German Model proxy forms to the shareholders. This proxy form allows for two-way voting on all resolutions which are to be proposed i.e. shareholders has the choice to vote for or against any resolution. If a shareholder does not specify how the proxy should vote on the different issues, the proxy will be free to vote as he pleases.
Stakeholders Approach to Corporate Governance of Banks- The German Model In short, Financial Institutions are block-holders in Pakistan. We find that 45% of companies have holding greater than 20%. Therefore stakes are high and incentive for shareholder activism is present. Although the legal conditions in Pakistan are not helping to flourish the market for corporate control particularly for non-banking financial sector, proxy voting is allowed and there is no restriction on co-ordination among institutions Most of the banks nominee directors lack expertise. In addition, there is always conflict of interest involved as banks are only interested in quick recovery of their loans. It is therefore imperative to develop non-bank financial companies as fund managers possess skills and knowledge to monitor. As these non-bank finance companies develop, potential for institutional shareholder activism will increase in Pakistan. In this regard SEC has been taking various steps for market deepening and introduction of sophisticated financial instruments. With T+3 system in place, it is expected that price discovery mechanism will also improve. Moreover, two private pension funds have also been approved. It is expected that these steps will help in development of non-bank institutional investors and their activism.
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They point out that the recent financial reforms have made the financial sector in Pakistan very risk averse, thereby limiting the amount of credit that is made available to the corporate sector in Pakistan. The appendix of the paper outlines the legal aspects of corporate governance in Pakistan by highlighting the areas where this Code reinforces the current corporate laws and regulations, and where it overlaps them. Cheema et al. (2003) further argue that in the current market structure and corporate environment, many of the provisions of the Code of Corporate Governance (2002) will not be as effective as they would have been in a more developed capital market. The paper provides a good backdrop for further research by showing the ownership structure in Pakistan and the macroeconomic environment with the perspective of applicability of the Code of Corporate Governance (2002).
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Stakeholders Approach to Corporate Governance of Banks- The German Model Cheema et al. have highlighted the role of family ownership and their basic premise is based on the theory of path dependence, suggesting that the historical progress of the industry in Pakistan was one whereby family ownerships were promoted.
They show the high evidence of pyramiding in Pakistan in the absence of effective capital market reforms. Their discussion suggests that concentrated control in Pakistan, which is buttressed by interlocking directorships, cross-shareholdings and pyramid structures, may strengthen incentives for excessive private benefit seeking. Analyzing the stock market in Pakistan, and the role of brokers therein, Khwaja et al. (2004), find that brokers earn annual rates of return that are 50-90% higher than those earned by outsiders, when they trade on their own behalf. They refer to price manipulations by the brokers as a pump-and-dump phenomenon, i.e., when prices are low, colluding brokers trade amongst themselves to artificially raise the prices and attract positive-feedback traders'. Given that the distinctive nature of each country's' culture, history, and institutions as Charkham (2000) points out. it would be impossible for one nation to copy anothers arrangements in their entirety.
Stakeholders Approach to Corporate Governance of Banks- The German Model The annual reports for the year 2003 were used to collect information regarding the shareholding patterns of each of the 30 companies in the sample. Securities and Exchange Commission of Pakistans (SECP) reporting requirements require the annual records to have a Pattern of Shareholding for the year, which tabulates the number of shareholders, the class/category of number of shares held, and finally total number of shares held. The data for each company was split into the 2 categories: top 5 shareholding classes and bottom 5 shareholding classes. In some instances where there werent 5 classes in either category, then less than 5 classes were taken. The total percentage of shareholding for top 5 and bottom 5 shareholding categories was calculated respectively. The average number of individuals falling in the category of smallest 5 shareholdings is 5352.533 holding an average of 8.76% of the total equity in the sample. Whereas on average 5.033 individuals held shares that fall in the largest 5 shareholding category and hold about 64.6% of the shares, according the sample of 30 companies. To draw inferences about the statistical population based on information obtained from the sample dataset, the z-test was chosen as the testing method. Z, a standard normal variable, is used to test for the sample mean.
