MODULE 1

Subject:
AE10-GBERMIC: GOVERNANCE, BUSINESS ETHICS, RISK MANAGEMENT AND INTERNAL
CONTROL
INFORMATION SHEET PR-1.1.1
“Introduction to Corporate Governance”

Objectives:

Introduction to Corporate Governance

What is Governance?

Governance refers to a process whereby elements in society wield power, authority and
influence and enact policies and decisions concerning public life and social upliftment.

It comprises all the processes of governing - whether undertaken by the government of a

country, by a market or by a network - over a social system and whether through the laws, norms,
power or language of an organized society.

Governance therefore means the process of decision- making and the process by which
decisions are implemented (or not implemented) through the exercise of power or authority by
leaders of the country and / or organizations.

Governance can be used in several contexts such as corporate governance, international

governance, national governance and local governance.

Definition of governance

Governance defines as the establishment of policies, and continuous monitoring of their

proper implementation, by the members of the governing body of an organization. It includes the
mechanisms required to balance the powers of the members (with the associated accountability),
and their primary duty of enhancing the prosperity and viability of the organization.

Understanding Corporate Governance

Governance refers specifically to the set of rules, controls, policies, and resolutions put in
place to dictate corporate behavior. Proxy advisors and shareholders are important stakeholders
who indirectly affect governance, but these are not examples of governance itself. The board of
directors is pivotal in governance, and it can have major ramifications for equity valuation.

A company’s corporate governance is important to investors since it shows a company's

direction and business integrity. Good corporate governance helps companies build trust with
investors and the community. As a result, corporate governance helps promote financial viability by
creating a long-term investment opportunity for market participants
Definition of Corporate Governance

In corporate world, governance refers to the framework of rules and practices by which a
board of directors ensures accountability, fairness, and transparency in a company's relationship
with its all stakeholders (financiers, customers, management, employees, government, and the
community).

Corporate governance is the system of rules, practices, and processes by which a firm is

directed and controlled. Corporate governance essentially involves balancing the interests of a
company's many stakeholders, such as shareholders, senior management executives, customers,
suppliers, financiers, the government, and the community.

Since corporate governance also provides the framework for attaining a company's
objectives, it encompasses practically every sphere of management, from action plans and internal
controls to performance measurement and corporate disclosure.

Corporate Governance refers to the way in which companies are governed and to what
purpose. It identifies who has power and accountability, and who makes decisions. It is, in essence,
a toolkit that enables management and the board to deal more effectively with the challenges of
running a company.

Corporate governance ensures that businesses have appropriate decision-making processes

and controls in place so that the interests of all stakeholders (shareholders, employees, suppliers,
customers and the community) are balanced.

Governance at a corporate level includes the processes through which a company’s

objectives are set and pursued in the context of the social, regulatory and market environment. It is
concerned with practices and procedures for trying to make sure that a company is run in such a
way that it achieves its objectives, while ensuring that stakeholders can have confidence that their
trust in that company is well founded.

As the home of good governance, ICSA believes that good governance is important as it
provides the infrastructure to improve the quality of the decisions made by those who manage
businesses. Good quality, ethical decision-making builds sustainable businesses and enables them
to create long-term value more effectively.

Governance encompasses the system by which an organization is controlled and operates,

and the mechanisms by which it, and its people, are held to account. Ethics, risk management,
compliance and administration are all elements of governance.

Corporate governance involves a set of relationships between a company’s management, its

board, its shareholders and other stakeholders. Corporate governance also provides the structure
through which the objectives of the company are set, and the means of attaining those objectives
and monitoring performance are determined.
Characteristics of Good Governance

Whatever context good governance is used, the following major characteristics should be
present:

These characteristics are briefly described as follows:

1. Participation: Participation by both men and women is a key cornerstone of good

governance. Participation could be either director through legitimate institutions or
representatives. It important to point out that representative democracy does not
necessarily mean that the concern of the most vulnerable in society would not be taken into
consideration in decision making. Participation needs to be informed and organized This
means freedom of association and expression on one hand and an organized civil society on
the other hand.

2. Rule of Law: Good governance requires fair legal frameworks that are enforced impartially.
It also requires full protection of human rights, particularly those of minorities. Impartial
enforcement of laws requires an independent judiciary and an impartial and incorruptible
police force.

