Corporate Law and Corporate

Governance

Presented by:
Ahmad Waheed
Haider Ali Khan
Johar Abbas
Presented to: Prof. Shaariq Mehmood
Messum Husnain
BBA IV Section N
M. Zaayer Nasib
Shayan Shaikh
Zainab Javed
Corporate Law and Corporate Governance

Division of parts: (choose, fill and forward)

Zaayer – Yellow highlighted part…. I’ve taken 5.5 pages….

Johar – Green highlighted part

Haider –

Messum –

Shayan –

Ahmed –

Zainab –

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Corporate Law and Corporate Governance

Corporate Law

Corporate law (also "company" or "corporations" law) is the law of the most dominant kind of
business enterprise in the modern world. Corporate law is the study of how shareholders,
directors, employees, creditors, and other stakeholders such as consumers, the community and
the environment interact with one another under the internal rules of the firm.
Corporate law deals the formation and operations of corporations and is related to commercial
and contract law. A corporation is a legal entity created through the laws of its state of
incorporation, treating a corporation as a legal "person" that has standing to sue and be sued,
distinct from its stockholders. Corporations are taxable entities that are taxed at a lower rate from
individuals. Until formally dissolved, a corporation has perpetual life; deaths of officials or
stockholders do not alter the corporation's structure. State laws regulate the creation, organization
and dissolution of corporations. Many states follow the Model Business Corporation Act. States
also have registration laws requiring corporations that incorporate in other states to request
permission to do in-state business.

History of company law in Pakistan:

1 The concept of company was developed in the 2nd half of 19th century (1850 onwards).
2 Different laws were developed during this era
3 The first act was passed in the British India in 1850 for the registration of joint stock co’s
4 Another act for the registration of joint stock co\s in the UK in 1884
5 A complete and basic act of 1913 was developed.
6 A company law commission was appointed by the Pakistani govt in 1959
7 The submitted their report to the govt in 1960.
8 Its contents was made publically available in 1972
9 The title of the report was the company law commission of Pakistan
10 At least in 1984 Pakistan has developed its own complete law for their co’s in the form of
“company ordinance 1984”

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Constituents of the company ordinance 1984:

It consist of 514 sections and 8 schedules

The 514 sections have been divided into 16 parts and are as follows.

1) Preliminary
2) Jurisdiction of the court
3) Corporate law authority
4) Incorporation of the company and their matters
5) Prospectus. Allotments. Issue and transfer of shares and debentures
6) Share capital
7) Registration of mortgages etc
8) Management and administration
9) Arbitration. arrangements and constitutions
10) Prevention of mismanagement
11) Winding up
12) Application of ordinance of co’s formed and registered under any previous act.
13) Winding up of unregistered co’s
14) Companies established outside Pakistan
15) Registration offices and fees etc
16) General

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Eight schedules:

1. regulation of a Co’s ltd by shares

 memorandum of association
 article of association

2. Matters to be specified by prospectus. rules and regulations

3. Form and context of annual return report.
4. balance sheet and profit and lost account of listed co’s
5. balance sheet and profit and lost account of non-listed companies
6. Fees to be paid to the registrar. Authority. And federal Govt
7. The detail of enactment (to give a practical shape)
8. Amendments

Procedure for Forming A Company

1 Promotion stage:
 The idea of forming a company must be conceived by a person who is called promoter
 He is expert in forming a company work
 He is to prepare necessary documents in order to get incorporation certificate from the
registrar of joint stock company

There are two types of promoters:

1 Professional promoter
When starting a company so they contact with professional promotee because they are
experts in company creation and charges fees/commission

2 General promoter
Minimum 7 members combine and want to start a business and submit there application
to the registrar called general promoter

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Promoters’ duties or promoters characteristics:

a.Idea for business

b. Investigation (raw material. Demand )
c.Selection of first directors (90% of promoters are BOD’s)
d. Selection of legal advisor (lawyer) auditors and banks like investment bank

Three main function of investment bank is

1. Underwriting facility

The facilities extended by the investment bankers to the issue of securities, assuring
them that they will get an expected amount to be paid by the purchaser of the
securities.

Two types of underwriting facilities we have. i.e.

a. Best offer
Here the underwriting firms take the commission they try their level best to
flowed the company shares and also advertise. Here Risk is beared by company

b. Firm commitment
Here the underwriter makes full payments and purchase all the shares…Risk is
totally beared by underwriting i.e. investment bank

2. Investment advices

It simply means to provide advices to banks, govt etc and also to the small
businesses.