Recommendations:
After coming to know that what "Corporate Governance" is. Who are the stakeholders of a corporation and studying the "German Model" in-depth, we can now easily draw out the setbacks in the Anglo-American model of corporate governance and similarly, the problems faced by stakeholders in Pakistani system as a result of the implications of this model. We can also discuss the impacts if the German Model was to be implied in the Pakistani system. So, for this purpose we are going to jot down the recommendations which we think could be helpful in the proper understanding of this complex setup. First of all we are going to criticize the Anglo-America model. What is important here to understand is that what we will criticize in this model can easily be related to the problems which are faced by the stakeholders in the Pakistani system.
The diversity of corporate models is valuable and is rooted in societal characteristics that together shape the competitiveness of the different models. Though shareholder value may be gaining ground due to the influence of Anglo-Saxon institutional investors, a stakeholder
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Stakeholders Approach to Corporate Governance of Banks- The German Model approach is closer to the reality of European social democracies, and the outcome of the confrontation between the two competing philosophies is highly uncertain. It is unlikely that imported Anglo-Saxon capital market related features of corporate governance will work well with Continental labor-related aspects of corporate governance as represented in supervisory boards. It is likely any such European compromise would be more unstable than existing systems (Reberioux 2000; Cernat 2004). Christel Lane (2003) said that, "Because forms of corporate governance structure most other relationships within firms and even in society as a whole, they are inherently connected with a distribution of power and material welfare. They therefore decisively shape the logic of the whole political economy. Hence there is strong concern, particularly but not only on the part of labor, with the consequences of change for the distribution of surplus and control to various stakeholders in the firm, as well as the future viability of the production paradigm of diversified quality production. She has a pessimist view about the Anglo-American model and its impact on the global corporate governance.
The person increasingly at the centre of defining and projecting the responsibilities and objectives of the corporation in the Anglo-American mode of corporate governance is the Chief Executive Officer (CEO). The position of CEO has grown in status and public recognition as corporations have become larger and more powerful and extended their reach globally. The leadership qualities of CEOs are celebrated in business bookshops in the way once reserved for statesmen, generals, or explorers. Among the qualities expected of CEOs is the vision to see a new future for the corporation (a sage CEO once said there is a hairs breadth difference between a vision and an hallucination), and as John Harvey-Jones the former CEO of ICI described it the capacity to make things happen. As CEO of Disney Michael Eisner made things happen when in 1998 he appropriated a total compensation package of $576 million. (This was greater than the combined compensation of all 100 CEOs of the FTSE 100 companies at the time, and greater than the combined salaries of similar large groups of CEOs of leading companies in other parts of the world). Though the board of directors is invested with the responsibility for the company in law, the practical reality is often that the CEO is very much in charge. In the United States CEOs accumulated power to themselves as their corporations began to dominate world markets in the middle decades of the 20th century, and the role of the board was marginalized: Corporate boards, asserts legal tradition, are the sovereigns of their realm.
