Chapter 1

1. Introduction

Over the past two decades, the investment world has seen a large number of scandals relating to companies which
are attributed to failure of governance. This has been caused due to a combination of factors which can be
principally classified into three corporate sins.

● The executive directors of the company lost the sense of business ethics and earnings became the only
motive.
● Other directors acted as a puppet in the hands of executive directors, approving improper financial
statements and condoning unfair practice.eholders.
● Auditors colluded or failed to stop executive directors from using improper accounting policies.
2. Definitions of corporate governance

Corporate governance, the system by which organizations are directed and controlled, is based on a number of
concepts, including transparency, independence, accountability and integrity.

3. Corporate Governing Laws and Regulations

i) Companies Act
ii) Banks Act
iii) Partnership Act
iv) Stock Exchange Regulations
v) Securities and Exchange Regulation, etc.
4. Why corporate governance is needed

1. Alignment of Interests: Corporate governance establishes a framework to align the interests of the directors
(agents) with those of the shareholders (principals). This ensures that directors act in the best interests of
shareholders rather than pursuing their own objectives.
2. Accountability and Oversight: It provides mechanisms for accountability by instituting regular audits and
requiring directors to report on the company’s financial health, thus giving shareholders assurance regarding
the company’s operations and decisions.
3. Risk Management: Effective corporate governance discourages directors from engaging in overly risky
strategies that could harm shareholders if they fail. It imposes checks and balances to limit excessive
risk-taking.
4. Transparency and Trust: By adding credibility to financial statements, corporate governance promotes
transparency. Independent audits and shareholder-appointed directors help ensure that shareholders can rely
on the information provided by the company.
5. Prevention of Misconduct: Corporate governance frameworks, especially after high-profile scandals (e.g.,
Enron, WorldCom), seek to prevent directors from exploiting company resources for personal gain, such as
through excessive remuneration or luxury perks.
6. Applicability in Larger Organizations: In larger companies, where there is a separation between
ownership and management, corporate governance is critical. It provides necessary safeguards against
potential governance issues that arise when owners are not directly involved in day-to-day management.

5. Purpose and objectives of governance

The historical rise of corporations and the scope of their impact suggest that the objective of governance should be
simply one of constraining excessive behavior through legislation.

The objectives of governance could therefore be seen as the need to both facilitate and control, the purpose is to
support the system of wealth creation of capitalism.

Objectives will differ depending on whose interests are being considered.

(a) Board of Directors

● To identify the rules of the game within which the company should operate. That is to figure out
 the rules or regulations that the company needs to follow.
● To sustain listing on the stock exchange.
● To provide advice or guidance regarding best practice methods of managing the enterprise.
● To attract investment.
(b) Shareholders
● To create a safe environment within which they can invest.
● To improve global investment opportunities.
● To improve accountability and responsibility.
(c) Governments
● To provide a legal framework within which accountability can be exacted.
● To create conditions for growth and employment.
● To attract global investment and support the economy and society
6. Scope of Governance

1. Direction

This is an internal perspective, looking at the scope of governance activity created by and enacted through the board
of directors.

The scope of governance would include:

● Defining corporate structure and roles.

● Ensuring an appropriate professional culture exists within the company.
● Establishing programs, policies, procedures and rules for internal control.
● Monitoring and adapting as necessary to ensure objectives are met.

2. Control

This is an external perspective, looking at the scope of governance activity imposed on the board of directors from
outside.

The scope of governance would include:

● All forms of legislation including corporate law, health and safety and employee legislation.
● The imposition of stock exchange regulation.
● Accounting and audit standards.

