Table of

Contents

Table A Brief History of Corporate Governance

1600s The East India Company introduces a Court of Directors, creating a

basis for the separation of ownership and control (United Kingdom,
the Netherlands).

1776 Adam Smith in The Wealth of Nations warns of weak controls over
and incentives for management (United Kingdom).

1844 First Joint Stock Company Act (United Kingdom).

1931 Berle and Means publishes its seminal work The Modern Corporation
and Private Property (United States).

1933-1934 The Securities Act of 1933 is the first act to regulate the securities
markets, notably registration disclosure. The 1934 Act delegates
responsibility for enforcement to the Securities and Exchange
Commission (United States).

1967 Indonesia: The House of Representatives adopts Law No. 1 of 1967

on Foreign Investment.

1968 The European Union adopts its first company law directive
(European Union).

1987 The Treadway Commission (COSO) reports on fraudulent financial

reporting, confirms the role and status of audit committees, and
develops a framework for internal control (United States).

Early 1990s The Polly Peck (£1.3 billion in losses), BCCI, and Maxwell (£480
million) business empires collapse, leading to calls for improved
corporate governance practices to protect investors (United
Kingdom).

1992 The Cadbury Committee publishes the first code on corporate

governance. In 1993, companies listed on the United Kingdom’s
stock exchanges are required to disclose governance on a “comply
or explain” basis (United Kingdom).

Indonesia: The House of Representatives adopts Law No. 2 of 1992

on Insurance Business.

1994 Publication of the King Report (South Africa).

1994-1995 Rutteman (on internal controls and financial reporting), Greenbury

(on executive remuneration), and Hampel (on corporate
governance) reports are published (United Kingdom).

1995 Publication of the Vienot Report (France).

32
An Introduction To Corporate Governance
 Table of
Contents

Indonesia: Adoption of Law No. 1 of 1995 on Limited Liability

Companies.

Indonesia: Adoption of Law No. 8 of 1995 on Capital Markets.

1996 Publication of the Peters Report (Netherlands).

1998 Publication of the Combined Code (United Kingdom).

1999 The OECD publishes the first international benchmark on

corporate governance: OECD Principles of Corporate Governance
(France).

Publication of the Turnbull guidance on internal controls (United

Kingdom).

Indonesia: The House of Representatives adopts Law No. 5 of

1999 on Prohibition of Monopolistic Practices and Unfair Business
Competition.

Indonesia: Establishment of the National Committee on Corporate

Governance, later changed to the National Committee on
Governance.

Indonesia: Establishment of the Corruption Eradication

Commission by Law No. 31 of 1999, later amended by Law No. 3 of
2004.

Indonesia: Establishment of the Commission for the Supervision of

Business Competition by Law No. 5 of 1999.

Indonesia: Adoption of Law No. 23 of 1999 on Bank Indonesia, later

superseded by Law No. 3 of 2004.

2000 Indonesia: The National Committee on Corporate Governance

publishes the first Code of Good Corporate Governance (CG Code
of 2000).

2001 Enron Corporation, then the seventh largest listed company in the
United States, declares bankruptcy (United States).

Publication of the Lamfalussy Report on the Regulation of

European Securities Markets (European Union).

Indonesia: The National Committee on Corporate Governance

publishes its second Indonesia’s Code of Good Corporate
Governance, an improvement of the previous version of the code
(CG Code of 2001).

2002 Indonesia: State-owned enterprises are required to implement

corporate governance by the decree of Minister of SOE KEP-117/

33
An Introduction To Corporate Governance
 Table of
Contents

M-MBU/2002 concerning the Implementation of Good Corporate

Governance in State-Owned Enterprises.

Publication of the German Corporate Governance Code

(Germany).

The Enron collapse and other corporate scandals lead to the

Sarbanes-Oxley Act (United States); the Winter Report on
company law reform in Europe is published (European Union).