3. Transparency: Transparency means that decisions taken and their enforcement are done
in a manner that follows rules and regulations. It means that information is freely available
and directly accessible to those who will be affected by such decisions and their
enforcement. It also means that enough information is provided and that it is provided in
easily understandable forms and media.

4. Responsiveness: Good governance requires that institutions and processes try to serve the
needs all stakeholders within a reasonable timeframe.

5. Consensus Oriented: Good governance requires mediation of the different interests in

society to reach a broad consensus on what is in the best interest of the whole community
and how this can be achieved. It also requires a broad and long -term perspective on what is
needed for Sustainable human development and how to achieve the goals of such
development. This can only result from an understanding of the historical cultural and
social contexts of a given society or community.

6. Equity & Inclusiveness: Effectiveness Efficiency Ensures that all its members that they have
stake in it and do not feel excluded from the mainstream of society. This requires all groups.
but particularly the most vulnerable, have opportunities to improve or maintain their
wellbeing.
7. Effectiveness & Efficiency: Good governance means that processes and institutions produce
results that meet the needs of society while making the best use of resources at their
disposal. The concept of efficiency in the context of good governance also covers the
sustainable use of natural resources and the protection of the environment.

8. Accountability: Accountability is a key requirement of good governance. Not only

governmental institutions but also the private sector and civil society organizations must be
accountable to public and to their institutional stakeholders. Who is accountable to whom
varies depending on whether decisions or actions taken are internal or external to an
organization or institution in general, an organization or an institution is accountable to
those who will be affected by its decisions or actions? Accountability cannot be enforced
without transparency and the rule of law.

Corporate Governance: An Overview

Corporate governance is defined as the system of rules, practices and processes by which
business corporations are directed and controlled. It basically involves balancing the interests of a
company's many stakeholders, such as shareholders, management, customers, suppliers, financiers,
government and the community.

Corporate governance is a topic that has received growing attention in the public in recent
years as policy makers and others become more aware of the contribution good corporate
governance makes to financial market stability and economic growth. Good corporate governance
is all about controlling one's business and so is relevant, and indeed vital, for all organizations,
whatever size or structure.

The corporate governance structure specifies the distribution of rights and managers,
shareholders, and other stakeholders, and spells out the rules and procedures for making decisions
on corporate affairs. By doing this, it also provides the structure through which the objectives are
set and the means of attaining those objectives and monitoring performance.

Purpose of Corporate Governance

The purpose of corporate governance is to facilitate effective, entrepreneurial and prudent

management that can deliver long-term success of the company. In simple terms, the fundamental
aim of corporate governance is to enhance shareholders' value and protect the interests of other
stakeholders by improving the corporate performance and accountability. It is also about what the
board of directors of a company does, how it sets the values of the business firm.

The corporate governance framework consists of:

1. explicit and implicit contracts between the company and the stakeholders for distribution
of responsibilities, rights, and rewards,

2. procedures for reconciling the sometimes-conflicting interests of stakeholders in

accordance with their duties, privileges, and roles, and

3. procedures for proper supervision, control, and information-flows to serve as a system of

checks-and-balances.

Communicating a firm's corporate governance is a key component of community

and investor relations. On Apple Inc.'s investor relations site, for example, the firm outlines its
corporate leadership-its executive team, its board of directors—and its corporate governance,
including its committee charters and governance documents, such as bylaws, stock ownership
guidelines and articles of incorporation.

Most companies strive to have a high level of corporate governance. For many shareholders,
it is not enough for a company to merely be profitable; it also needs to demonstrate good  corporate
citizenship through environmental awareness, ethical behavior, and sound corporate governance
practices. Good corporate governance creates a transparent set of rules and controls in which
shareholders, directors, and officers have aligned incentives.

Objectives of Corporate Governance

The following are the basic objectives of corporate governance:

1. Fair and Equitable Treatment of Shareholders: A corporate governance structure

ensures equitable and fair treatment of all shareholders of the company. In some
organizations, a group of high net- worth individual and institutions who have a substantial
proportion of their portfolios invested in the company, remain active through occupation of
top-level positions that enable them to guard their interest However, all shareholders
deserve equitable treatment and this equity safeguarded by a good governance structure in
any organization.