3. Mergers and acquisition

The process in which one of the combining companies looses its separate identity
and the assets and liabilities of the loosing company become a part of the surviving
company- mergers

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Acquisition: can’t loose its separate legal identity and take the liabilities and assets
of the company in their sharing amount.

1 Promote all the necessary documents (prospectus, memorandum)

2 Submition of the documents
3 To meet all the preliminary expenses
4 To collect the share capital

 Incorporation stage

To get the certificate of incorporation from the registrar of joint stock company. The
promoters must submit the following necessary documents to the registrar.

1. memorandum of association
2. articles of association
3. notice of the address of the head office
4. list of directors
5. consents in writing of directors
6. directors contract to purchase qualification shares(directors have to purchase)
7. statutory declaration of legal documents of incorporation

* Here are two more steps involve in case of public ltd company i.e.

Raising of share Capital (public)

After the incorporation of a public company, the director will file a copy of prospectus with the
registrar, to offer investors, that they shall submit their application along with the application
money with the company bankers.

Certificate of commencement of business (public)

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This certificate will be issued by registrar, if the following documents are submitted to him.

I. Declaration by the company that the minimum subscription as per prospectus has been
received in cash

II. Declaration by the company that all the directors have taken up their qualification shares and
paid for them.

III. Declaration by the company that all legal requirements to the commencement of business
have been fulfilled.

Private company Public company

Members 2-10 7- ∞

Cannot issue share to public Raising of share capital

Cannot trade in stock exchange Easily trade in stock exchange

Basic legal documents

a) Memorandum of association (company’s charter)

It is the basic document on which the whole superstructure of the company is based. It is
also called the constituents of the co. it is primary document it the company formation. It is for
the external management of the company.

Contents of memorandum of association.

1 In case of public ltd co the names of the co with the word “limited” as the last word
of the name while the private ltd with the name of the “private ltd co” as the last word
of the name.
2 The province where the registered office of the co is to be situated.
3 The objects of the co and their extensions
4 The liabilities of the members is limited
5 The amount of the shares capital and the no of shares with which the company is to

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be registered.

Form of memorandum of association

1 It must be printed
2 Must be divided into paragraphs and consecutively numbered
3 Signed by each subscriber (who must give his full address and occupation) in the
presence of atleast one witness who must attest the signature.

Memorandum of association consist of 6 clauses

1. Name clause
2. Situation clause
3. Object clause (objectives of company)
4. Liability clause (limited up to their investment)
5. Capital clause
6. Subscription clause (integral part of capital clause)

Procedure for alteration of objects

The following procedure must be followed otherwise alteration become void.

1 A special resolution is passed by giving a notice to all persons who are interested in
alteration.
2 An application is filled with the SECP for confirmation of change.
3 The SECP must check the objections of creditors and be satisfied that their consent is
obtained.
4 After that the SECP will confirm the change if it deems fit.
5 With in 90 days from the date of order of SECP , a certified copy of the order of the court
along with the printed copy of memorandum must be submitted with the registrar of
SECP

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6 Registrar will then issue a certificate of registration, which will be a proof of alteration in
objects.

Procedure for change of name.

A company at many times during the course of its business may change its name by fulfilling
the following conditions.

1 A special resolution is passed

2 Approval of registrar is obtained in witting with respect to change in name.
3 The registrar enters the new name in register and shall issue a certificate of incorporation
in the changed name.
4 Where the co has unintentionally registered a name similar to that of an existing name, it
can be changed only with the sanction of the registrar.

b) Article of association.

It is also known as supplementary or secondary document of the co. It is used for the internal
matters/management of the company. Articles of association must be signed by each subscriber.

Contents of articles of association

3 Amount of share capital issued and transmission of shares

4 Rights of shareholders regarding voting, dividend and return of capital
5 Rules regarding issue of shares and debentures.
6 Procedures as well as regulations on “making calls” on shares
7 Manners of transfers of shares
8 Rules regarding appointment of directors, managing agent, secretary and treasurers etc
9 Number , qualification, power and liabilities of directors
10 Convening and conduct of meetings with respect to quorum , poll, proxy , resolution etc
11 Rules regarding the forfeiture of shares
12 Rules regarding the winding up of shares
13 Matters relating the winding up of the Co.

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14 Declaration of dividend.(responsibility of Board of directors )

Difference b/w Transfer of shares and transmission of shares

Transfer of share: when the person is mentally sound and sale out his shares (dispose
off).Transmission of shares: it is the process of transfer of shares to legal successor (next to kin)
or representative of the deceased person (shareholder) by the operation of law in case of death,
insolvency or lunacy (unsound mind).