7. Underlying principles of governance

These principles must underlie (motivate) the belief systems and decisions of the board of directors. To ensure the
rights of stakeholders and their participation in corporate governance, several core principles should be upheld, as
outlined in the document:

1. Fairness: Governance should treat all stakeholders with respect and equity, taking into account their
legitimate interests and views. It ensures the company deals even-handedly, especially with minority
shareholders and other vulnerable groups.
2. Transparency: This principle emphasizes open and clear disclosure of relevant information to stakeholders.
Effective transparency includes financial statements, management forecasts, and other voluntary disclosures,
which help stakeholders make informed decisions.
3. Innovation: Recognizing that business needs and stakeholder expectations evolve, governance should be
adaptive and innovative, allowing organizations to respond appropriately to these changes.
4. Skepticism: Non-executive directors should adopt a skeptical approach to management decisions, allowing
them to challenge actions that might not align with stakeholders' interests. This principle also applies to
auditors in their scrutiny of company practices.
5. Independence: Directors and auditors should operate free from conflicts of interest, ensuring that decisions
made are unbiased and truly in the best interest of all stakeholders.

An important distinction generally with independence is independence of mind and independence of appearance.
 ● Independence of mind means providing an opinion without being affected by influences
compromising judgement.
● Independence of appearance means avoiding situations where an informed third party could
reasonably conclude that an individual's judgement would have been compromised
6. Probity: Honesty in reporting and decision-making builds trust with stakeholders. Probity includes avoiding
deceptive practices and presenting information fairly and truthfully.
7. Responsibility: Management should accept accountability for governance decisions, with a clear definition
of roles to support responsible actions and corrective measures when needed.
8. Accountability: Directors are answerable to shareholders, with mechanisms for stakeholders to assess and
challenge decisions. This principle reinforces the accountability of the board for its actions.
9. Reputation: A strong ethical reputation is crucial for stakeholder trust, as it affects the organization's ability
to maintain customer relationships, attract talent, and sustain investor confidence.

The consequences of a poor reputation for an organization can include:

● Suppliers' and customers' unwillingness to deal with the organization for fear of being victims of
● Sharp practice
● Inability to recruit high-quality staff
● Fall in demand because of consumer boycotts
● Increased public relations costs because of adverse stories in the media
● Increased compliance costs because of close attention from regulatory bodies or external auditors
● Loss of market value because of a fall in investor confidence
10. Judgement: The board must make informed decisions that enhance organizational prosperity, taking into
account the broader business environment and the needs of all stakeholders.
11. Integrity: Upholding ethical standards and presenting a balanced, truthful representation of the company’s
affairs is key to maintaining stakeholder trust and engagement.

Chapter 2
1. Introduction

The review of various corporate governance theories enhances the major objective of corporate governance which is
maximizing the value for shareholders by ensuring good social and environmental performances. These theories
include:

1) Agency Theory
2) Stewardship Theory
3) Resource Dependency Theory
4) Shareholder Theory
5) Information Asymmetry and Managerial Signaling Theory
6) Stakeholder Theory
7) Transaction Cost Theory
8) Political Theory

2. Corporate governance and agency theory

2.1 Nature of agency
● Agency relationship is a contract under which one or more persons (the principals) engage another person
(the agent) to perform some service on their behalf that involves delegating some decision-making authority
to the agent (Jensen and Meckling)
2.2 Agency theory: accountability and fiduciary responsibilities

● accountability means that the agent is answerable under the contract to their principal and must account for
the resources of their principal and the money they have gained working on their principal's behalf.

Two problems potentially arise with this.

 (a) How does the principal enforce this accountability? The corporate governance systems developed to monitor
the behaviour of directors have been designed to address this issue.
(b) What if the agent is accountable to parties other than their principal – how do they reconcile possibly
conflicting duties?

● Fiduciary duty is a duty of care and trust which one person or entity owes to another. It can be a legal or
ethical obligation.
Agents and their nature of accountabilities

● Performance
● Obedience
● Skill
● Personal performance
● No conflict of interest
● Confidence
● Any benefit

2.4 The agency problem

The agency problem in joint stock companies derives from the principals (owners) not being able to run the business
themselves and therefore having to rely on agents (directors) to do so for them. This separation of ownership from
management can cause issues if there is a breach of trust by directors by intentional action, omission, neglect or
incompetence. This breach may arise because the directors are pursuing their own interests rather than the
shareholders' or because they have different attitudes to risk taking to the shareholders.

2.5 Agency costs

Agency costs are the expenses incurred by principals (shareholders) to monitor and control the actions of agents
(directors) to mitigate the agency problem.

