Corporate Governance & Board of Directors

FAMILY NAME …………GERRY……………..

FIRST NAME ……………NIALL…………….

REG NO ……………1302745………………..

ESSEX BUSINESS SCHOOL

COVER SHEET

               BE139 Corporate Governance

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WORD COUNT: 2185

The topic of this essay is corporate governance, with the underlying theme being the board of directors. The purpose of this essay is to critically analyse how corporate governance through the mechanism of board of directors can enhance shareholder wealth, encourage financial growth and along with long-term stability both in terms of financial results and organisational practice. Firstly, this essay explores the functions of board of directors, and in doing so how these characteristics directly correlate to enhanced shareholder value. Attention will then turn to the role of executives, and how by separation of management and governance shareholders can be the eventual beneficiary. This essay will then demonstrate with empirical evidence how the independence of outside directors relates to enhanced shareholder value through the means of instituting effective corporate governance practices. Examples of commonly found corporate governance initiatives which improve the effectiveness of board of directors is then demonstrated. Lastly, an exploration into the roles and effectiveness of boards and their various committees in corporate governance – citing theoretical and academic approaches.

According to (Baysinger & Butler, 1985) economic theory advocates that board of directors is an important mechanism in the governance of large corporations. At the same time as (Eisenberg, 1997) suggests that the overall task of the board of directors is charged with the management of the corporation’s business activities. A view which is shared by many as (Blair & Stout, 2001) pronounces that the board of directors “ought to be accountable only for maximizing the value of the shareholders’ shares” (Blair & Stout, 2001, p. 404). Both the enormous commercial authority board of directors possess through the sizable corporate law and codes that the board must adhere to and the responsibility of enhancing shareholder wealth carries enormous responsibility and accountability. It is important that as a business grows that it does not lose sight of their enterprise goals. Commonly when corporations grow the governance structure must adjust accordingly to strike a balance between management and shareholders.

For those large organisations which have thousands if not millions of shareholders, it is in the simplicity of which you can untangle the roles and functions of boards that you can begin to create an organisation with focus, singularity and drive towards shareholder value whilst still driving innovation. One of the defining factors between management and governance is that the latter must not just focus solely on performance, but also conformance. Similarly board of directors look at the past, not just the present and future. It is also that the governance of a firm must have an outward-looking perspective, too. Though short-term financial results are undoubtedly important to shareholders – consistently and growth over the years to come should not be overlooked – nor taken lightly.  A board of directors that becomes too entangled in the specifics of the day-to-day running of business somewhat loses its focus – and this is when a blurred line between management and governance becomes apparent. (Tricker, 2012) describes the functions of the board of directors in a way that demonstrates clear understanding for the end goal – value maximisation for shareholders. The outward-looking, future focused function of the board is strategy formulation. This can only be achieved by engaging with top management, looking at the external environment of the business and adjusting accordingly. A strategy alone however doesn’t provide specific detail into reaching these goals, and therefore policies must be developed as the strategy trickles down the hierarchy from top-to-bottom. Board of directors are tasked with formulating a strategy which best suits the goals of shareholder who have invested capital into the business, and repackaging this into a comprehensible fashion for management to execute. Research by (Berman, et al., 1999) suggests that when a firm’s strategy is closely aligned throughout the different levels of the organisational hierarchy, profits, both in terms of gross and margin improve – therefore stimulating an increase in shareholder wealth. When interviewing 51 directors of UK public companies, (Stiles & Taylor, 2001) found that 32 directors (62%) believed that involvement in strategy was board of director’s main role in the company.

Accountability is an outward-looking perspective which considers the past and present of the organisation. This function involves reflection, a time for the board of directors along with other forms of corporate governance to take a look into the corporate activities undertaken and to critically analyse their performance in a way that enhances shareholder wealth and also those stakeholders with a legitimate claim to the business. A report into recent corporate governance reforms in the UK demonstrates that by increasing the level of accountability of board of directors and also top management executives, an extra layer of shareholder protection is added against deviations away from standard to risky business practices which do not align with shareholders aims (Williamson, et al., 2014) The Cadbury Report, published in 1992 supports the framework demonstrated by (Tricker, 2012), stating that the responsibilities of the board include “setting the company’s strategic aims, providing the leadership to put them in effect, supervising the management and reporting to shareholders on their stewardship” (Cadbury, 1992, p. 14).

Much of the empirical evidence into the separation between governance and management leads to results centred around financial performance of those firms with separate titles. This research becomes increasingly relevant when discussing the mechanisms for increasing shareholder wealth through the characteristics of board of directors. According to MSCI GMI Ratings almost three-quarters of publicly owned companies in the Fortune 500^[1] had combined CEO and chairman roles. Some 60 companies that had separated the role had installed the former CEO as chairman whilst only 34 companies had a fully independent chairman (Hodgson, 2014). Benjamin Rosen, then chairman of Compaq Computer discussed this issue by saying that when the CEO is also chairman, the management of the firm has de facto control [over business activities] (USA Today, 1993). Separating the roles of chairman and chief executive is one of the simplest, yet effective ways of reducing agency problems that may exist within an organisation.