Note: forfeiter- to possessed someone else assets.

Quorum- number of person for conducting meeting, its 1/3 of directors.

Memorandum of association Article of association

 Memorandum is a fundamental document.  Article is a supplementary document.

 The memorandum lay down the objects of the  Article lay down the manner in which the object
company. is to be fulfilled.

 Memorandum indicates the scope of affairs of  Article indicates how the business is to be carried
company. out.

 Memorandum is the dominant instrument.  If any part of article conflict with it, such

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part of article is to be deemed as void.

 If memorandum is silent on a point.

 Article explains that point.

 If memorandum is clear on a point.  Then there is no need that the article
supplements that memorandum.

Procedure for alteration of article of association

The following procedure must be followed while altering the articles.

A. Instruct the company’s legal advisor to draft the alterations together with a notice to the
members of Extra Ordinary General Meeting (EOGM).
B. When the company is listed on the stock exchange the draft of alteration must be sent to the
stock exchange for approval.
C. After the approval of stock exchange, call a members of directors for the approval of
alterations and the fix a date for (EOGM)
D. Notice of alteration must be sent together with alteration of articles atleast 21days before
the meetings to the members.
E. With in 15days of EOGM, file with the registrar a copy of special resolution passed in the
meeting.
F. Send a copy of special resolution together with amended copy of articles of association for
approval to stock exchange.
G. Amend all unissued copies of the company’s article.

Note. EOGM- a meeting of shareholders in case of sudden change or emergency.

Draft-a legal written document must be prepared by company’s legal adviser (lawyer)

c) Prospectus (public ltd company only)

Prospectus is a document that includes notice or advertisement inviting public for subscription or

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purchasing and shares or debentures of a company or inviting deposits from the public.

Contents of prospectus

I. The contents of memorandum with the name, address, occupation and description of the
person who’s names (their in memorandum) , the nature and the extent of interests of the
shareholders in the profit and property of the Company.
II. Description of business to be undertaken
III. Description regarding remuneration of the directors or chief executive officer
IV. The names, address, occupation and description of the important office bearers of
the company.
V. Where shares are offered to the public for subscription, information regarding
minimum subscription, preliminary expenses payable and underwriting commission
payable etc.
VI. The date and time of opening and closing subscription list
VII. The names of the underwriters and directors opinion about them that their
resources are sufficient to fulfill their obligation
VIII. The names, addresses, description and occupation of the company vendors and
the amount paid or payable to them.
IX. The estimated amount of preliminary expenses paid or payable by the company
X. Any amount paid to the promoters in previous two years.
XI. The names and addresses of auditors and legal advisors.
XII. The right of voting of meeting and dividend attached to shares.
XIII. The length of time during which the business of the company has been carried on.
XIV. A reasonable time and place for the inspection of balance sheet and income
statement.
XV. A summery in column from the earnings of the company for each 3 financial
years.
XVI. Pending legal proceedings to which the Company is a party.

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Liabilities arising from mis-statement in a prospectus

Civil liability

he who is the director at the time of issue of prospectus, he who has authorized the issue of
prospectus, he who is the promoters of the company , shall be liable to pay compensation to all
those person who has subscribed to the shares and suffered from mis-statement.

Criminal liability

Where a prospectus includes any untrue statement, every person who signed or authorized the
issue of prospectus shall be punishable with imprisonment which may extend to 2years or with a
fine which may extend to RS 10000 or with both.

Statement in lieu (instead of) prospectus.

A company having a share-capital which does not issue a prospectus, so that has been delivered
to the registrar for registration a statement in lieu of prospectus signed by every person who ‘s
name their in as a director atleast 3days before the first allotment.

Jurisdiction of the company courts

It is provided that court having jurisdictions under the company ordinance 1984, shall be the high
court, having jurisdiction at a place at which the registered office of the company is situated , the
central govt may empower any district court to exercise all or any of the jurisdictions.

Company Benches

There shall be benches in each high court , one or more benches , each to be known as company
bench , to be constituted by the chief justice of high court, to exercise the jurisdictions under the
company ordinance 1984.

Procedure of the company court

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i. All matters coming before court under the company ordinance shall be disposed off (solved)
and the judgment pronounced as soon as possible but not later then 90days form the date of
the presentation of the petition to the court except in extra ordinary circumstances, the court
shall hear the case from day to day.
ii. The hearing of the matters shall not be adjourned except for sufficient cause or for more then
14days at one time or for 30days at all.