2003 The Higgs Report on non-executive directors is published (United

Kingdom).

Indonesia: Establishment of the Center for Reporting and

Financial Transaction Analysis (PPATK - Pusat Pelaporan dan
Analisis Transaksi Keuangan), which is mandated by Law No. 15 of
2002 on Money Laundering. The Law is replaced by Law No. 25 of
2003.

Indonesia: The House of Representatives adopts Law No. 19 of

2003 on State-Owned Enterprises.

2004 Indonesia: Adoption of Law No. 24 of 2004 on Deposit Insurance

Corporation (Lembaga Penjamin Simpanan or LPS).

The Parmalat scandal shakes Italy, with possible European

Union-wide repercussions (European Union).

2006 Indonesia: The Central Bank issues a regulation that mandates

the banking sector to implement corporate governance
through PBI No. 8/4/PBI/2006 on Good Corporate Governance
Implementation for Banks.

Indonesia: The National Committee on Governance publishes its

third Indonesia’s Code of Good Corporate Governance (CG Code
of 2006).

2007 Indonesia: The House of Representatives adopts Law No. 40 of

2007 on Limited Liability Company, which replaces Law No. 1 of
1995, and Law No. 25 of 2007 on Investment, replacing the 1967
Foreign Investment Law.

2012 The United Kingdom amends its Stewardship Code of 2010,

marking a key development to enhance the role of institutional
shareholders vis-à-vis investee companies (United Kingdom).

2015 Following the global financial crisis in 2008, the OECD conducts a
comprehensive review of its CG Principles and issues an updated
set of Principles of Corporate Governance (France).

Indonesia: The Financial Services Authority issues Regulation No.

21/POJK.04/2015 and Circular Letter No. 32/SEOJK.04/2015 on the

34
An Introduction To Corporate Governance
 Table of
Contents

Implementation of Corporate Governance Guidelines for Public

Companies.

2016 - 2017 Indonesia: The Financial Services Authority issues Regulation No.
55/POJK.03/2016 and Circular Letter No. 13/SEOJK.03/2017 on the
Implementation of Corporate Governance for Banks.

2018 The United Kingdom will issue revisions to its Corporate

Governance Code, scheduled to take effect in June 2018. Among
the revisions, the new code will force some 900 publicly listed
company to reveal the pay ratio between management and
employees (United Kingdom).

1.1.2
a International Standards of Corporate Governance

The past decade witnessed the development of numerous codes of corporate

governance principles worldwide. More than 200 codes have now been
written across 103 countries and regions, some of which are designed to have
international application. Most of these codes focus on the role of the BoC and/
or BoD in a company.

Among these, only the OECD Principles on Corporate Governance address

both policymakers and businesses and focuses on the entire governance
framework (shareholder rights, stakeholders, disclosure, and board practices).
First published in 1999 and revised in 2004, the OECD issued its latest revision
in 2015 to address the developments arising out of changing circumstances in
the corporate and financial sectors, including the complexity of the investment
chain, the changing role of stock exchanges, and the emergence of new investors
and trading practices. This version was expected to support investment as a
powerful driver of growth. The OECD Principles have since gained worldwide
recognition as a reference point for good corporate governance. Although the
OECD Principles primarily focus on publicly traded companies, both financial
and non-financial, they provide a useful benchmark for improving corporate
governance practices of privately-held companies. Many national corporate
governance codes, including Indonesia, were developed based on the OECD
Principles.

The OECD corporate governance framework is built on four core values:

• Fairness: The corporate governance framework should protect

shareholder rights and ensure the equitable treatment of all shareholders,

35
An Introduction To Corporate Governance
 Table of
Contents

including minority and foreign shareholders. All shareholders should have

the opportunity to obtain effective redress for violations of their rights.

• Responsibility: The corporate governance framework should recognize

the rights of stakeholders as established by law, and encourage active
cooperation between companies and stakeholders in creating wealth and
jobs and ensuring sustainability.

