Lecture01 introduction part_1_ed_ned_board_structure_37p

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UBML3033 CORPORATE GOVERNANCE

Week 1:Week 1:Topic 1: Introduction? (Part Topic 1: Introduction? (Part 1)1)

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TopicsTopics

1.1. The structure of corporationsThe structure of corporations

2.2. Relationship between shareholders Relationship between shareholders and BODand BOD

3.3. Corporate officersCorporate officers

4.4. Concept of ownership and controlConcept of ownership and control

5.5. Definition of CG and sound CGDefinition of CG and sound CG

6.6. Importance of CG to PLCsImportance of CG to PLCs

7.7. Issues of CGIssues of CG

8.8. Benefits of sound CGBenefits of sound CG

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Learning OutcomesLearning Outcomes Show an understanding of the concepts of Show an understanding of the concepts of

ownership and accountabilityownership and accountability

Describe the relationship between Describe the relationship between shareholders and BODshareholders and BOD

Describe categories of shareholders and Describe categories of shareholders and corporate officerscorporate officers

Define CG and sound CGDefine CG and sound CG

Explain the benefits of sound CGExplain the benefits of sound CG

Describe key issues in CGDescribe key issues in CG

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TheThe Structure of Corporations Structure of Corporations

Areas of coverage:Areas of coverage: Definition of a companyDefinition of a company

Types of companyTypes of company

Ownership and controlOwnership and control

Shareholders and board of directorsShareholders and board of directors

Corporate OfficersCorporate Officers

Board structuresBoard structures

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TheThe Structure of Corporations Structure of Corporations What is a company?

- Has “legal personality” or often described as an “artificial person”

- Able to enter into contracts and make biz transactions, borrowings and own assets

- Can sue and be sued in law

- Perpetual succession

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The Structure of CorporationsThe Structure of Corporations

Basic types of companies:Basic types of companies:1. 1. Statutory companiesStatutory companies

e.g. Petronas, SOCSO, EPFe.g. Petronas, SOCSO, EPF

2. 2. Registered companiesRegistered companiese.g. public and privatee.g. public and private

companiescompanies

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Continued …Continued …

a. Private companies a. Private companies - - very popularvery popular

- do not require public funding- do not require public funding

- owners have full control- owners have full control

- usually operated by family members- usually operated by family members

- small to medium size businesses- small to medium size businesses

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Continued …Continued …

b. Public listed companies (PLCs)b. Public listed companies (PLCs) - large biz listed in Stock Exchange- large biz listed in Stock Exchange

- require public funding- require public funding- tend to invite the public to invest- tend to invite the public to invest

money with it (IPO)money with it (IPO)- regulated by various Acts and- regulated by various Acts and

government bodiesgovernment bodies

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Public listed companies (PLCs)Public listed companies (PLCs) are are modelled after Anglo-Saxon companies modelled after Anglo-Saxon companies

origin is from the UK (Anglo-Saxon)origin is from the UK (Anglo-Saxon) objective is to maximise shareholder’s objective is to maximise shareholder’s

wealth onlywealth only board structure is unitaryboard structure is unitary shareholdings are dispersedshareholdings are dispersed

Maxis Bhd. had 68,010 shareholders Maxis Bhd. had 68,010 shareholders representing 88.46% of total shareholders representing 88.46% of total shareholders and 4% of issued shares (as at 19/4/10)and 4% of issued shares (as at 19/4/10)

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The StructureThe Structure of of CorporationsCorporations

Who owns PLCs?Who owns PLCs?- Members – equity shareholdersMembers – equity shareholders

Who manages PLCs?Who manages PLCs?- DirectorsDirectors } } Make decisions & planMake decisions & plan- Managers Managers } } Arrange & coordinateArrange & coordinate- ExecutivesExecutives } } Execute transactionsExecute transactions

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Shareholders - Shareholders - CategoriesCategories

SHAREHOLDERSLARGE PRIVATE SHAREHOLDERS

SMALL PRIVATE SHAREHOLDERS

INSTITUIONALSHAREHOLDERS

CORPORATESHAREHOLDERS

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Shareholders - Shareholders - CategoriesCategories

PrivatePrivate Individual shareholders in a companyIndividual shareholders in a company Usually, holds a small quantities of shares and Usually, holds a small quantities of shares and

have very little communication with the have very little communication with the companycompany

Can also hold a large quantity of shares e.g. Tan Can also hold a large quantity of shares e.g. Tan Sri Dato Sri Dr Teh Hong Piow – Public Bank Sri Dato Sri Dr Teh Hong Piow – Public Bank BhdBhd