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Stakeholders Approach to Corporate Governance of Banks- The German Model But until they began to flex their muscles during the 1990s, boards rarely behaved that way, leaving most decisions in the hands of management (Lorsch and MacIver 1989; Useem 1996). State corporation laws that assign ultimate responsibility for company affairs to the governing body permit directors to delegate the running of the company to management. The problem is that, until recently, managements power in large American companies reflected less a deliberate delegation of authority by a sovereign body than a de facto reality in which management had become dominant, effectively controlling the agenda of the board to which it was only nominally subordinate. (Useem and Zelleke 2006:2) Chief executives used their control of boards not only to prevent any challenge to their position, but to aggregate to themselves an increasing share of the wealth generated by the company, both in terms of rapidly inflating salaries, and massively growing stock options. A comparative perspective underscores the immense power, charisma and leadership given in the US corporate governance system to the chief executive officer (CEO), who usually also exercises the role of chairman of the board. In fact, in the USA, the split of these two roles is generally perceived as a transitional arrangement or a sign of weakness, particularly in the case of new outside CEOs. The over-centralization of power in the CEO is evident in the gap between the CEOs salary and that of other executives (Aguilera 2005:45; Khurana 2002)
During the boom years of the 1990s there was a rapid and sustained escalation in CEO salaries in the United States, and any expected adjustment downwards in executive reward with the market crash of 2001, and the halving of the market capitalization of many large corporations, did not occur. Though there were more stringent efforts to link CEO compensation to performance, CEO reward remained at incredibly high levels whether the companies they managed did well or not. Extremely lucrative share option schemes continued, and if the options packages became more sophisticated, there were many devices such as backdating widely employed to ensure executives extracted the best possible reward from their options. Looking at the extremes of this profligacy, Table 1 indicates the total remuneration of the ten highest paid CEOs in public corporations in the US in 2006, and in contrast the total remuneration of the ten highest paid CEOs in European listed public corporations is given in Table 2. Included in the compensation figures are base salary, bonuses, benefits, long term incentive plans, and profits from cashing out on stock options where this information was accessible. The inflation of US CEO salaries relative to their colleague CEOs in Europe is
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Stakeholders Approach to Corporate Governance of Banks- The German Model demonstrated by the fact that the US average top CEO salary is almost three times greater than their counterparts in Europe. While these comparisons are inevitably crude since much compensation of different forms is hidden in the US, and probably more so in other countries, these astonishing disparities are an indication of how out of control US CEOs reward has been for a long time. CEO salaries are only a part of wider structures of inequality that have become more extreme in recent years, and rewards for executives in the finance sector have become even more astronomically inflated: James Simons the Director of Renaissance Technologies received $1.5 billion in compensation in 2006, Steven Cohen of SAC Capital received $1.2 billion, Kenneth Griffin of Citadel Investment Group also received $1.2 billion, T.Boone Pickens of BP Capital picked up $1.1 trillion, and George Soros earned a modest $950 million. While CEOs of corporations might be criticized for putting their self-interest before that of the companies they manage, the directors of fringe financial institutions appear to have manipulated and destabilized world markets to secure even greater personal reward (IPS 2007; Soros 2008). Whatever loss occurs to shareholder funds due to excessive CEO salaries in U.S. corporations and financial institutions the wider implications of this extravagance are more serious, in terms of how the corporations are managed, the objectives they pursue, and the consequences for the wider economy and community.
Compounding Inequality:
More critical than the detachment of US executives from their shareholders interests that occurred in the 1990s, was the distance that grew between the rewards and lifestyle of executives and their employees. In 1980 the ratio of CEO and worker compensation in the US was approximately 50:1 in the S & P 500 companies, and by 1990 this had risen to a ratio of 107:1. With the meteoric rise in executive pay in the 1990s the ratio expanded to an unprecedented 525:1 (Institute for a Fair Economy 2006; Ertuk et al 2005). Though there was productivity growth during this era almost all the benefits went to top management: As Dew-Becker and Gordon who examined the distribution of the benefits of growth in the U.S. comment Our results show the dominant share of real income gains accruing to the top 10 percent and top 1 percent is almost as large for labor income as total income...It is not that all gains went to capital and none to labor; rather, our finding is that the share of gains that went to labor went to the very top of the distribution of wage and salary incomes (2005:77). In two decades US workers saw no measurable improvement in their wages, while US executives enjoyed the experience of