Corporate Law Authority (SECP)

It is constituted under section 11 of the company ordinance 1984. The federal Govt is
empowered to constitute the CLA. The authority must consist such number of members not
being less then 3 to be appointed by the Govt, one of the member is to be appointed as chairman
of the authority by the federal Govt.

Power and functions of Authority (company law authority)

1 Issues orders and instructions to all persons and officers in the execution of ordinance.
2 Confirm alteration to memorandum
3 Extend time for filing documents with the registrar.
4 Grant license and allowing an association to enjoy all the rights of a limited company with
out using the word “limited”
5 Allow a public company to convert it self into a private Company.
6 For special reasons allow a prospectus to be issued more then 30days before the
subscription list is due to open.
7 Specify the form of application for r subscription to shares or debentures.
8 Permit a company to with hold or delay payment of dividend in certain cases.
9 Allow extending of time for holding annual general meeting and filing a document by the
listed company up to 90days.

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Share certificate

It is a document issued under the common seal of the company and contains

1 Name and address of the holders

2 Name of shares held by them
3 Their distinctive numbers
4 Paid of amount.

Register of members

It contains:

a) The name, father/husband’s name, address, nationality and occupation

b) Statement of shares held by each member, their distinctive numbers, paid up amount.
c) The date at which any person was entered as a member of the CO.
d) The date at which any person was ceased to be a member and reasons of ceasing.

Rights of members.

1. Inspect register of members and debenture holders.

2. In case of public ltd company, they will receive a statutory report.
3. have copies of memorandum and articles on payment of fee
4. receive share certificate with in prescribed time
5. transfers of shares
6. Receive minutes of the proceedings of general meeting.
7. Remove directors.
8. Receive copies of annual accounts.
9. Appoint auditors at general meeting.
10. Inspect auditors report at general meeting.
11. Resolve by special resolution that the company ay be wound up by the court.
12. Resolve by special resolution that the company may be wound up voluntarily.

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13. Appoint and fix remuneration of liquidators.

14. attend meetings and vote at meeting
15. Approved dividend as recommended by the directors.
16. Have a share in the capital of a company.

Liabilities of share holders.

Where a company is limited by shares, the liability of shareholders is limited to amount, if any
unpaid on shares held by him. This liability is continuous as long as anything remains unpaid on
shares.

Commission on issue of shares.

It shall be lawful for a company to pay commission to any person in consideration of his
subscribing either absolutely or unconditionally for any shares in the company if:

1. The payment of the commission is authorized by article of association.

2. The commission paid should not exceed the rate fixed by the authority.
3. The amount and rate must be disclosed in prospectus, if issued by the Co.
4. Where a prospectus is not issued, the amount and rate must be disclosed in a
statement in lien of a prospectus.
5. The number of shares for which the persons have agreed to subscribe absolutely for a
commission is disclosed in a specified manner.
Premium on issue of shares

Where a company issues shares on premium, the values of premiums shall be transferred to an
account called “the share premium account”. This account may be applied by the company as
under.

1 In writing-off the preliminary expenses of a Co.

2 In writing-off the expenses of commission and discount on issue of shares and
debentures.

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3 To pay premium on redeemable preference shares or debentures.

4 In paying up un-issued shares of the company as fully bonus shares.

Issue of shares at a discount

It shall be lawful for a company to issue shares at discount if:

a. It must be authorized by a resolution passed at general meeting and sanctioned by

the authority.
b. The resolution must specify the maximum rate of discount not exceed than 10%
or higher rate fixed by the authority.
c. Not less then any year must at the date of issue have elapsed since that date on
which the company was entitled to commence its business.
d. The shares are to be issued at a discount must be issued with in 60days after the
date on which the issue is sanctioned by the authority.

Capital structure

The combination of debt and equity financing in the capital of a company is called capital
structure. While a particular amount of money with which the business is started is share capital.

Kinds of preference share

1. simple preference share

They are usually entitled to receive fixed dividend before any dividend is pairs on the
ordinary shares. If there are no profits in the year then there is no dividend for the simple
preference shares

2. cumulative preference share

if in any year the profits are not enough, their right to dividend does not lapse, but
carried so that when the company makes the profits in the subsequent year it must first pay
off the arrears of dividend before paying dividend to other kind of shareholders.

3. cumulative participating preference share

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these share holders is not only entitled to receive arrears of dividend but are entitled to
share with the ordinary shareholders , the balance of profit in some proportions after the
right of ordinary share holders have been met.