CorporateCorporate Shareholders in a company that are themselves Shareholders in a company that are themselves

companiescompanies As legal persons, companies may own shares in As legal persons, companies may own shares in

other companiesother companies

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Continued … CategoriesContinued … Categories Institutional ShareholdersInstitutional Shareholders

Institutions holding shares of PLCs e.g. EPF, SOCSO, Institutions holding shares of PLCs e.g. EPF, SOCSO, PNB, Insurance & Unit Trust companiesPNB, Insurance & Unit Trust companies

Majority – in terms of shareholdingMajority – in terms of shareholding A shareholder holding a majority of the equity / ordinary A shareholder holding a majority of the equity / ordinary

shares in a company i.e. owns 50% + 1 shareshares in a company i.e. owns 50% + 1 share Has controlling interest in the company e.g. has the voting Has controlling interest in the company e.g. has the voting

power to remove directors from the BOD – can control the power to remove directors from the BOD – can control the board. board.

Minority – in terms of shareholdingMinority – in terms of shareholding Shareholders whose combined shareholdings are not Shareholders whose combined shareholdings are not

enough to affect resolutions by the company in AGM i.e. enough to affect resolutions by the company in AGM i.e. own own < 5% shares< 5% shares

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Corporate OfficersCorporate Officers ChairmanChairman

Leader of the BODLeader of the BOD Often referred to as the ‘company chairman” Often referred to as the ‘company chairman” Responsible for the functioning of the boardResponsible for the functioning of the board Preferred - a non-executive directorPreferred - a non-executive director

Chief Executive OfficerChief Executive Officer / Managing Director/ Managing Director The head of executive management team in an The head of executive management team in an

organisationorganisation Most powerful ‘officer’ of a companyMost powerful ‘officer’ of a company

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Corporate OfficersCorporate Officers Board of DirectorsBoard of Directors

The collective group of individuals The collective group of individuals elected by the shareholders of a elected by the shareholders of a corporation to oversee the corporation to oversee the management of the corporation. management of the corporation.

Executive DirectorExecutive Director A director who also has A director who also has

responsibilities as an executive responsibilities as an executive manager – a member of top manager – a member of top management teammanagement teame.g. Marketing Director, Finance e.g. Marketing Director, Finance Director, Operations DirectorDirector, Operations Director

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Corporate OfficersCorporate Officers Non Executive Director (NED)Non Executive Director (NED)

A director who does not have any responsibilities for A director who does not have any responsibilities for executive management in the company executive management in the company

Independent Non Executive Director (INED)Independent Non Executive Director (INED) A director who does not have any responsibilities for A director who does not have any responsibilities for

executive management in the company executive management in the company Also independent from personal and biz relationship Also independent from personal and biz relationship

with the company or its officerswith the company or its officers Functioning as watchdogs for shareholdersFunctioning as watchdogs for shareholders

Non Independent Non Executive Director (NINED)Non Independent Non Executive Director (NINED) A director who does not have any responsibilities for A director who does not have any responsibilities for

executive management in the companyexecutive management in the company But, the director has personal or biz relationship with But, the director has personal or biz relationship with

the company or its officersthe company or its officers

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NEDs’ Sub-Categories NEDs’ Sub-Categories

NON-EXECUTIVE DIRECTORS (NEDs)

NONINDEPENDENT NON-EXECUTIVE

DIRECTORS (NINEDs)

INDEPENDENT NON-EXECUTIVE

DIRECTORS (INEDs)

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Who has the power?Who has the power?- Members – limited to voting rightsMembers – limited to voting rights- Board of directors – POWERFULBoard of directors – POWERFUL

Why members have limited power?Why members have limited power?-- Separation of ownership and controlSeparation of ownership and control

The Structure of The Structure of CorporationsCorporations

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Separation of ownership and controlSeparation of ownership and control- Ownership Ownership shareholders – provide shareholders – provide

capital but do not manage daily capital but do not manage daily operationsoperations

- Control Control board of directors (BOD) – board of directors (BOD) – makes decisions and controls operationsmakes decisions and controls operations

- Shareholders delegate power and Shareholders delegate power and authority to BODauthority to BOD


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Delegation of power and authorityDelegation of power and authority

BOARD OF DIRECTORS(LED BY CHAIRMAN)

BOARD COMMITTEES

TOP/EXECUTIVE MANAGEMENT (LED BY CEO/MD/PRESIDENT)