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Stakeholders Approach to Corporate Governance of Banks- The German Model becoming multi-millionaires en masse. This is hardly a recipe for a well integrated and orderly economy and society, and it is not surprising that the US now has among the worst social and health problems of any advanced industrial country. Among the arguments used to justify the enormous increases in US CEO reward are the effects of the bull market and the greater demands made upon executives, when it could be argued greater demands are actually made upon executives when the market is falling (Bebchuk and Grinstein 2005:299). A further argument put is that in these competitive times greater rewards are required as an incentive to executives, when there is little evidence that reward has been effectively linked to CEOs own performance. It appears that neither boards or shareholders have been able to prevent an unprecedented inflation in US executive reward which Bebchuck and Grinstein calculate cost US$250 billion for the top five executives in all US listed corporations between 1993-2002, and saw the earnings of the top five executives as a proportion of aggregate firm earnings rise from 5% in 1993 to 12.8% in 2000-2002 (Bebchuk and Grinstein 2005:297). When shareholder returns collapsed dramatically in 2001/2002, lavish CEO compensation in the S&P 500 continued regardless; and CEO compensation per dollar of net profit between 1960 and 2000 increased exponentially (Economist 25 October 2003). The out of control inflation in executive pay in the United States threatens to impact upon executive reward internationally. In the past there was some resistance to this, when the first President Bush took a large party of U.S. executives to Japan to examine the reasons why U.S. industry had failed to compete in the 1980s, the first suggestion of the Japanese executives to their American counterparts was, why dont you try paying yourselves less money? (At the time Japanese executive salaries in manufacturing industries were a small fraction of U.S. salaries, and have remained modest in comparison). Today many European and Asian executives look upon swollen U.S. executive salaries more as a benchmark to aspire towards. Already a higher proportion of executive pay is being offered in equity-based compensation and in incentive payments in other parts of the world, which were significant stages in the acceleration of the inflation of U.S. executive pay. As Table 3 reveals, though US CEO compensation across a sample of 350 large public companies remains more than double the reward of CEOs drawn from similar samples of public companies in other advanced industrial countries, the rate of growth of CEO compensation in many other countries in the last decade exceeds that of the United States.
In 2006 a survey of 768 directors in the 2,000 largest U.S. corporations by Heidrick and Struggles and the USC Marshall School of Business, nearly 40 percent of directors said CEO pay was too high in most cases, and yet 64 percent of directors expected to see continued increases in cash compensation, and 58 percent expected an increase in stock-based compensation (2006:1). Nevertheless efforts continue to be made to make executive reward systems more rigorous and to eliminate fundamental problems such as mismatched time horizons and the gaming that can lead to fraudulent accounting (Hall 2003). Bebchuk and Fried (2005) recommend a series of measures to increase the transparency of executive pay arrangements including placing a dollar value on all forms of compensation, and to include these amounts in compensation reports; expensing options to make the costs more visible to investors; and reporting how much executive remuneration results from general market and industry movements. They recommend strengthening the link between pay and performance by reducing windfalls in equity-based compensation, filtering out gains in stock price due to general market movements; attaching bonuses to long term performance rather than short term accounting results, and including claw back provisions if accounting numbers are subsequently restated; not paying for simply expanding the company through acquisition; and avoiding soft landing for executives where generous exit packages eliminates any gap between the rewards of good and poor performance. However executive reward will remain an issue when there are questions regarding boards accountability, and CEOs dominating influence over boards. More fundamentally it may be questioned whether executive performance pay should be in the form of stock options at all, since these create an incentive for management to manage performance of financial results in order to maximize share price. Pay for performance might better be linked to the underlying drivers of performance that impact on the financials, and to non-financial performance indicators in a more balanced scorecard. The focus could then be upon management for sustainability, rather than short term performance management aimed at the stock price.