∙ Common agency costs include:

● ∙ Costs of studying company data and results
● ∙ Purchase of expert analysis
● ∙ External auditors' fees
● ∙ Costs of devising and enforcing directors' contracts
● ∙ Time spent attending company meetings
● ∙ Costs of direct intervention in the company's affairs
● ∙ Transaction costs of shareholding

2.6 Resolving the agency problem: alignment of interests

A good way to overcome the principal-agent problem is by aligning the interests of both the principal and the agent
and removing any conflict of interest. One of the best ways to do this is by aligning the compensation of the agent to
a performance evaluation. If the agent performs well, they will see a direct financial benefit; if they perform poorly,
the opposite will be true.

Examples of such remuneration incentives are:

a) Profit-related/economic value-added pay: Pay or bonuses related to the size of profits or economic
value-added.
b) Rewarding managers with shares: This might be done when a private company 'goes public' and managers
are invited to subscribe for shares in the company at an attractive offer price.
c) Executive share option plans (ESOPs): In a share option scheme, selected employees are given a number of
share options, each of which gives the holder the right after a certain date to subscribe for shares in the
company at a fixed price.

3. Corporate governance and stewardship theory

stewardship theory is a theory that managers, left on their own, will act as responsible stewards (overseers) of the
assets they control, and describes the existence of a strong relationship between satisfaction and organizational
success.

4. Corporate governance and resource dependency theory

Resource dependency theory is based on the principle that an organization, such as a business firm, must engage in
transactions with other actors and organizations in its environment in order to acquire resources.

5. Corporate governance and shareholder theory

The theory that focuses on the interests of shareholders is known as stockholder theory, since it is mostly discussed
in American literature.
Pros of the Shareholder Model

● ∙ Increased returns
● ∙ Singular, streamlined focus
● ∙ Avoids impulses and emotional decisions

Cons of the Shareholder Model

● ∙Lacking in social conscience

● ∙ Misses out on the big picture
● ∙ One dimensional approach

6. Corporate governance and 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.

Instrumental and normative view of stakeholders

Donaldson and Preston suggested that there are two motivations for organisations responding to stakeholder
concerns.

(a) Instrumental view of stakeholders

● This reflects the view that organizations have mainly economic responsibilities (plus the legal
responsibilities that they have to fulfill in order to keep trading).
● The organization is using shareholders instrumentally to pursue other objectives.

(b) Normative view of stakeholders

● This is based on the idea that organizations have moral duties towards stakeholders.
● This suggests the existence of ethical and philanthropic responsibilities as well as economic and legal
responsibilities and organizations focusing on being altruistic (philanthropic).

Pros of the Stakeholder Model:

● ∙ Promotes fairness and ethics
● ∙ Gives directors and objective
● ∙ Creates an environment of social wealth
● ∙ Combines ethics and economy

Cons of the Stakeholder Model:

● ∙ Stakeholders aren’t necessarily altruistic (unselfish) and may represent their own interests
● ∙ Due to being self-interested, internal and external stakeholders can block progress
● ∙ Boards might get pulled into too many directions due to the magnitude of stakeholders
7. Corporate governance and theory of information asymmetry

What is Asymmetric Information?

Asymmetric Information refers to the information mismatch. It is believed that asymmetric information occurs in
almost all economic transactions. In Economics, asymmetric information occurs between the sellers and buyers of
goods and services.
Theory of Asymmetric Information

Asymmetric Information theory advocates that an imbalance of information between buyers and sellers can cause
market failure.

This theory stipulates that sellers may have more information about the goods than the buyers, thus fluctuating the
prices of goods sold.

8. Corporate governance and managerial signaling theory

The signaling theory states that companies with good quality provide positive signals to users of the information to
differentiate between sound quality and poor-quality companies.

9. Corporate governance and transaction Cost theory

● based on the principle that costs will arise when you get someone else to do something for you.
● It describes governance frameworks as being based on the net effects of internal and external transactions,
rather than as contractual relationships outside the firm (i.e. with shareholders). External transactions’ costs
incur because of the following reasons:

Transaction costs will occur when dealing with another external party:

(a) Search and information costs incur to find the supplier.