SHAREHOLDERS

DELEGATE

DELEGATE

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Delegation of power and authority Delegation of power and authority and controland control- Ownership and control separated Ownership and control separated

shareholders (disperse) delegate power shareholders (disperse) delegate power and authority to BOD; andand authority to BOD; and

- BOD unable to manage daily ops BOD unable to manage daily ops delegates some decision making power delegates some decision making power to management teamto management team


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Board structures:Board structures:1. Unitary or one-tier (combine the1. Unitary or one-tier (combine the

management and supervisory management and supervisory functions) functions)

e.g. UK, US, Malaysiae.g. UK, US, Malaysia

2. Two-tier:2. Two-tier:a. Management boarda. Management boardb. Supervisory boardb. Supervisory boarde.g. Germany, Francee.g. Germany, France

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Board StructuresBoard Structures

1. Unitary or one-tier 1. Unitary or one-tier A single decision-making bodyA single decision-making body

Makes all the decisions of the company Makes all the decisions of the company

Consists of both executive and non-Consists of both executive and non-executive directorsexecutive directors

Check and balance – by non-executive Check and balance – by non-executive directorsdirectors

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Board Structures … con’tBoard Structures … con’t2.2. Two-tier board:Two-tier board:

Management boardManagement board- - comprises of executive directorscomprises of executive directors- makes decisions about KEY operational matters - makes decisions about KEY operational matters - led by the CEO/MD- led by the CEO/MD- accountable to supervisory board- accountable to supervisory board

Supervisory boardSupervisory board - monitors the management board- monitors the management board - makes strategic and non-operational decisions - makes strategic and non-operational decisions

- its chairman is also the chairman of the - its chairman is also the chairman of the companycompany

- all members are non-executive directors- all members are non-executive directors

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Defining Corporate Defining Corporate GovernanceGovernance

No standard definitionsNo standard definitions Refers to the way companies are Refers to the way companies are

governedgoverned Concerns with:Concerns with:

- Practices and procedures to achieve Practices and procedures to achieve objectivesobjectives

- Check and balances to minimise abuse of Check and balances to minimise abuse of power and fair treatmentpower and fair treatment

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Definition … con’tDefinition … con’t

General definition:General definition:11. . GovernanceGovernance refers to the way in which refers to the way in which

an entity or body of people is an entity or body of people is governed governed and to the functions of and to the functions of governing governing

E.g. governance of a countryE.g. governance of a country

2. 2. Corporate governanceCorporate governance refers to ‘the refers to ‘the way a corporation is directed and way a corporation is directed and

controlled to maximise shareholders controlled to maximise shareholders value.’ (Cadbury, 1992) – generally value.’ (Cadbury, 1992) – generally accepted definitionaccepted definition

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Definition … con’tDefinition … con’t

MCCG’s definition:MCCG’s definition:

““... as the ... as the process and structureprocess and structure used to used to direct and manage business and affairs direct and manage business and affairs of the company towards enhancing of the company towards enhancing business prosperity and corporate business prosperity and corporate accountability with the ultimate objective accountability with the ultimate objective of of realising long term shareholder valuerealising long term shareholder value, , whilst taking into account the interests of whilst taking into account the interests of other other stakeholdersstakeholders””

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Definition … con’tDefinition … con’t Our preferred explanation:Our preferred explanation:- To describe the way corporations should be run To describe the way corporations should be run

in accordance with legal framework, rules and in accordance with legal framework, rules and regulationsregulations Purpose: to ensure proper compliance of lawsPurpose: to ensure proper compliance of laws

- The sharing and balancing of powers between The sharing and balancing of powers between BOD and shareholdersBOD and shareholdersPurpose: to maximise shareholders’ value by Purpose: to maximise shareholders’ value by taking into account other stakeholders’ taking into account other stakeholders’ interestsinterests

- Therefore, CG = system or processes by which a Therefore, CG = system or processes by which a company is directed and controlledcompany is directed and controlledUltimate objective: to protect interests of Ultimate objective: to protect interests of shareholdersshareholders

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What is sound CG ?What is sound CG ? Indicates mechanisms put in place by which Indicates mechanisms put in place by which

the owners and management have the the owners and management have the ability to carry out their responsibilities and ability to carry out their responsibilities and duties diligently duties diligently

OROR

Robust monitoring / oversight mechanisms Robust monitoring / oversight mechanisms put in place within and outside an put in place within and outside an organisation in order to ensure that organisation in order to ensure that shareholders’ wealth maximisation objective shareholders’ wealth maximisation objective is always pursued / protectedis always pursued / protected