Stakeholders Approach to Corporate Governance of Banks- The German Model originated in Wall Street where de-regulation unleashed highly incentivized investment banks to flood world markets with toxic financial products. As the accumulated cost of the financial crisis was realized the commitment to establish a new international financial regulatory framework increased. The market capitalization of the stock markets of the world had peaked at $62 trillion at the end of 2007, followed by a calamitous fall to $33 trillion by October 2008 (Figure 4), as derivatives markets that had reached $500 trillion dollars unwound. The general market assistance and specific rescue packages for individual financial institutions amounted to almost $4 trillion worldwide by October 2008 (Table 4). As the financial crisis impacted upon the real economy the fears of a prolonged recession grew, with US industrial production falling further than it had for over 30 years, and for example the US automotive industry becoming increasingly precarious announcing further major redundancies and looking for support from the federal government. The International Labor Organization in Geneva estimated that up to 20 million people in the world would lose their employment as a consequence of the financial crisis, and that for the first time in a decade the global total of unemployed would be above 200 million (Associated Press, 21 October 2008). The explanation of why investment banks and other financial institutions took such spectacular risks with extremely leveraged positions on many securities and derivatives, and the risk management, governance and ethical environment that allowed such conduct to take place is worth further analysis. With the recovery of US financial markets after the Enron debacle, the explosion of financial innovation gave the world a new breed of Masters of the Universe in the derivatives dealers and hedge fund managers who manipulated trillions of dollars, while charging immense fees. This long financial boom of recent years saw the culture of financial excess permeate through swathes of the rich industrial countries as people were encouraged to live on debt. The attractiveness of the Anglo-American finance and governance institutions permeated with inequality and subject to recurrent severe market cycles and financial crisis is open to question as a model for universal applicability. Indeed the damaging consequences of the 2008 financial crisis will impact severely upon the world economy, and could well dislodge the faith that the market based governance system is the only rational and efficient one for the future. It is more likely that solutions will be found to pressing problems of equity, sustainability and innovation in a diversity of finance and governance systems, responsive to deeper and wider concerns than the self-interest of the executives who control corporations, financial institutions and hedge funds (Lazonick 2007).
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Stakeholders Approach to Corporate Governance of Banks- The German Model After discussing the cons of the Anglo-American model, we shall now ponder upon the current challenges faced by Pakistani system and also the future recommendations will also be discussed.
Minority Shareholders:
Under the Companies Ordinance, 1984, the minimum threshold for seeking a remedy from the Court against mismanagement and oppression requires that at least twenty percent of the shareholders initiate a complaint. Shareholders representing at least ten percent but less than twenty percent of the companys shares can apply to the SECP to appoint an inspector to investigate the companys affairs. Because neither the Companies Ordinance nor the Code recognizes shareholders who represent less than ten percent of the companys shares (the minority shareholders), no analogous provision exists for these shareholders. Minority shareholders can enforce their claims in civil cases by suing for tortious loss in accordance with general laws. Claimants routinely seek interim and permanent injunctive relief against management. Pending final adjudication of the matter, interim relief is invariably granted, thus hindering a companys business. To provide minority shareholders with an
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Stakeholders Approach to Corporate Governance of Banks- The German Model effective remedy while minimizing interference with a companys business, an internal grievance and redress mechanism should be considered for listed companies. The SECP should establish a grievance and redress committee consisting of executive and independent directors and formulate a list of maintainable grievances. Furthermore, the SECP should expand quasijudicial functions of the stock exchanges by granting minority shareholders an appellate remedy before a frontline regulator, and thereafter to the SECP. To make reports and disclosures more reliable, the SECP should encourage minority shareholders to report any noncompliance directly to an audit committee and to the relevant stock exchange. Legal protections for whistleblowers, that is, corporate managers and employees, will help establish an additional monitoring system over the controlling majority.
The introduction of internal and external audit mechanisms are the most prominent achievements of the evolution and development of global corporate governance initiatives, and the SECP has tried to incorporate these international developments into the Code. Generally, the primary function of an internal audit committee is to assist a companys Board of Directors, while the external audit committee addresses the concerns of the shareholders at large. In both cases, the audit committees can only offer financial and accounting expertise. Because internal and external audit committees lack legal expertise, they cannot ensure that a companys affairs are managed in accordance with the applicable laws. The Code requires companies not only to comply with the provisions of the Code and Companies Ordinance, but also to certify that they are in compliance. A proper certification as to compliance with the Companies Ordinance and the Code can only be done on the basis of professional legal advice. The Code should require the certification and actual compliance with all applicable laws, not just those of the Code and the Companies Ordinance. Although such compliance would expand the scope of the corporate governance regime, this expansion would remain consistent with the purposes for which the issuance of the Code was considered appropriate. Such certification will improve adherence to Corporate Social Responsibility (CSR) policies by companies. Accordingly, the Code will become instrumental in introducing CSR to listed companies, making them more attractive to local and international investors. In addition, compliance with a broader legal certification requirement would discourage transactions between associated companies. To achieve these objectives, the SECP should consider expanding the scope of internal and external audits to include legal expertise for evaluating a companys business and affairs from a legal perspective. In this respect, the following initiatives should be taken:
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Stakeholders Approach to Corporate Governance of Banks- The German Model 1. One of the independent, non-executive directors should be a professional lawyer. Companies may consider retaining the services of their legal advisors appointed pursuant to the Companies (Appointment of Legal Advisors) Act37 and May, alternatively, be deemed to be a member of the Board. 2. One of the non-executive directors on the audit committee should be a professional lawyer or a legal advisor; 3. With the assistance of a professional lawyer or legal advisor, the audit committee should certify each companys compliance with all applicable laws; and 4. The audit committee should be empowered to use its legal expertise to entertain and resolve grievances lodged by minority shareholders as discussed above.