(b) Bargaining and decision costs incur to purchase the component. (c) Policing and
enforcement costs incur to monitor quality.
10. Corporate governance and political theory

Political Theory refers to political influence in the governance structure of companies, evidenced by the participation
of the government in the capital of companies or laws adopted by political structures which have a significant
influence on corporate governance.

Chapter 3
1. Introduction

Therefore, corporate governance systems vary around the world. This is because in some cases, corporate
governance focuses on the link between a shareholder and company, some on formal board structures and board
practices and yet others on the social responsibilities of corporations. However, basically, corporate governance is
seen as the process by which organizations are run. There is no one model of corporate governance which is
universally accepted as each model has its own advantages and disadvantages.

The corporate governance structure of joint-stock corporations in a given country is determined by several factors:

1. Legal and Regulatory Framework: Defines the rights and responsibilities of involved parties.
2. Corporate Environment: Realities of the business environment in each country.
 3. Articles of Association: Each corporation's internal governance rules.

Each model identifies the following constituent elements:

● Key players (shareholders, board, management)

● Ownership patterns
● Board composition
● Regulatory frameworks
● Disclosure requirements
● Shareholder interactions

2. The driving forces of governance code development

1. Globalization and Internationalization: Increased global investments have pressured countries to adapt
their governance systems to attract foreign investors. For example, institutional investors, investing outside
their home countries, demanded governance codes that align with their interests, promoting transparency
and accountability​.
2. Investor Concerns: Differentiated treatment between domestic and foreign investors, as well as the undue
influence of majority shareholders, have led investors to push for governance reforms. Ensuring parity in
shareholder rights and improved financial reporting became essential​.
3. Financial Reporting Quality: Poor financial reporting practices eroded investor confidence. As a result,
governance codes began to emphasize transparency, particularly regarding off-balance-sheet financing and
accounting standards​
4. National Cultural Differences: Governance practices also reflect national cultures and values. For
example, South Africa's King Report emphasized values like fairness and consensus in governance, which
differ from the shareholder-centric models in the U.S.
5. Corporate Scandals: High-profile corporate collapses (e.g., Enron, WorldCom) exposed the risks of weak
governance, prompting countries to adopt or tighten governance codes to prevent future scandals​(Unit 3

3. Principles-based or rules-based corporate governance?

A rules-based approach to corporate governance is based on the view that companies must be required by law (or by
some other form of compulsory regulation) to comply with established principles of good corporate governance.

Advantages

a) Companies do not have the choice of ignoring the rules.

b) All companies are required to meet the same minimum standards of corporate governance.
c) Investor confidence in the stock market might be improved if all the stock market companies are required to
comply with recognized corporate governance rules.

Disadvantages

a. The same rules might not be suitable for every company, because the circumstances of each company are
different. A system of corporate governance is too rigid if the same rules are applied to all companies.
b. There are some aspects of corporate governance that cannot be regulated easily, such as negotiating the
remuneration of directors, deciding the most suitable range of skills and experience for the board of directors, and
assessing the performance of the board and its directors.

6. Anglo-American model of corporate governance

The Anglo-American model, also known as the Anglo-Saxon model, serves as the foundation for corporate
governance in countries such as the USA, UK, Canada, Australia, and other Commonwealth nations.Key Features

1. Separation of Ownership and Control:

○ Shareholders appoint directors.
○ Directors appoint managers to run the business.
2. Board Composition:
 ○ Typically includes a mix of executive directors and independent directors.
3. Legal and Regulatory Framework:
○ Composed of state corporate laws, federal securities laws, stock exchange listing rules, and
accounting standards.
○ Aims to protect shareholder interests transparently.
4. Shareholder Primacy:
○ The model prioritizes shareholder interests above all others, often at the expense of other
stakeholders like suppliers, customers, employees, and the community.

Key Players:These three components form a "corporate governance triangle," with the board of directors at its
base, balancing the interests of both management and shareholders.

● Directors: Oversee management and represent shareholders’ interests.

● Management: Runs day-to-day operations and implements strategies.
● Shareholders: Own the company and elect the board of directors.

