322ECN Corporate Governance, Reporting and Regulation

Corporate Governance in practice the UK experience

Autumn Term 2011

Lecture 4

Introduction
It is difficult to reconcile conflicting objectives of directors, managers, shareholders, creditors etc. Asymmetric information creates problems Incentives vary between different stakeholders Leaving corporate governance to the market may be problematic and less than optimal So policy makers in all countries tend to intervene to establish a framework for good governance Frameworks can take many forms Introduction and changes often in response to perceived failures

Autumn Term 2011

Lecture 4

Aim and Objectives

Analyse the early attempts at corporate governance reform in the UK
Discuss the reasons for intervention Assess the rationale for the Cadbury committee Discuss the reforms suggested by this committee Assess further developments in corporate governance policy

Autumn Term 2011

Lecture 4

It started with Maxwell...

Collapse of the Maxwell empire in 1991 Greatest fraud of the 20th century? Debt build up over many years in two companies Maxwell Communications and Mirror Group Newspapers Maxwell stole 727m from pension funds of the 2 public companies to finance debt and other activities Corporate governance issues Combined role of Chairman and CEO Role of non executives Role of auditors DTI report in 1969 he is not...a person who can be relied on to exercise proper stewardship of a publicly quoted company

Autumn Term 2011

Lecture 4

The Cadbury Report (1992)

Maxwell resulted in establishment of the Cadbury Committee Based on premise that UK corporate governance was fundamentally sound No remit to make major changes to board structures etc Published Code of Best Practice - end of 1992 Not legally binding but requirement to comply or explain to meet stock exchange listing requirements Focus of report on: Board of directors Auditing Shareholders

Autumn Term 2011

Lecture 4

Key points of the Code

More use of independent non-executive directors minimum of 3 non executives with majority of them being independent Chairman/Chief executive role split Introduction of an audit committee Remuneration committee formed Nomination committee formed to propose new board members all committees should have majority of nonexecutives
Autumn Term 2011 Lecture 4

The Greenbury Report (1995)

Increased media attention on fat cats British Gas case of 195 Small shareholders unease was not reflected Greenbury suggested that: All members of remuneration committee should be independent Chairman of this committee should respond to shareholder questions at AGM Details on named director rewards in report and accounts Directors contracts last no more than one year Share option schemes should be linked to long term share price performance

Autumn Term 2011

Lecture 4

The Hampel Report (1998)

Follow up to Cadbury and Greenbury Former chairman of ICI Focus on areas contained in both earlier reports Emphasis on avoiding a prescriptive approach Principles based, voluntary Avoid box-ticking ...a boards first responsibility to enhance the prosperity of the business over time Board is accountable to shareholders no responsibility to other stakeholder groups No case for alternatives to the unitary board Self regulation is to be preferred no need for legislation Criticised by some as being too favourable to directors Three reports consolidated into the Combined Code All three established by City of London institutions Stock Exchange, accountancy profession

Autumn Term 2011

Lecture 4

The Turnbull Report (1999)

Combined Code required Directors to review and report on effectiveness of internal control systems Followed up by Turnbull Committee
Created a framework against which internal controls could be evaluated
Enterprise risk analysis Risk management

Autumn Term 2011

Lecture 4

The Higgs Report (2003)

Established by Labour Government post Enron and Parmalat Derek Higgs was a former merchant banker and a local lad At least half of board should be independent non-executive All members of audit and remuneration and majority of nomination should be independent non-executives Role of Chairman and CEO should always be split Director recruitment should be rigorous, formal and transparent Executive directors should not hold more than one other nonexecutive role of a FTSE 100 company Board performance evaluation annually Senior independent director to liaise with shareholders

Autumn Term 2011

Lecture 4

What was left out of Higgs...

Ban on Chief Executives moving on to be Chairman of their own company Ban on Chairman heading up nomination committee Ban on anyone being Chairman of more than one FTSE 100 company Call for regular meetings between senior independent director and shareholders
Autumn Term 2011 Lecture 4

The Smith Report (2003)

Looked at role of audit committee in light of Enron and Parmalat Stronger role for this committee All members should be independent At least one should have significant, recent and relevant financial experience Committee should recommend selection of external auditor Audit committee report should be included in Report and Accounts Committee Chairman should answer questions at AGM
Autumn Term 2011 Lecture 4

The Tyson Report (2003)

Focus on composition and skills of the board More professionalism and transparency needed Introduction of director induction and training Need for wider catchment area for outside directors Wider diversity could improve relations with other stakeholders
Introduces stakeholder theory!

Autumn Term 2011

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Conclusions
Combined Code redrafted in 2003 Subtle changes to Higgs original recommendations Focus on director remuneration Focus on shareholder activism Further small changes made to the Code in 2008 following lengthy consultation starting in 2006 Basic principle of comply or explain has remained But then....

Autumn Term 2011

Lecture 4

For Next Week...

Please look at the presentation on comply or explain by Peter Butler (Chairman of Governance for Owners) that I have uploaded to Moodle If you have time (!) you should also take a look at the paper by Arcot, Bruno and Faure-Grimaud which attempts to assess the effectiveness of comply or explain in a more rigorous way at least read the introduction!
Autumn Term 2011 Lecture 4