Additional Measures:
The Code requires directors to carry out their fiduciary duties with a sense of objective judgment and independence in the best interests of the company. However, the Code does not define fiduciary duties. To clarify this provision and improve the effectiveness of its enforcement, the SECP should consider listing fiduciary duties. It could borrow from the list of fiduciary duties in the Manual of Corporate Governance, although the SECP does not consider that document binding. In addition, companies should be required to draft and comply with the Statement of Ethics and Business Practices. To ensure a uniform ethical standard, the SECP should provide a general statement setting out minimum ethical standards; companies can set higher standards to meet their particular needs. To minimize noncompliance, companies should have a duty to comply or explain.
Future Challanges:
The most profound issue in corporate governance is how to weigh criminal liability for senior executives for non-compliance of mandatory disclosure and certification requirements against the constitutional right to be free from self-incrimination. For instance, the United States Supreme Court prohibits corporate custodians from successfully invoking their Fifth Amendment protection against self-incrimination when the custodians are served with a regulatory subpoena to disclose corporate records. Since the Pakistan Supreme Court has not made a similar pronouncement, corporate representatives may appeal to the privilege against self-incrimination in this situation. As the SECP expands its role in regulating corporate governance, the following issues should be considered for formulating future policies:
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Stakeholders Approach to Corporate Governance of Banks- The German Model 1. What are the repercussions of over-institutionalizing internal corporate structures by forming committees and sub-committees? 2. Would externalization of the Board cause cost overruns or greater administrative or organizational expenses? If so, what alternatives exist to minimize such costs without compromising effectiveness and transparency? 3. Would a good faith presumption in favor of management be revoked, and if so, under what circumstances?
Conclusion:
The belief that corporations need to be governed in order to mitigate the agency problem that arises between owners and managers due to information asymmetries and incomplete contracts-- the Berle and Means widely held companywas until quite recently, very popular between academic, institutional, regulatory and policymaking circles. However, there is increasing evidence suggesting in developing and transition economiesand even some developed economiesall over the world display ownership structures that do not adhere to the Berle and Means image of a corporation. Studies that look outside the US, particularly into those countries with weak shareholder protection, find that even the largest companies have concentrated shareholding patterns, and thus face a different kind of agency problem. La Porta et al. (1998) discover that the agency problem in large corporations all around the world entails restricting expropriation of minority shareholders by the controlling shareholders, rather than that of restricting empire building by professional managers accountable to shareholders. The results of our study reinforce the point that agency problems differ according to the economic conditions, ownership structures, capital market development, cultural underpinnings, and institutional capacity. The empirical question that this study poses is whether or not an AngloSaxon corporate governance model that is formulated in a particular corporate context, be applicable to a country like Pakistan that displays very different business and socio-economic characteristics. Given the multitude factors, the interactions of which forms the corporate framework of any country, the study was not expected to give any straightforward answers. This thesis was expected to explore the factors that may potentially impede an effective implementation of good governance in Pakistan.