4. redeemable preference shares

normally shares of company are not redeemable they can be redeemed only when the
company goes into liquidation however, the law in section 85 of the ordinance 1984 has
provided for the redemption of redeemable preference shares during the lifetime of the
company.

5. deferred/mgt share/founder shares

These shares are normally issued to the company promoters or founders of the company
or the underwriter of the share capital, these shares receive no dividend until the dividend
on all other classes of shares has paid in full.

Company Directors:

Directors includes any person occupying a position of a director, the position of a director by
whatever name called every private company must not less then two directors and every public
company not less then 7 directors .

1. Directors having power to issue shares.

2. First directors are appointed by promoters
3. A company can’t make loan to its directors.

Directors as an agent

The director may make contracts as agent of the company if the contract made by a director
ultra-vires his power made with a member is only voidable but if made with an outsider who had
no notice of the wants of his power, it is binding on the company.

Director as trusty

Directors are trustee regarding the power conferred on them by the articles and the capital under

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their control. They are not persons in the employment of the company. They are trustee for the
company and not for the individual share holders they are not trustee for third party who have
made contract with the company they are also trustee for the company in respect of their power
of approving transfer of shares, issuing and allotment of shares as well as making calls and
forfeiting of shares.

Eligibility of a person to become a director

A person is appointed as a director if he:

 is a major share holder

 is of sound minded
 is a member of a company
 has not been convicted by court of law
 is a solvent person
 is a natural person

Power of directors

1. To make calls on share holders in respect of money unpaid on their shares.

2. To issue shares.
3. To issue debentures.
4. To borrow money otherwise then on debentures.
5. To invest the funds of the company.
6. To make loans.
7. To approve annual, semiannual, or periodical accounts as are required to be
circulated to the members.
8. To incur capital expenditure exceeding Rupees 2 lac on any single item or
dispose off a fixed asset of value exceeding rupees 1 lac.

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CORPORATE GOVERNANCE IN PAKISTAN

INTRODUCTION

In March 2002, the Securities and Exchange Commission of Pakistan issued the Code of
Corporate Governance to establish a framework for good governance of companies listed on
Pakistan's stock exchanges. In exercise of its powers under Section 34(4) of the Securities and
Exchange Ordinance, 1969, the SEC issued directions to the Karachi, Lahore and Islamabad
stock exchanges to incorporate the provisions of the Code in their respective listing regulations.
As a result, the listing regulations were suitably modified by the stock exchanges.

The Code is a compilation of “best practices”, designed to provide a framework by which

companies listed on Pakistan's stock exchanges are to be directed and controlled with the
objective of safeguarding the interests of stakeholders and promoting market confidence; in other
words to enhance the performance and ensure conformance of companies. In doing this, the
Code draws upon the experience of other countries in structuring corporate governance models,
in particular the experience of those countries with a common law tradition similar to Pakistan's.
The Code of Best Practice of the Cadbury Committee on the Financial Aspects of Corporate
Governance published in December 1992 (U.K.), the Report of the Hampel Committee on
Corporate Governance published in January 1998 (U.K.), the Recommendations of the King's
Report (South Africa), and the Principles of Corporate Governance published by the
Organization for Economic Cooperation and Development in 1999 have been important
documents in this regard.

The Code is a first step in the systematic implementation of principles of The Code is a first step
in the systematic implementation of principles of good corporate governance in Pakistan. Further
measures will be required, and are contemplated by the SEC, to refine and consolidate the
principles and to educate stakeholders of the advantages of strict compliance.

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WHAT IS CORPORATE GOVERNANCE?

THE BACKGROUND

Corporate governance is a relatively new term used to describe a process, which has been
practiced for as long as there have been corporate entities. This process seeks to ensure that the
business and management of corporate entities is carried on in accordance with the highest
prevailing standards of ethics and efficacy upon assumption that it is the best way to safeguard
and promote the interests of all corporate stakeholders.

PROCESS OF CORPORATE GOVERNANCE

Corporate governance is the set of processes, customs, policies, laws and institutions affecting
the way a corporation is directed, administered or controlled. Corporate governance also includes
the relationships among the many stakeholders involved and the goals for which the corporation
is governed. The principal stakeholders are the shareholders, management and the board of
directors. Other stakeholders include employees, suppliers, customers, banks and other lenders,
regulators, the environment and the community at large.