2. Self-Assessment: Corporate governance enables firms to assess their behavior and actions
before they are scrutinized by regulatory agencies. Business establishments with a strong
corporate governance system are better able to limit exposure to regulatory risks and fines.
An active and independent board can successfully point out deficiencies or loopholes in the
company operations and help solve issues internally on a timely basis.

3. Increase Shareholders' Wealth: Another corporate governance's main objective is to

protect the long-term interests of the shareholders. Firms with strong corporate
governance structure are seen to have higher valuation attached to their shares by
businessmen. This only reflects the positive perception that good corporate governance
induces potential investors to decide to invest in a company.

4. Transparency and Full Disclosure: Good corporate governance aims at ensuring a higher
degree of transparency in an organization by encouraging full disclosure of transactions in
the company accounts.

Basic Principles of Effective Corporate Governance

Effective corporate governance is transparent, protects the rights of shareholders and

includes both strategic and operational risk management. It is concerned in both the long-term
earning potential as well as actual short- term earnings and holds directors accountable for their
stewardship of the business.

The basic principles of effective corporate governance are threefold as presented below:
Positive answers to the following questions indicate a firm's conformance and compliance with the
basic principles of good corporate governance:

A. Transparency and Full Disclosure

 Does the board meet the information needs of investment communities?

 Does it safeguard integrity in financial reporting?
 Does the board have sound disclosure policies and practices?
 Does it make timely and balanced disclosure?
 Can an outsider meaningfully analyze the organization's actions and
performance?

B. Accountability

 Does the board clarify its role and that of management?

 Does it promote objective, ethical and responsible decision making?
 Does it lay solid foundations for management oversight?
 Does the composition mix of board membership ensure an appropriate range
and mix of expertise, diversity, knowledge and added value?
 Is the organization's senior official committed to widely accepted standards of
correct and proper behavior?
C. Corporate Control

 Has the board built long -term sustainable growth in shareholders' value for the
corporation?
 Does it create an environment to take risk?

 Does it encourage enhanced performance?

 Does it recognize and manage risk?
 Does it remunerate fairly and responsibly?
 Does it recognize the legitimate interests of stakeholders?
 Are conflicts of interest avoided such that the organization's best interests
prevail at all times?

Application of the Basic Principles of Corporate Governance and Best Practices

Recommendation

Principles of Good Corporate Best Practice Recommendations

Governance

1. A company should lay solid Formalize and disclose the functions reserved to the board and
foundation for management those delegated to management.
and oversight. It should
recognize and publish the
respective roles and
responsibilities of board and
management.
2. Structure the board to add a. A board should have independent directors.
value Have a board of an b.The roles of chairperson and chief executive officer should not
effective composition, size and be exercised by the same individual.
commitment to adequately c. The board should establish a nomination committee
discharge its responsibilities
and duties.

3. Promote ethical and a. Establish a code of conduct to guide the directors, the chief
responsible decision making. executive officer (or equivalent), the chief financial officer (or
Actively promote ethical and equivalent) and any other key executives as to:
responsible decision-making.
 The practices necessary to maintain confidence in the
company's integrity
 The responsibility and accountability of individuals for
reporting and investigating reports of unethical practices
b. Disclose the policy concerning trading in company securities
by directors, officers and employees.

Principles of Good Corporate Best Practice Recommendations

Governance

4. Safeguard integrity in a. Require the chief executive of (equivalent) and the chief
financial reporting. Have a financial officer (or equivalent) to state in writing to the board
structure independently verify that the company's financial reports present a true and fair
and safeguard the integrity of view, in all material respects of the company's financial
the company's financial condition and operational results and are in accordance with
reporting. relevant accounting standards.
b. The board should establish an audit committee.
c. Structure the audit committee so that it consists of:
 Only non-executive or independent directors;
 An independent chairperson who is not chairperson of
the board;
 At least three (3) members.

5. Make timely and balanced a. Establish written policies and procedures designed to ensure
disclosure Promote timely and compliance with IFRS.
balanced disclosure of all b. Listing Rule disclosure requirements and to ensure
material matters concerning the accountability at a senior management level for compliance.
company.

