I.

Principles of corporate governance

Most corporate governance reports are based around the principles of integrity,
accountability, independence and good management
1. Definition of corporate governance
Corporate governance is the system of rules, practices and processes by which
a company is directed and controlled. (Cadbury Committee, 1992)
Corporate governance is the system of principles, policies, procedures, and
clearly defined the responsibilities and accountabilities used by stakeholders to
overcome the conflicts of interest inherent in the corporate form.
More specifically it is the framework by which the various stakeholder
interests are balanced, or, as the IFC states, “the relationships among the
management, Board of Directors, controlling shareholders, minority shareholders
and other stakeholders”. (James Chen, 2021)
2. Principles of corporate governance
2.1 Principles of corporate governance
Corporate governance is based on eight following principles.
● Minimize risk and compliance
● Adherence to strategic objectives
● Fulfil stakeholder responsibilities
● Establish clear accountability
● Maintain independence
● Accurate/ Timely reporting
● Encourage owner involvement
● Promote integrity
Successful organizations do not view enterprise performance and
conformance in isolation. They fully understand how these two dimensions
together represent the entire value creation, resource utilization and
accountability framework of an enterprise.
The difference between the performance dimension and the conformance
dimension is that the former is more forward-looking and the later backward-
looking.
Performance responsibilities focus on strategy, value creation and resource
utilization whereas conformance responsibilities focus on providing assurance to
stakeholders that the organization is working effectively and efficiently to achieve
its strategic and operational goals.
However, both performance and conformance responsibilities enhance each
other and the organization as a whole. (Karol M.Kopp, 2021)
 3. Perspectives on governance
There are many theories of corporate governance which addressed the
challenges of governance of firms and companies from time to time namely
Agency Theory, Stewardship Theory, Resource Dependency Theory, Stakeholder
Theory, Transaction Cost Theory, Political Theory (Papertiary, 2018)

3.1 Agency Theory

Agency theory defines the relationship between the principals (such as

shareholders of company) and agents (such as directors of company). According
to this theory, the principals of the company hire the agents to perform work. The
principals delegate the work of running the business to the directors or managers,
who are agents of shareholders. The shareholders expect the agents to represent
the best interests of the principal without regard for self-interest. Diverging
interests of principals and agents may lead to conflict as the agent may be
succumbed to self-interest, opportunistic behavior and fall short of expectations
of the principal. Such conflict of interest may lead to inefficiences and financial
losses. Corporate governance can be used to change the rules under which an
agents operates in order to restore the principal’s interest. The key feature of
agency theory is separation of ownership and control. The principal must
overcome lack of information about the agent’s performance of tasks and agents
must be incentivised to act in favor of the principal’s interests. => The Agency
theory may be used to design these incentives appropriately by considering the
interests that motivate the agent to act.
 A common example of agency theory is between the employees and
employers of an organization. The employees are hired to work in accordance
with the objectives of the organization. However, the growing number of
corporate scams shows that this relationship is not always taken in a way it is
meant to be. The employees work against the ethics of the organization causing it
huge financial and reputational damage. Sometimes, the loss caused by such
corrupt employees is beyond repair and an organization has to wind up its
business altogether. (Keay, 2017)
3.2 Stewardship Theory

Stewardship theory of corporate governance is a normative alternative to

agency theory. According to Stewardship theory, managers are stewards whose
behaviors are in line with the aim of their principals. Managers are viewed as
being loyal to the company and as being interested in achieving high
performance. The dominant motive that drives the managers to achieve their
goals is their inherent desire to deliver excellence. Managers are thought to be
motivated by the needs to achieve, gain intrinsic satisfaction by performing
inherently challenging work exercise responsibility and authority, and being
recognized.
An example of a stewardship model of corporate governance might include a
business focused on environmental concerns, where the company believes it
should operate with as little impact as possible on the earth.The Coca-Cola
Company which uses huge amounts of water for its products, for example, has
committed to being good stewards of water resources. (Chron Contributor, 2021)
3.3 The Stakeholder theory
 The stakeholder theory of corporate governance focuses on the effect of
corporate activity on all identifiable stakeholders of the corporation. This theory
posits that corporate managers (officers and directors) should take into
consideration the interests of each stakeholder in its governance process. This
theory includes taking efforts to reduce or mitigate the conflicts between
stakeholder interests. It looks further than the traditional members of the
corporation (officers, directors, and shareholders) and also focuses on the interests
of any third party that has some level of dependence upon the corporation.
Stakeholders are generally divided into internal and external stakeholders.
● Internal Stakeholders - Are the corporate directors and employees, who
are actually involved in corporate governance process.
● External Stakeholders - May include creditors, auditors, customers,
suppliers, government agencies, and the community at large.
These stakeholders exert influence but are not directly involved in the
process. Key to the stakeholder theory is the realization that all stakeholders
engage in some manner with the corporation with the hope or expectation that
the corporation will deliver the type of value desired or expected. The benefits
may include dividends, salary, bonuses, additional orders, new jobs, tax revenue,
etc. (Jason Gordon, 2021)
4. Principles vs rules
 Rules-Based Approach Principle-Based Approach