The process of corporate governance does not exist in isolation but draws upon basic principles
and values which are expected to permeate all human dealings, including business dealings
principles such as utmost good faith, trust, competency, professionalism, transparency and
accountability, and the list can go on Corporate governance builds upon these basic assumptions
and demands from human dealings and adopts and refines them to the complex web of
relationships and interests which make up a corporation. The body of laws, rules and practices
which emerges from this synthesis is never static but constantly evolving to meet changing
circumstances and requirements in which corporations operate. From time to time, crisis of
confidence in effective compliance with, or implementation of, prevailing corporate governance
principles act as a catalyst for further refinement and enhancement of the laws, rules and
practices which make up the corporate governance framework. The result is an evolving body of
laws, rules and practices, which seeks to ensure that high standards of corporate governance
continue to apply.

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Some examples of corporate governance issues arising are the circumstances surrounding the
collapse of the South Sea Company (frequently referred to as the “South Sea Bubble”) in
England in 1720. More recent examples are the Taj Company Scandal in Pakistan.

THE BENEFITS OF CORPORATE GOVERNANCE

Good and proper corporate governance is considered imperative for the establishment of a
Competitive market. There is empirical evidence to suggest that countries that have implemented
good corporate governance measures have generally experienced robust growth of corporate
sectors and higher ability to attract capital than those which have not.

IMPACT OF CORPORATE GOVERNANCE

The positive effect of good corporate governance on different stakeholders ultimately is a
strengthened economy, and hence good corporate governance is a tool for socio-economic
development. After East Asian economies collapsed in the late 20th century, the World Bank's
president warned those countries, that for sustainable development, corporate governance has to
be good. Economic health of a nation depends substantially on how sound and ethical businesses
are.

THE PAKISTANI CORPORATION

Upon independence, Pakistan inherited the Indian Companies Consolidation Act, 1913. In 1949,
this Act was amended in certain respects, including its name, where after it was referred to as the
Companies Act, 1913. Until 1984, when the Companies Ordinance, 1984 (the Companies
Ordinance) was promulgated, following lengthy debate, Pakistani companies were established
and governed in accordance with the provisions of the Companies Act, 1913.

Corporate entities in Pakistan are primarily regulated by the SEC under the Corporate entities in
Pakistan are primarily regulated by the SEC under the Companies Ordinance, the Securities and
Exchange Ordinance, 1969, the Securities and Exchange Commission of Pakistan Act, 1997, and
the various rules and regulations made there under. In addition, special companies may also be
regulated under special laws and by other regulators, in addition to the SEC. In this way, listed
companies are also regulated by the stock exchange at which they are listed; banking companies
are also regulated by the State Bank of Pakistan; companies engaged in the generation,
transmission or distribution of electric power are also regulated by the National Electric Power
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Regulatory Authority; companies engaged in providing telecommunication services are also

regulated by the Pakistan Telecommunication Authority; and oil and gas companies are also
regulated by the Oil and Gas Regulatory Authority.

THE ORIGINS OF CORPORATE GOVERNANCE IN PAKISTAN

The SEC, since it took over the responsibilities and powers of the Corporate Law Authority in
1999, has been acutely alive to the changes taking place in the international business
environment, which directly: and indirectly impact local businesses. As part of its multi-
dimensional strategy to enable Pakistan's corporate sector meet the challenges raised by the
changing global business scenario and to build capacity, the SEC has focused, in part, on
encouraging businesses to adopt good corporate governance practices. This is expected to
provide transparency and accountability in the corporate sector and to safeguard the interests of
stakeholders, including protection of minority shareholders' rights and strict audit compliance.

PARTIES TO CORPORATE GOVERNANCE

Parties involved in corporate governance include the regulatory body (e.g. the Chief Executive
Officer, the board of directors, management and shareholders). Other stakeholders who take part
include suppliers, employees, creditors, customers and the community at large.

In corporations, the shareholder delegates decision rights to the manager to act in the principal's
best interests. This separation of ownership from control implies a loss of effective control by
shareholders over managerial decisions. Partly as a result of this separation between the two
parties, a system of corporate governance controls is implemented to assist in aligning the
incentives of managers with those of shareholders. With the significant increase in equity
holdings of investors, there has been an opportunity for a reversal of the separation of ownership
and control problems because ownership is not so diffuse.

A board of directors often plays a key role in corporate governance. It is their responsibility to
endorse the organization’s strategy, develop directional policy, appoint, supervise and
remunerate senior executives and to ensure accountability of the organization to its owners and
authorities.