6. Respect the rights of a. Design and disclose a communications strategy to promote

shareholders and facilitate the effective communication with shareholders and encourage
effective exercise of those effective participation general meetings.
rights. b. Request the external auditor to attend the annual general
meeting and be available to answer shareholder questions
about the audit.

7. Recognize and manage risk. a. The board or appropriate board committee should establish
Establish a sound system of risk policies on risk oversight and management.
oversight and management and b. The chief executive officer (or equivalent) and the chief
internal control. financial officer (or equivalent) should state the board in writing
that:
 The statement given in accordance with best practice
recommendation 4-a (the integrity of financial
statements) is founded on a sound system of risk
management and internal compliance and control which
implements the policies adopted by the board;
 The company's risk management and internal
compliance and control system is operating efficiently in
all material respects.

Principles of Good Corporate Best Practice Recommendations

Governance

8. Encourage enhanced Disclose the process for performance evaluation of the board, its
performance. Fairly review and committees and individual directors, and key executives.
actively encourage enhanced
board and management
effectiveness.

9. Remunerate fairly and a. Provide disclosure in relation to the company's remuneration

responsibly Ensure that the policies to enable investors understand:
level and composition of  The costs and benefits of those policies,
remuneration is sufficient and  The link between remuneration paid to directors and key
reasonable and that its executives and corporate performance.
relationship to corporate and b. The board should establish a remuneration committee.
individual performance is c. Clearly distinguish the structure of non-executive director's
defined. remuneration from that of executives.
d. Ensure that payment of equity-based executive remuneration
is made in accordance with thresholds set in plans approved by
shareholders.

10. Recognize the legitimates of Establish and disclose a code of conduct to guide compliance
stakeholder’s interests of with legal and other obligations to legitimate stakeholders.
stakeholders. Recognize legal
and other obligations to all
legitimate stakeholders.

Corporate Governance and the Board of Directors

The board of directors is the primary direct stakeholder influencing corporate governance.
Directors are elected by shareholders or appointed by other board members, and they represent
shareholders of the company. The board is tasked with making important decisions, such as
corporate officer appointments, executive compensation, and dividend policy. In some instances,
board obligations stretch beyond financial optimization, as when shareholder resolutions call for
certain social or environmental concerns to be prioritized.

Boards are often made up of inside and independent members. Insiders are major
shareholders, founders, and executives. Independent directors do not share the ties of the insiders,
but they are chosen because of their experience managing or directing other large companies.
Independents are considered helpful for governance because they dilute the concentration of
power and help align shareholder interest with those of the insiders.
The board of directors must ensure that the company's corporate governance policies
incorporate the corporate strategy, risk management, accountability, transparency, and ethical
business practices.

Bad Corporate Governance

Bad corporate governance can cast doubt on a company's reliability, integrity, or obligation
to shareholders—all of which can have implications on the firm's financial health. Tolerance or
support of illegal activities can create scandals like the one that rocked Volkswagen AG starting in
September 2015.

The development of the details of "Diesel gate" (as the affair came to be known) revealed
that for years, the automaker had deliberately and systematically rigged engine emission
equipment in its cars in order to manipulate pollution test results, in America and Europe.
Volkswagen saw its stock shed nearly half its value in the days following the start of the scandal,
and its global sales in the first full month following the news fell 4.5%.

Public and government concern about corporate governance tends to wax and wane. Often,
however, highly publicized revelations of corporate malfeasance revive interest in the subject. For
example, corporate governance became a pressing issue in the United States at the turn of the
21st century, after fraudulent practices bankrupted high-profile companies such
as Enron and WorldCom.

It resulted in the 2002 passage of the Sarbanes-Oxley Act, which imposed more stringent
recordkeeping requirements on companies, along with stiff criminal penalties for violating them
and other securities laws. The aim was to restore public confidence in public companies and how
they operate.

Other types of bad governance practices include:

1. Companies do not cooperate sufficiently with auditors or do not select auditors with the
appropriate scale, resulting in the publication of spurious or noncompliant financial documents.
2. Bad executive compensation packages fail to create an optimal incentive for corporate officers.
3. Poorly structured boards make it too difficult for shareholders to oust ineffective incumbents.

Reference:

 Corporate Governance, Business Ethics, Risk Management and Internal Control, 2019-2020
Edition, Ma. Elenita Balata Cabrera and Gilbert Anthony B. Cabrera