• Transparency: The corporate governance framework should ensure

that timely and accurate disclosure is made of all material matters
regarding the company, including financial status, governance structure,
performance, and ownership.

• Accountability: The corporate governance framework should ensure

the strategic guidance of the company, the effective monitoring of
management by the board, and the board’s accountability to the company
and shareholders.

In 2017, the OECD issued the OECD Corporate Governance Factbook, which
tracks individual countries’ implementation of the OECD Principles. The
Factbook also offers a comprehensive set of recommendations to regulators for
the development of sound corporate governance policies.

Although Indonesia’s CG Code and related regulations represent a positive step

towards improving corporate governance practices in Indonesia, they are less
comprehensive and stringent than other national codes. The OECD Principles
provide an excellent reference point to offset these limitations and are highly
recommended for those interested in understanding some of the principles that
underline national corporate governance standards.

Distinguishing Corporate Governance

1.1.3

Corporate governance focuses on a company’s structure and processes to ensure

fair, responsible, transparent, and accountable corporate behavior. It must be
distinguished from public governance, which deals with governance structures
and systems within the public sector. Corporate governance is also distinct
from corporate management, which focuses on the tools required to operate a

36
An Introduction To Corporate Governance
 Table of
Contents

business. One area of overlap between management and governance is corporate

strategy, which is dealt with at the corporate management level and incorporates
key corporate governance considerations. Figure 2 illustrates the difference
between corporate governance and corporate management.

Figure 2 Comparison between Corporate Governance and Corporate Management

Accountability
and
Corporate Governance
Supervision

Strategic Management

Corporate Management

Executive Management
Decision and Control
Operational Management

Source: Robert I. Tricker, Corporate Governance, 1984

Corporate governance also differs from concepts such as good corporate

citizenship and business ethics. Good corporate governance may certainly
reinforce ethical and responsible business practices by promoting healthy
management systems. However, corporate governance exists as a distinct set of
principles whose primary purpose is to ensure that the company is managed in
the best interests of the company.

37
An Introduction To Corporate Governance
 Table of
Contents

1.2 The Business Case for

Corporate Governance

Good corporate governance promotes sustainable business growth by

facilitating companies’ access to capital and protecting the rights of shareholders
and other stakeholders. Companies that insist upon the highest standards
of governance and integrity by management by their nature reduce many of
the risks inherent in investment. In doing so, these companies are better able
to secure reliable access to capital at a lower cost, and as a result tend to
outperform their less well-governed peers over the long-term.

Generally, well-governed companies are better contributors to the national

economy and society. They tend to deliver greater value to shareholders,
workers, communities, and countries in contrast with poorly governed
companies, which are more likely to undermine confidence in securities markets.
Some of the building blocks, or levels, and specific benefits of good governance
are depicted in Figure 3 and discussed in further detail below.

Figure 3 Benefits of Good Corporate Governance

The Four Levels of Corporate Governance

1 2 3 4
Compliance Initial steps Advanced Corporate
with legal to improve corporate governance
and corporate governance leadership
regulatory governance system
requirements are made

Better Lower cost Access to Improved

reputation for to capital capital operational
the company markets efficiency

Benefits

38
An Introduction To Corporate Governance
 Table of
Contents

Increased Performance and Operational Efficiency

1.2.1

There are several ways in which good corporate governance can improve
performance and operational efficiency, as Figure 4 illustrates.

Figure 4 Advantages of Good Corporate Govenance

Increases
Better Oversight and Accountability Operational
Efficiency and
Improved Decision Making Stimulates
Performance
Better Compliance and Less Conflict

An improvement in the company’s governance practices leads to a better

oversight and accountability system, thereby minimizing the risk of fraud
or self-dealing by the company’s staff. Accountability for corporate actions,
combined with effective risk management and internal controls, can bring
potential problems to the forefront before the company faces a full-blown crisis.

