Good Corporate
Governance
A moving target?
1
UK Context
• Traditionally, in the UK companies were owned by widely
dispersed individual shareholders
• However, since the 1970s institutional investors have been
taking on larger proportions of ownership
• This has implications on how shareholders interact with
companies
• Can help control agency problems and improve investor
protection, but:
• Can lead to information asymmetry
2
Why are guidelines
needed?
To monitor whether/ensure that
• directors are maximising shareholder returns
• business risk is at a reasonable level
• one or more directors are not dominating the
company
• directors’ remuneration is reasonable
• suitable internal controls exist to ensure that the
companies’ assets are safe-guarded and strategies
are adhered to
• auditors are independent of management
3
Example: The Maxwell Affair (1991)
• Maxwell Communication Corporation and Mirror Group
Newspapers, plus private companies
• Excessive debt
• Fraudulent activities
• £727 million stolen from pension funds and companies’ assets
• £1 billion lost from shareholder value
Corporate Governance problems included:
• Lack of segregation of power (Chief
Executive AND chairman)
• Non-Executive Directors were not
independent
• Audit failure
• Ethics
Repercussions: the Cadbury Report (1992)
4
The Cadbury Report
(1992)
• The Committee on the Financial Aspects of Corporate
Governance (Cadbury Committee) was set up in the
early 1990s in response to several high profile
corporate failures, which had eroded investor
confidence in corporations.
• Further scandals occurred while the committee was
operational – including the scandal relating to Robert
Maxwell’s corporations
5
The Cadbury Report
(1992)
Main recommendations:
• that there be a clear division of responsibilities at the top,
primarily that the position of Chairman of the Board be
separated from that of Chief Executive, or that there be a strong
independent element on the board;
• that the majority of the Board be comprised of outside directors;
• that remuneration committees for Board members be made up
of a majority of non-executive directors; and
• that the Board should appoint an Audit Committee including at
least three non-executive directors.
(http://cadbury.cjbs.archios.info/report)
London Stock Exchange requires listed companies to ‘comply or
explain’
6
Further UK Initiatives
On directors’ remuneration
• The Greenbury Report (1995)
Reviewed, combined and
clarified Cadbuy and
• The Hampel Report (1998) Greenbury Report
Recommendations
• The Turnbull Report (1999) On directors’ obligations, esp.
re internal controls, audits and
the quality of financial
• The Myners Report (2001) reporting
On institutional investors
• The Higgs Report (2003) On role and effectiveness of
NEDs
• The Smith Report (2003) On the independence of auditors
(following the demise of Arthur
Andersen)
• The Combined Code – now the UK Corporate
Governance Code
See section Consolidates and refines the earlier codes and 7
3.4 reports
Example:
ENRON (2001)
• Fraudulent accounting
• Aggressive creative accounting
• Audit firm not independent (and
found guilty of destroying
evidence)
• Unethical, aggressive business
culture
• Chair and CEO found guilty of
fraud and conspiracy (and other
charges)
Repercussions: The Sarbanes-Oxley
Act 2002
(Public Company Accounting Reform
and Investor Protection Act) – see
Session 2.4
8
Sarbanes-Oxley Act (30 July
2002):
• Public Company Accounting Oversight
Board
• Audit committees
• Auditor independence rules
• Non-audit services
International repercussions
9 9
Example: The Financial Crisis
(2007/2008)
Corporate Governance issues:
• Powerful CEOs; lack of duality of roles between CEO and Chair
• Lack of independence and balance on the board
• weak management controls
• Short-termism (performance goals, executive compensation
packages)
• weak ethics codes
• Opaque disclosures
⇢ leading to excessive risk-taking, fraudulent reporting
(Grove and Victoravich, 2012, based on NYSE Commission on
Corporate Governance 2010)
Repercussions: OECD initiatives, EU initiatives, further US Initiatives …
10
Regional and international
models of corporate
governance
• European legislation requires EU listed companies to identify the
Code they are using and adopt a ‘comply or explain’ approach to
corporate governance disclosures.
• But there have been recent doubts about this approach as
‘companies departing from corporate governance codes often
provide no or insufficient explanations’.
• OECD has issued Principles of Corporate Governance in
collaboration with G20 (85% of global GDP and about 75% of
international trade) countries which capture:
• ensuring basis for an effective corporate governance framework
• rights of shareholders and key ownership functions
• institutional investors, stock markets and other intermediaries
• role of stakeholders in corporate governance
• disclosure and transparency
• responsibilities of the board.
For use with The Audit Process. Principles, Practice and Cases, seventh edition by Gray, Manson, Crawford 11
978-1-4737-6018-9 © 2019 Cengage Learning EMEA
Alison Maitland MARCH 11 2015, Financial Times,
12
International (EU) Consultations
and Proposals
• EU Commission Green Paper on Corporate Governance in Europe (2011) -
aimed to improve existing corporate governance mechanisms. Three
chapters:
• boards
• shareholders and Should there be different rules for
companies of different sizes?
• the comply-or-explain principle
Questions addressed (inter alia):
• Size of listed companies (differential regime?)
• Division of roles of CEO and Chair of the board of directors
For how many companies should one
• Recruitment policy individual be allowed to serve as
• Diversity and gender balance NED?
• Number of mandates of NEDs
• Remuneration policy
• Risk management arrangements
• Incentive structures and short-termism
• Employee share ownership
Source:http://ec.europa.eu/internal_market/consultations/2011/corporate-governance-framework_en.htm;
13
see also http://www.iasplus.com/en-gb/news/2014/04/ec-corporate-governance-reporting-shareholder-
Since then: several initiatives, including
• The revised Shareholder Rights Directive (Directive (EU)
2017/828) – deals with
• Transparency in communication with shareholders
• Shareholders’ right to vote on remuneration policies
• Related party transactions
• The revised Directive on Non-Financial Reporting (Directive
2014/95/EU) - requires disclosures on
• environmental protection
• social responsibility and treatment of employees
• respect for human rights
A recurring theme. Do more diverse
• anti-corruption and bribery boards mean better governance?
• diversity on company boards (age, gender, education and
professional background)
• Plus: EU initiatives on auditing See Session 2
14
Example: Carillion
• The board failed to manage risk
• Questionable accounting assumptions and methods (incl. the going-concern
assumption)
• NEDs appear not to have provided effective scrutiny
• Auditor (KPMG) independence and competition in the audit market
• The internal audit (which was outsourced to Deloitte) was ineffective
• Ineffective regulation? The regulator did not intervene in disputes relating to pension
obligations
• Executive remuneration
• Directors failed to act to prevent failure
recommends that the FRC should be
Repercussions: replaced
• Kingman Review 2018 (Independent Review of the Financial Reporting Council)
• Brydon Review into the quality and effectiveness of
• Revision to the UK Corporateaudit
Governance Code (resulting in the 2018 version)
see section
15
3.4
16
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