Sarbanes-Oxley Act?

The Sarbanes-Oxley Act (or SOX Act) is a U.S. federal law that aims to protect investors by making corporate
disclosures more reliable and accurate.

Major Provisions of the Sarbanes-Oxley Act

The SOX Act consists of eleven elements (or sections). The following are the most important sections of the Act:

Section 302

Financial reports and statements must certify that:

1) The documents have been reviewed by signing officers and passed internal controls within the last 90 days.
2) The documents are free of untrue statements or misleading omissions.
3) The documents truthfully represent the company’s financial health and position.
4) The documents must be accompanied by a list of all deficiencies or changes in internal controls and information
on any fraud involving company employees.

Section 401

● Financial statements are required to be accurate.

● Financial statements should also represent any off-balance liabilities, transactions, or obligations.

Section 404

● Companies must disclose their internal control structure in annual reports.

● Requires an assessment of the effectiveness of internal controls and procedures for financial reporting.
● The auditing firm must also evaluate these internal controls during the audit

Section 409

Mandates timely disclosure of significant changes in financial position or operations (e.g., acquisitions, divestments).

Section 802

Section 802 outlines the following penalties:

● Company officials who conceal or alter documents to obstruct investigations may face up to 20 years in
prison.
● Accountants who assist in such activities could face up to 10 years in prison.

7. Principles-based Approach to Corporate Governance

A principles-based approach to corporate governance serves as an alternative to a rules-based framework. This
approach acknowledges that a single set of rules may not be suitable for every company due to varying circumstances
and contexts.

Key Characteristics

● Contextual Relevance: The most appropriate corporate governance practices can differ significantly
between companies and may evolve over time for the same company.
● Flexibility: Companies should be allowed to adapt the application of principles to their specific situations,
recognizing that best practices may change as circumstances evolve.

Framework for Implementation

● The principles of corporate governance should be applicable to all companies.

● Accompanying guidelines or provisions should be issued with the governance code to suggest practical
applications of the principles.
● As a general rule, companies should be expected to comply with these guidelines or provisions.
● Companies may apply the principles differently based on their specific circumstances. They should have the
discretion to ignore certain guidelines if deemed appropriate.
● If a company does not comply with the guidelines or provisions, it must inform shareholders and provide an
explanation for its non-compliance.

Compliance Requirements

Under the "comply or explain" approach, particularly in the UK, stock market companies are required to:

● Present a corporate governance statement to shareholders, stating:

○ They apply the principles in the applicable corporate governance code.
○ They have either:
■ Complied with all provisions or guidelines in the code, or
■ Provided an explanation for any non-compliance with specific provisions or guidelines

8. Organisation for Economic Co-operation and Development (OECD) guidance of Corporate Governance

The OECD Principles serve as a foundational framework for countries and companies to enhance corporate
governance, promote investor confidence, and improve overall market stability.

● Purpose: To enhance global investment by establishing credible corporate governance arrangements

understood across borders.
● Nature: Non-binding principles aimed at assisting governments, stock exchanges, investors, and companies
in improving corporate governance frameworks.

9. The OECD principles

1. Rights of Shareholders:
○ Shareholders should have the right to participate in general meetings, vote, and access timely
information.
○ Efficient capital markets for corporate control are essential.
2. Equitable Treatment of Shareholders:
○ All shareholders, including minorities and overseas shareholders, should be treated equally.
○ Barriers to cross-border shareholdings should be removed.
3. Role of Stakeholders:
○ Stakeholder rights must be protected, with access to relevant information.
○ Mechanisms for employee participation should be encouraged.
○ Stakeholders should be able to report concerns about unethical practices to the board.
4. Disclosure and Transparency:
○ Timely and accurate disclosure of material information is crucial, covering financial status, risks,
and governance policies.
 ○ The disclosure approach should facilitate informed investor decisions.
5. Responsibilities of the Board:
○ The board provides strategic guidance and monitors management effectively.
○ Members must act in good faith, with diligence, care, and in the company's best interests, treating
all shareholders fairly.
○ Independent non-executive directors should be assigned appropriate tasks to ensure independent
judgment.