Adherence to good corporate governance standards strengthens the decision-

making process. For example, the BoC, BoD, and shareholders are more likely
to make better informed and timely decisions when the company’s governance
structure clearly defines their respective roles and responsibilities, and where
internal communication within the company operates effectively. High quality
corporate governance streamlines the company’s business processes, improving
operational performance, and lowering capital expenditures, which may, in turn,
contribute to the growth of sales and profits.

An effective system of governance also helps to ensure compliance with

applicable laws and regulations, thus allowing companies to avoid costly
litigation, including costs related to shareholder claims as well as other disputes
resulting from fraud, conflicts of interest, corruption and bribery, and insider
trading. Good corporate governance can help to facilitate the resolution of
corporate conflicts between minority and controlling shareholders, between
executives and shareholders, and between shareholders and stakeholders. In
addition, company officers will be able to minimize the risk of personal liability.

39
An Introduction To Corporate Governance
 Table of
Contents

Access to Capital Markets

1.2.2

Corporate governance practices can improve access to capital, because well-

governed firms provide investors with greater confidence in their ability to
generate returns and protect shareholder rights. From an investor’s point of
view, the better a company’s corporate governance structure and practices,
the more likely that assets will be used in the interests of the company and
not tunneled or otherwise misused by managers. Corporate governance
practices can also take on a particular importance in emerging markets, where
shareholders do not always benefit from the same protections available in
more developed economies and where political or economic instability and
institutional weakness contribute to elevated levels of perceived investment risk.

This holds particularly true in emerging market countries where regulations

and enforcement are at times inconsistent, and courts do not always provide
investors with effective recourse when their rights are violated. This means that
even modest improvements in corporate governance relative to other companies
can make a large difference for investors and decrease the cost of capital.

Good corporate governance also promotes transparency, which provides

investors with an opportunity to gain insight into the company’s business
operations and financial data. Even if the information disclosed by the company
is negative, shareholders will benefit from the decreased risk of uncertainty.

Figure 5 demonstrates that a significant percentage of investors are willing

to pay a premium to invest in a well-governed company. For example, this
premium amounts to 25 percent for Chinese companies.

Figure 5 Premium for Better Corporate Governance

Russia 38

China 25

Brazil 24

Poland 23

United States 14

Germany 13

10 20 30 40 50

Source: McKinsey & Company, Global Investor Opinion Survey, July 2002

40
An Introduction To Corporate Governance
 Table of
Contents

Improved Reputation
1.2.3

In today’s business environment, reputation has become a key element of a

company’s goodwill. A company’s reputation and image effectively constitute
an integral, if intangible, part of its assets. Good corporate governance practices
contribute to and improve a company’s reputation. Companies that respect the
rights of shareholders and ensure financial transparency and accountability
will be highly regarded as ardent advocates of investors’ interests. As a result,
such companies will enjoy more public confidence and goodwill. This public
confidence and goodwill can lead to greater trust in the company and its
products, which in turn may lead to higher sales and, ultimately, profits. A
company’s improved reputation can also positively affect its valuation.

Best
Practice
The following principles set out useful guidelines with respect
to the formation, operation, and enhancement of a company’s
corporate governance system:

• Corporate governance practices should provide

shareholders with a real opportunity to exercise their
rights in relation to the company.
• Corporate governance practices should ensure the
equitable treatment of all shareholders. Shareholders
should have access to effective recourse in the event of a
violation of their rights.
• Corporate governance practices should provide for the
BoC’s direction and supervision of the BoD and for the
accountability of the BoC and the BoD to shareholders.
• Corporate governance practices should ensure that the
BoD manages the day-to-day activities of the company
without undue interference, in good faith and solely in
the interests of the company, and that the BoD report in
full and on a timely basis to the BoC and shareholders.
• Corporate governance practices should stipulate the
full, timely, and accurate disclosure of all material
information (including information about the company’s

41
An Introduction To Corporate Governance