Idea 10 - Corporate governance (50 Management ideas you really need to know)

Idea 10 - Corporate governance

America was treated to a peep at the CEO's expense account recently, to discover, among other things, that the boss of American Express was paid $132,000 for personal use of company cars and reimbursed for snacks from the company dining room. Some people were more upset by the snacks than by the car. More of this kind of information is being made public because the US Securities & Exchange Commission has lowered the threshold for disclosure of perks. But executive pay and disclosure are only two of an increasing number of management activities subject to the stern eye of 'corporate governance'

Because of the agency problem, shareholders have fretted over good governance for many years. They want to be fairly treated and given a hearing, particularly where there is a big majority shareholder that doesn't always listen to what the 'minorities' want. Ruling cliques or family interests sometimes give themselves more voting power by issuing different classes of shares - where A shares have two votes for every B share, for example, and guess who's got the A shares? Shareholders want to know what's going on inside the company, how management is spending 'their' money and how reckless or wise its plans may be. So they are always pushing for more disclosure. The ultimate cockpit of decision-making is the boardroom, so shareholders also take a keen interest in how boards are structured, who the directors are and how trammelled or otherwise is the CEO's power.

Governments have traditionally taken less interest in the minutiae of corporate governance, apart from ensuring that directors didn't break the law and companies didn't behave in a monopolistic fashion. In the UK it was private-sector concerns about corporate governance, fuelled by the BCCI and Robert Maxwell fraud cases, that prompted a series of investigations into financial reporting, director's pay, governance and the role of non-executive directors. Most of the important recommendations were bundled into the Combined Code in 1998. Though government commissioned the last report, the Code remains voluntary. About half of the companies listed on the London Stock Exchange comply, though the exchange insists that those who don't must explain why in their annual reports.

Better boards One of the Code's recommendations is that the chairman should be 'independent', not from within the company and certainly not the ex-CEO. Nor should the chairman and the CEO be the same person, because that's too much concentration of power. The board should be evenly balanced between non-executives - who are less under the CEO's sway and more likely to ask the searching questions - and executives, who know the business. A remuneration committee should decide on directors' pay, an audit committee should deal with the auditors, and only non-executives should sit on both. The Code has served as a model for similar codes in a number of continental European countries.

The outbreak of corporate scandal disease - Enron, WorldCom, Tyco et al. - that tore through corporate America in 2002, made the US government finally sit bolt upright. Its response was swift and uncompromising - the Sarbanes-Oxley Act. This set up the Public Company Accounting Oversight Board to keep a beady eye on auditors, and made independent audit committees compulsory for listed firms. It obliged CEOs and chief financial officers to certify the company's accounts and promised to send them to jail if these proved false. UK boards have been moving towards the Combined Code model for some years, with some notable exceptions, such as HSBC. In America, the absolute monarchy of the CEO (usually the chairman as well) remains in relative good health though there is an observable shift in power towards the directors. There is also less 'I serve on your board and you serve on mine'. Indeed, as compliance burdens rise, the dwindling number of CEOs and executive directors willing to serve on other companies' boards is noticeable on both sides of the Atlantic. In the UK, serving directors are more inclined to accept directorships in private-equity-owned companies, away from the spotlight.

Change in Japan Corporate governance is overwhelmingly an Anglo-American preoccupation, though one that is spreading across the rest of Europe. Some change is taking place in the Japanese system, as firms respond to pressures from foreign investors. Japanese boards have always been big, and closed to anything resembling an independent director. Some are now taking on one or two outside directors and shrinking in size. Western thinking is that smaller boards allow serious discussion but, if there are many more than a dozen members, matters tend to get waved through.

Economic Cooperation and Development (OECD) has laid down corporate governance principles for its member states. As it points out, good practice nowadays will boost a company's share price and, by leading to better credit ratings, can mean cheaper debt. A Harvard/Wharton study showed that US firms with better governance had faster sales growth and were more profitable than their peer groups. But most agree that there is no single model for good corporate governance. Even in a world dominated by multinationals, it is difficult to export a corporate governance system, rooted as they are in domestic laws and habits.
So things have swung the shareholder's way in recent years. Investors have more influence over management than they have ever had. Of course, it's never quite enough for them. They still think CEOs get paid too much, even though a good one will repay his package many times over. And they would just love to have more say in the selection of directors who, they believe, should be able to hire and fire management. So far, management has held them off on that one.

Reference: 50 Management Ideas You Really Need to Know
Book by Edward Russell-Walling

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