Code of Corporate Governance is a set of

Code of Corporate Governance is a set of
best practices that companies should
legal requirements mentioned in the Act.
follow.
Legal Requirement Not a Legal Requirement
Practically it is difficult to set up rules that This is the usual approach which most
are suitable for every set of circumstances. organizations in the world are practicing.
Compliance or non-compliance
Compliance or non-compliance Judgements
Judgements are being made by the
are being made by the court.
owners of the business (shareholders)
Non-compliance will result in an
Non-compliance will result in heavy penalties
explanation to the shareholders by the
in the form of fines.
board.
Ex: In the US, organizations to follow legislations such as USA Sarbanes-
Oxley Act, which is a U.S. federal law that aims to protect investors by making
corporate disclosures more reliable and accurate. The Act was spurred by major
accounting scandals, such as Enron and WorldCom (today called MCI Inc.), that
tricked investors and inflated stock prices. Spearheaded by Senator Paul Sarbanes
and Representative Michael Oxley, the Act was signed into law by President
George W. Bush on July 30, 2002. (Peter Chisambara, n.d)
In the United Kingdom (UK) company should agree to apply UK Code on
Corporate Governance after the company is listed. Listed companies in the UK are
required to state in their financial statements whether they fully comply with the
code. If not, the company needs to mention the way in which they don’t and why.
Investors will ultimately have the information they need to decide whether they
are ok with the level of compliance of their company. (Rusth, n.d)
1. Applied Corporate Governance, “Definition of corporate governance”,
[Online] Available at: https://www.applied-corporate-governance.com/definition-
of-corporate-governance/ [Accessed 20 Apr.2021]
2. James Chen (2021), “Corpote Governance”, Investopia, [Online] Available
at: https://www.investopedia.com/terms/c/corporategovernance.asp#examples-of-
corporate-governance [Accessed 20 Apr.2021]
3. Carol M.Kopp (2021), “Agency Theory”, Investopia, [Online] Available at:
https://www.investopedia.com/terms/a/agencytheory.asp [Accessed 20 Apr.2021]
4. Papertyari (2018), “Theories of Corporate Governance: Agency,
Stewardship etc”, Papertyari.com, [Online] Available at:
https://www.papertyari.com/general-awareness/management/theories-corporate-
governance-agency-stewardship-etc/ [Accessed 20 Apr.2021]
5. Keay, A (2017), Stewardship Theory : Is Board Accountability Necessary?
International Journal of Law and Management, 59 (6). pp. 1292-1314. [Online]
Available at: https://eprints.whiterose.ac.uk/109675/3/BOARD
%20ACCOUNTABILITY%20AND%20THE%20STEWARDSHIP%20THEORY
%20J%20Law%20and%20manrevised.pdf [Accessed 20 Apr.2021]
6. Chron Contributor (2021), “Stewardship Theory of Corporate Governance”,
Small Business, [Online] Available at:
https://smallbusiness.chron.com/stewardship-theory-corporate-governance-
74073.html [Accessed 20 Apr.2021]
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[Online] Available at: https://learnbusinessconcepts.com/understanding-corporate-
governance/#What-is-Corporate-Governance [Accessed 20 Apr.2021]
8. Peter Chisambara, “Creating Balance Between Performance and
Conformance”, Erpminsight, [Online] Available at:
https://erpminsights.com/improving-governance-in-organizations-how-to-create-a-
balance-between-performance-and-conformance/ [Accessed 20 Apr.2021]
9. Jason Gordon (2021), “Stakeholder Theory of Corporate Governance: What
does it mean for Officer and Director Decision Making”, The Business Professor,
[Online] Available at: https://thebusinessprofessor.com/en_US/business-
governance/stakeholder-theory-of-corporate-governance [Accessed 20 Apr.2021]