All parties to corporate governance have an interest, whether direct or indirect, in the effective
performance of the organization. Directors, workers and management receive salaries, benefits

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and reputation, while shareholders receive capital return. Customers receive goods and services;
suppliers receive compensation for their goods or services. In return these individuals provide
value in the form of natural, human, social and other forms of capital.

A key factor in an individual's decision to participate in an organization e.g. through providing

financial capital and trust that they will receive a fair share of the organizational returns. If some
parties are receiving more than their fair return then participants may choose to not continue
participating leading to organizational collapse.

THE NEED FOR CORPORATE GOVERNANCE

The popularity and development of corporate governance frameworks in both the developed and
developing worlds is primarily a response and an institutional means to meet the increasing
demand of investment capital. It is also the realization and acknowledgement that weak corporate
governance systems ultimately hinder investment and economic development. In a McKinsey
survey issued in June 2000, investors from all over the world indicated that they would pay large
premiums for companies with effective corporate governance. A number of surveys of investors
in Europe and the US support the same findings and show that investors eventually reduce their
investments in a company that practices poor governance.

Corporate governance serves two indispensable purposes.

1. It enhances the performance of corporations by establishing and maintaining a corporate

culture that motivates directors, managers and entrepreneurs to maximize the company's
operational efficiency thereby ensuring returns on investment and long term productivity
growth.
2. Moreover, it ensures the conformance of corporations to laws, rules and practices, which
provide mechanisms to monitor directors' and managers' behavior through corporate
accountability that in turn safeguards the investor interest. It is fundamental that
managers exercise their discretion with due diligence and in the best interest of the
company and the shareholders. This can be better achieved through independent
monitoring of management, transparency as to corporate performance, ownership and
control, and participation in certain fundamental decisions by shareholders.

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Dramatic changes have occurred in the capital markets throughout the past decade. There has
been a move away from traditional forms of financing and a collapse of many of the barriers to
globalization. Companies all over the world are now competing against each other for new
capital. Added to this is the changing role of institutional investors. In many countries corporate
ownership is becoming increasingly concentrated in institutions, which are able to exercise
greater influence as the predominant source of future capital. Corporate governance has become
the means by which companies seek to improve competitiveness and access to capital and
borrowing in a local and global market.

Effective corporate governance allows for the mobilization of capital annexed with the
promotion of efficient use of resources both within the company and the larger economy. It
assists in attracting lower cost investment capital by improving domestic as well as international
investor confidence that the capital will be invested in the most efficient manner for the
production of goods and services most in demand and with the highest rate of return. Good
corporate governance ensures the accountability of the management and the Board in use of such
capital. The Board of directors will also ensure legal compliance and their decisions will not be
based on political or public relations considerations. It is understood that efficient corporate
governance will make it difficult for corrupt practices to develop and take root, though it may not
eradicate them immediately. In addition, it will also assist companies in responding to changes in
the business environment, crisis and the inevitable periods of decline.

Corporate governance is the market mechanism designed to protect investors' rights and enhance
confidence. Throughout the world, institutions are awakening to the opportunities presented by
governance activism. As a result, Boards and management are voluntarily and proactively taking
steps to improve their own accountability. Simply put, the corporations, including Pakistani
corporations, have begun to recognize the need for change for positive gain. Along with
traditional financial criteria, the governance profile of a corporation is now an essential factor
that investors and lenders take into consideration when deciding how to allocate their capital.
The more obscure the information, the less likely that investors and lenders would be attracted
and persuaded to invest or lend. The lack of transparency, unreliable disclosure, unaccountable
management and the lack of supervision of financial institutions (all of which are the
consequences of inadequate corporate governance) combine to infringe investors' rights. Poor

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corporate governance has a tendency to inflate uncertainty and hamper the application of
appropriate remedies.

Transparency can be achieved through three key market elements:

1. Openness
2. Accounting standards
3. Compliance reporting.

Efficient markets depend upon investor confidence in the accuracy and openness of information
provided to the public. Also, compliance with internationally recognized accounting standards is
necessary to ensure that investors can effectively analyze and compare company data. With
incorporation of the Code in the listing regulations of the Pakistan's stock exchanges, listed
companies are now under an obligation to act transparently.

Initially, principles of corporate governance were more specifically framed to facilitate the so
called “agency problems” that were a consequence of the separation of ownership and
management in publicly owned corporations. As the ownership of corporations is widely
dispersed, management of the corporation is vested in directors who act as agents for the owners,
(the shareholders). From this stems the theory that the interest of the shareholder is not
determined or protected by any formal instrument, unlike the interest of most stakeholders and
investors which can generally and adequately be protected through contractual rights and
obligations with the company. It is, for this reason, that corporate governance is primarily
directed at the effective protection of shareholder interests.