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Oversight mechanismsOversight mechanisms

Oversight mechanisms are legal and Oversight mechanisms are legal and regulatory framework, BOD, audit regulatory framework, BOD, audit committee, remuneration committee, committee, remuneration committee, external auditors, internal control and risk external auditors, internal control and risk management systems and shareholdersmanagement systems and shareholders

Purpose: to monitor the exercise of power Purpose: to monitor the exercise of power and authority by BOD and management and authority by BOD and management teamteam

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More important in PLCs than small private co’sMore important in PLCs than small private co’s

Why?Why? Small private co’s Small private co’s director = shareholders director = shareholders Investors need to know that their money is safe Investors need to know that their money is safe Poor management Poor management value of investment may value of investment may

drop & difficult to raise additional capitaldrop & difficult to raise additional capital Capital market unable to attract foreign Capital market unable to attract foreign

investment – illiquid marketinvestment – illiquid market

The Importance of CGThe Importance of CG

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The benefits of sound CGThe benefits of sound CG Improves company’s performanceImproves company’s performance

-- better mgmt and prudent allocation of better mgmt and prudent allocation of resourcesresourcesEmpirical evidence:Empirical evidence:Studies conducted by Credit Lyonnais Studies conducted by Credit Lyonnais Securities Asia (CLSA) on CG in emerging Securities Asia (CLSA) on CG in emerging markets in 2001 found a strong correlation markets in 2001 found a strong correlation between higher CG rankings and superior between higher CG rankings and superior financial ratios, higher valuations and financial ratios, higher valuations and medium-term performancemedium-term performance- - Critic:Critic: Not easily verifiable due to the use of Not easily verifiable due to the use of many different accounting ratios – can be many different accounting ratios – can be manipulatedmanipulated

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Enhances investor’s and market’s Enhances investor’s and market’s confidenceconfidence E.g. PWC / KLSE study in 2001 and Nottingham U E.g. PWC / KLSE study in 2001 and Nottingham U & MSWG study 2005 and 2006& MSWG study 2005 and 2006

Important factor for investment decisionsImportant factor for investment decisions- investors place a CG premium on the amount - investors place a CG premium on the amount they are willing to pay for the sharethey are willing to pay for the share

Empirical evidence:Empirical evidence:McKinsey & Co’s Investor Opinion Survey on CG McKinsey & Co’s Investor Opinion Survey on CG (1999 to 2000)discovered that respondents (1999 to 2000)discovered that respondents placed great importance on board practices. Also placed great importance on board practices. Also willing to pay more for shares of well-governed willing to pay more for shares of well-governed companiescompanies

The benefits of sound CGThe benefits of sound CG

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Enhance the confident of suppliers and Enhance the confident of suppliers and lenders like financial institutionslenders like financial institutions

Attract the talent to join the companyAttract the talent to join the company

Gain support from the consumersGain support from the consumers

Improve the company imageImprove the company image

Better relationship with authorityBetter relationship with authority

The benefits of sound CGThe benefits of sound CG

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Issues of CGIssues of CG Principal-Agent problemPrincipal-Agent problem

- - Separation of ownership and Separation of ownership and management, management, conflicts of interestconflicts of interest

Financial disclosures and Financial disclosures and accountabilityaccountability- Creative accounting, ‘window dressing’- Creative accounting, ‘window dressing’

Directors’ remunerationDirectors’ remuneration- Luxurious perks and benefits- Luxurious perks and benefits

Decision making powersDecision making powers- Persons empowered to pursue - Persons empowered to pursue

shareholders’ interestshareholders’ interest

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Issues of CG Issues of CG (cont’d)(cont’d)

Balancing the needs of corporationBalancing the needs of corporation

- - Shareholders and stakeholdersShareholders and stakeholders Poor information and Poor information and

communicationcommunication

-- Between directors and shareholdersBetween directors and shareholders

- Timeliness and accuracy of annual and - Timeliness and accuracy of annual and financial reportsfinancial reports

CG legislation and regulatorsCG legislation and regulators

- Company law, Listing Requirements, - Company law, Listing Requirements, Securities Commission, CCMSecurities Commission, CCM

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Issues of CG Issues of CG (cont’d)(cont’d)

Excessive business risk taking and Excessive business risk taking and lack of risk controllack of risk control

- - Investing without due regard on risks Investing without due regard on risks involvedinvolved

- Lack of proper risk management and - Lack of proper risk management and internal controlinternal control

Business

Lecture01 introduction part_1_ed_ned_board_structure_37p