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Stakeholders Approach to Corporate Governance of Banks- The German Model Based on the findings of this study we postulate that before abstract notions of corporate governance are imposed by the regulatory forces in Pakistan, it is imperative that the policy makers understand the dynamics of decision-making, loci of power, the various market inefficiencies and their costs, the social embeddedness of existing governance mechanisms, and above all the role played by various organizational forms and boards in the country's development are understood. If the SECP and stock exchanges try to adopt good governance practices by forcing them on the corporate sector of Pakistan, it is our premise that, such a move would be extremely counterproductive to the economy as a whole. We, therefore, strongly recommend that the Code of Corporate Governance by implemented through an iterative process that is phased out over a long-term period. One of the essential features of this phased implementation should be the focus on developing other support institutions simultaneously. Any amount of corporate governance reform cannot work in isolation due to the very nature of good governance. Creating a snug fit between the on-paper policies and de facto implementation can ensure effective governance of the corporations. To achieve this fit, policymakers need to be appreciative of the uniqueness of the corporate culture of Pakistan and incorporate it in any structural or market reforms that entail good governance. There is a dire need for further research in Pakistan on not only corporate governance, but also in the peripheral areas of ownership structures, and key market forces that impact the dynamics of companies and institutions. These forces need to be identified and understood before they can be used to benefit the economy. This warrants empirical time-series based research on the performance of firms to study increases in productivity, if any, which may have resulted from the introduction of the Code of Corporate Governance. It would also be interesting to see the role of institutional investors, both national and international, in bringing about good governance practices in Pakistan. Exploring these further research areas is extremely important for making sensible policy recommendations. For the time being though, it is safe to conclude by saying that adopting an international code of corporate governance without adapting it to local needs and requirements, will not have the positive impact that is hoped to be brought to the corporate sector through this Code.
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Stakeholders Approach to Corporate Governance of Banks- The German Model http://law.wustl.edu/wugslr/issues/volume5_2/p323Ibrahim.pdf http://cmer.lums.edu.pk/Conference2005/images/CG%20in%20Pakistan-%20Adopt%20or %20Adapt.pdf http://www.stakeholderpanels.net/3E8F4B7B-34C6-4A50-BB8B9F9C0854177C/FinalDownload/DownloadId028DA0CD7E5B087E81C883ACEEF97A8A/3E8F4B7B-34C6-4A50-BB8B9F9C0854177C/StakeholderPanels_report.pdf http://doc.utwente.nl/50856/1/thesis_Melyoki.pdf http://www.law.illinois.edu/publications/cllpj/archive/vol_22/issue_1/sadowskiarticle22-1.pdf http://www.cg.org.cn/theory/zlyz/Germany.pdf http://www.comparativeresearch.net/servlet/Controller? Action=DownloadPDF&paperid=100000112 http://www.secp.gov.pk/dp/pdf/ProjectReport.pdf http://www.eib.org/about/structure/governance/board_of_directors/index.htm http://www.adizes.com/blog/?p=299 http://www.oecd.org/corporate/corporateaffairs/corporategovernanceprinciples/1930657.pdf http://www.audit-scotland.gov.uk/docs/corp/2009/as_competency_framework_0809.pdf http://www.oecd.org/dataoecd/5/41/1930657.pdf http://www.edproenergy.com/solutions/business_model/index.php?mod=shareholders http://www.inbrief.co.uk/company-law/shareholder-roles-duties.htm http://smallbusiness.chron.com/importance-shareholders-business-20844.html http://www.ecseonline.com/PDF/Role_of_Stakeholders_in_CorpGov.pdf http://www.adbi.org/book/2005/02/02/884.corporate.governance.asia/potential.role.of.stakehold ers/ http://www.law.stetson.edu/lawreview/media/uk-corporate-governance-and-banking-regulationthe-regulators-role-as-stakeholder.pdf
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Stakeholders Approach to Corporate Governance of Banks- The German Model http://www.bis.org/review/r000321c.pdf http://www.econstor.eu/dspace/bitstream/10419/39726/1/610726722.pdf http://dea.uib.es/digitalAssets/123/123238_hostile91.pdf http://www.bankislami.com.pk/about_us/sponsors.php#?2
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