Corporate Government and Ethics

Corporate governance is the system by which companies are directed and controlled. It involves a set of relationships between a companys management, its board, its shareholders and other stakeholders; it deals with prevention or mitigation of the conflict of interests of stakeholders. Ways of mitigating or preventing these conflicts of interests include the processes, customs, policies, laws, and institutions which have impact on the way a company is controlled. An important theme of corporate governance is the nature and extent of accountability of people in the business, and mechanisms that try to decrease the principal agent problem. Corporate governance also includes the relationships among the many stakeholders involved and the goals for which the corporation is governed. In contemporary business corporations, the main external stakeholder groups are shareholders, debtholders, trade creditors, suppliers, customers and communities affected by the corporation's activities. Internal stakeholders are the board of directors, executives, and other employees. It guarantees that an enterprise is directed and controlled in a responsible, professional, and transparent manner with the purpose of safeguarding its long-term success. It is intended to increase the confidence of shareholders and capital-market investors.

Three internal governance mechanisms and a single external one are used in the modern corporation: Ownership concentration; the board of directors; Executive compensation

Separation of Corporate Governance System Supporting the separation is a basic legal premise suggesting that the primary objective of a firms activities is to increase the corporations profit, thereby, the financial gains of the owners. The separation of ownership and managerial control allows shareholders to purchase stock, which entitles them to income from the firms operations after paying expenses. The poor performance or failure of any one firm in which they invest has less overall effect on the value of the entire portfolio of investments. Thus shareholders specialize in managing their investment risk. Shareholder value is reflected by the price of the firms stock.

Principles Of Corporate Governance The Sarbanes-Oxley Act, informally referred to as Sarbox or Sox, is an attempt by the federal government in the United States to legislate several of the principles recommended in the Cadbury and OECD reports.

Rights and equitable treatment of shareholders: Organizations should respect the rights of shareholders and help shareholders to exercise those rights. They can help shareholders exercise their rights by openly and effectively communicating information and by encouraging shareholders to participate in general meetings.

Interests of other stakeholders: Organizations should recognize that they have legal, contractual, social, and market driven obligations to non-shareholder stakeholders, including employees, investors, creditors, suppliers, local communities, customers, and policy makers.

Role and responsibilities of the board: The board needs sufficient relevant skills and understanding to review and challenge management performance. It also needs adequate size and appropriate levels of independence and commitment

Integrity and ethical behavior: Integrity should be a fundamental requirement in choosing corporate officers and board members. Organizations should develop a code of conduct for their directors and executives that promotes ethical and responsible decision making.

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Disclosure and transparency: Organizations should clarify and make publicly known the roles and responsibilities of board and management to provide stakeholders with a level of accountability. They should also implement procedures to independently verify and safeguard the integrity of the company's financial reporting. Disclosure of material matters concerning the organization should be timely and balanced to ensure that all

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investors have access to clear, factual information. Managerial Opportunism is the seeking of self-interest with guile. Opportunism is both an attitude and a set of behaviors. Product diversification can result in two benefits to managers that shareholders dont enjoy, so top level managers may prefer product diversification more than shareholders do.

1. Diversification usually increases the size of a firm, and size is positively related to executive compensation
2. Product diversification and the resulting diversification of the firms portfolio of

businesses can reduce top-level managers employment risk 3. Firm free cash flows over which top-level managers have control. In generals, shareholders prefer riskier strategies and more focused diversification. Therefore, product diversification is a potential agency problem that could result in principal incurring costs to control their agents behaviors. Agency costs are the sum incentive costs, monitoring costs, enforcement costs, and individual financial losses incurred by principals because governance mechanisms cannot guarantee total compliance by the agent. Managerial interests may prevail when governance mechanisms are weak.

Ownership Concentration Both the number of large-block shareholders and the total percentage of shares they own define ownership concentration. Large-block shareholders typically own at least 5% of a corporations issued shares. Diffuse ownership (a large number of shareholders with small holdings and few, if any, large-block shareholders) produces weak monitoring of managers decisions. High degrees of ownership concentration, the profitability is greater than managers strategic decisions will be designed to maximize shareholder value. The change occurred primarily because growth prevented founders-owners from maintaining their dual positions in their increasingly complex companies. Institutional owners are financial institutions such as stock mutual funds and pension funds that control large-block positions. Institutional owners have both the size and incentive to discipline ineffective top-level managers, can significantly influences firms choice of strategies and strategic decisions.

Board of Directors However, over time, boards of directors have not been highly effective in monitoring and controlling top managements actions. Board of directors is a group of elected individuals whose primary responsibility is to act in the owners interests by formally monitoring and controlling the corporations top-level managers. They have power to direct the affairs of the organization, punish, and reward managers, and protect shareholders rights and interests.

For greater accountability and improved performance, many boards have initiated voluntary changes, such as: (1) Increases in the diversity of the backgrounds of board members, (2) The strengthening of internal management and accounting control systems, (3) The establishment and consistent use of formal processes to evaluate the boards performance. Additional changes include : (4) The creation of a lead director role that has strong powers with regard to the board agenda and oversight of non-management board member activities, (5) Modification of the compensation of directors, especially reducing or eliminating stock options as a part of the package. Executive compensation is a governance mechanism that seeks to align the interests of managers and owners through salaries, bonuses, and long-term incentive compensation, such as stock awards and options, and it is complicated for several reasons. Governance Mechanism and Ethical Behavior The governance mechanisms are designed to ensure that the agents of the firms owners make strategic decisions that best serve the interest of the entire group of shareholders. Ethical Governance presents us with a great opportunity to differentiate from the competition in the market - to add value. A company which is known to be secure and run on ethical principles will be more trusted by customers, shareholders and investors, and it will be more successful than those less ethical companies. In summary, by operating with a social conscience, the ethical leader does not just build confidence and loyalty with staff, but builds goodwill in the market, community and society at large. Ethical Leadership is not without its challenges. For instance, ethics are often highly personal. Nor can Ethical Leadership be instilled in an organization or corporation overnight. Ethical Leadership requires habit, and it requires proper regulations. Education and communication must be further enhanced, Ethical issues must find and gain support in the work place and also in the society, and finally there must be proper motivation and recognitions given for those wishing to pursue Ethics.

BUSINESS STRATEGY
Resume Chapter 10

Created by:

Brago Adijaya P

29111138

Class : 45C

Facilitator: Harimukti Wandebori

PROGRAM STUDI MAGISTER OF BUSINESS ADMINISTRATION FAKULTAS SEKOLAH BISNIS ADMINISTRASI INSTITUT TEKNOLOGI BANDUNG

BANDUNG 2012