The corporate governance system specifies the rights of the shareholder and the steps available if
management breaches its responsibilities established on equitable principles from this springs
the “equity contract”. In addition to the applicable general law, the equity contract is created
under Section 31 of the Companies Ordinance.

The inability or unwillingness to make credible disclosure constitutes a bad equity contract
which potentially makes it difficult for the market to distinguish good risk from bad resulting in
an inability to attract investors. The long term consequences of such inabilities prove to have a
crippling effect, not only on corporations, but also on the stock market as it blocks crucial

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liquidity of the stock market, with the resultant weakening of the entire financial system.
Consequently, the increased cost of capital reallocates financing and the capital market towards
debt. A distinctive characteristic of the Pakistani corporate culture, however, is the pyramidal
ownership structure and corporations with concentrated ownership enabling large shareholders to
directly control managers and corporate assets. Thus the need for corporate governance should
not, perhaps, arise under the prevailing structure as the conflict of interest that emerges gives rise
to the “expropriation problem” as opposed to the “agency problem”. It is imperative, however, at
this stage, to acknowledge the rapid developments that are taking place within the Pakistan
corporate culture and the fading out of the traditional and more conventional corporate
formation. Furthermore, a good governance system is required for such institutions as the
success of any institution is a combined effort comprising of contributions from a range of
resource providers including employees and creditors. It is for this reason that the role of the
various stakeholders cannot go ignored and their rights and the corporations' obligations must be
determined. Financing of any kind, whether for publicly traded companies or privately held and
state owned companies, can only be made possible through the exercise of good corporate
governance.

THE STAKEHOLDERS

General
A corporation enjoys the status of a separate legal entity; however, the formation of a public
listed company is such that its success is dependant 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.

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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 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.

Apart from the above, stakeholder communication should consist of a discussion and
interpretation of the business including:

 Its main features;

 Uncertainties in its environment;
 Its financial structure and the factors relevant to an assessment of future prospects
 Other significant items which may be relevant to a full appreciation of the business.

PRINCIPLES OF CORPORATE GOVERNANCE

Commonly accepted principles of corporate governance include:

 Rights and equitable treatment of shareholders: Organizations should respect the rights of
shareholders and help shareholders to exercise those rights. They can help shareholders
exercise their rights by effectively communicating information that is understandable and
accessible and encouraging shareholders to participate in general meetings.

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 Interests of other stakeholders: Organizations should recognize that they have legal and
other obligations to all legitimate stakeholders.

 Role and responsibilities of the board: The board needs a range of skills and
understanding to be able to deal with various business issues and have the ability to
review and challenge management performance. It needs to be of sufficient size and have
an appropriate level of commitment to fulfill its responsibilities and duties. There are
issues about the appropriate mix of executive and non-executive directors. The key roles
of chairperson and CEO should not be held by the same person.

 Integrity and ethical behaviour: Ethical and responsible decision making is not only
important for public relations, but it is also a necessary element in risk management and
avoiding lawsuits. Organizations should develop a code of conduct for their directors and
executives that promotes ethical and responsible decision making. It is important to
understand, though, that reliance by a company on the integrity and ethics of individuals
is bound to eventual failure. Because of this, many organizations establish Compliance
and Ethics Programs to minimize the risk that the firm steps outside of ethical and legal
boundaries.

 Disclosure and transparency: Organizations should clarify and make publicly known the
roles and responsibilities of board and management to provide shareholders with a level
of accountability. They should also implement procedures to independently verify and
safeguard the integrity of the company's financial reporting. Disclosure of material
matters concerning the organization should be timely and balanced to ensure that all
investors have access to clear, factual information.

CONCLUSION

Corporate governance is the mechanism by which the agency problems of corporation

stakeholders, including the shareholders, creditors, management, employees, consumers and the
public at large are framed and sought to be resolved.

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References

Corporate Governance, Module of Best Practices, 3rd edition, pg. 6-13 by The Institute of
Company Secretaries of India

“Codes of Corporate Governance” Retrieved from

http://www.secp.gov.pk/corporatelaws/pdf/CodeofCorporateGovernance.pdf

On December 3, 2010

http://en.wikipedia.org/wiki/Corporate_law

http://en.wikipedia.org/wiki/Corporate_governance

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