CORPORATE GOVERNANCE

4.0 INTRODUCTION
In most companies organizational effectiveness is a result of good corporate governance. Today, most organizations
are using accountability, transparency and ethical behaviour as benchmarks for good corporate governance. The
concept of corporate governance mostly covers the system of principles and policies used to overcome the conflicts
of interest between different groups of stakeholders of a corporate firm. Good corporate governance is the key to
improving economic efficiency, enhancing the attraction of our market and investors’ confidence, as well as
maintaining the stability of the financial system.

This section will review the meaning of corporate governance, and its purpose in society; and address some of the
critical issues and challenges faced by corporate boards and top managers.

4.2 MEANING OF CORPORATE GOVERNANCE

1. Collins Shorter Dictionary of English defines governance as “the act of governing,” by the board of directors.
However, top management is also clearly involved. Thus, while top management is concerned with the day-to-day
running of the corporation’s activities, governance is concerned with the full and effective control of the company;
on behalf of stakeholders i.e. shareholders, customers, suppliers, banks and creditors, etc. In short, the difference
between governance and management is that “governance” describes what boards do, while “management”
describes what managers do.

2.The World Bank defines “Corporate Governance” as follows:

“Corporate Governance refers to that blend of law, regulation and appropriate voluntary private sector
practices which enable the corporation to attract financial and human capital, perform efficiently, and thereby
perpetuate itself by generating long-term economic value for its shareholders; and, directors capable of
independently approving the corporation’s strategy and major business plans and decisions, and of
independently hiring management, monitoring management’s performance and integrity, and replacing
management when necessary.”
For example, there are limitations on joint stock companies whose business is maintaining shareholder’s registers of
other companies. These enterprises may not hold more than a 10% stake in the Charter capital of a joint stock
company which maintains their registers.

2 A fuller definition of “Corporate Governance” taken from the Revised Text, 2004, of the OECD Principles of
Corporate Governance1 is as follows:

“Corporate Governance involves a set of relationships between a company’s management, its board, its

1
Revised edition: Paris, OECD, 2004 p11
 shareholders and other stakeholders. Corporate governance also provides the structure through which the
objectives of the company are set, and the means of attaining those objectives and monitoring performance are
determined. Good corporate governance should provide proper incentives for the board and management to
pursue objectives that are in the interest of the company and its shareholders and should facilitate effective
monitoring.”

4. The Reserve Bank of Zimbabwe (RBZ) Bank Licensing, Supervision and Surveillance, Guideline No 01-
2004/BSD defines Corporate Governance as:

“Processes and structures used to direct and manage the business and affairs of an institution with the objective
of ensuring its safety and soundness and enhancing shareholder value. The process and structure define the
division of power and establish mechanisms for achieving accountability between board of directors,
management and shareholders, while protecting the interests of depositors and taking into account the effects on
other stakeholders, such as creditors, employees, customers and the community.”

4.3 PURPOSE OF CORPORATE GOVERNANCE

1. The main purpose of corporate governance is to ensure that executive directors or those managing the affairs
of the organization act in the interest of all stakeholders. In other words, corporate governance acts as a
watchdog of shareholders’ interests and assets, so that they are protected from the company foes.
2. Pavlicevic (1998:26), holds that, the work of governance includes:
 Giving direction to the organization
 Deciding how the organization will be managed
 Holding the final authority and responsibility for the organization
 Planning on how to get and allocate scarce resources
 Being the last court of appeal or decision-making body when management reaches a deadlock.
3. ” According to IFC and OECD, good corporate governance can contribute toward operational performance
and access to/cost of capital. “Improving governance yields positive real returns
4. Good governance is the key to improving economic efficiency, enhancing the attraction of the market and
investors’ confidence, as well as maintaining the stability of the financial system. This is achieved though:
 Protection of shareholders rights
 Enhancement of transparency and measures to combat market misconduct
 Promoting good directors and board practices.
5. There is some empirical link between good governance and development. World Bank data shows that when
any one of its six governance indicators is improved, there is an improvement in various development
indicators. For example, less corruption is correlated with reduced infant mortality; increased per capita
income is correlated with reduced regulatory burden; improvements in the rule-of-law increases literacy rates;
and life expectancy increases when accountability increases. However, a simple statistical correlation
between two variables does not prove they are causally connected. For example, just because literacy and
rule-of-law are correlated, it does not prove that strengthening the rule-of-law directly improves literacy. The
 following benefits contribute toward sustainable human development:
Political Benefits. Good governance strengthens state legitimacy as citizens view the government as a partner
in development, not an obstacle. This results in greater social stability that benefits all segments of society,
especially the poor. In contrast, bad governance subverts the formal institution-building process by
undermining professionalism, administrative efficiency, and ultimately, democratic legitimacy.
Economic Benefits. When the policy-making process is governed by rules, it is likely to be more efficient and
less prone to corruption. This in turn increases investor confidence, which leads to faster economic growth.
Social Benefits. When government policies reflect societal concerns that are elaborated through an open
decision making process, citizen concerns (e.g. access to education, health care, and so forth), are more likely
to be addressed. For example, as a result of domestic and international pressure, India enacted a policy which
provides for greater opportunities for women to serve in the government.
Environmental Benefits. By encouraging public debate and improving accountability, good governance
fosters the creation of environmentally sustainable policies.
6. According to the RBZ Bank Licensing and Surveillance Guideline No. 01-2004/BSD, from a banking and
financial sector perspective, corporate governance involves the manner in which the business and affairs of
individual institutions are governed by their boards of directors and senior management, affecting how
banking institutions:
 Set corporate objectives;
 Set risk management policies and procedures;
 Ensure that the day-to-day operations of the business are carried out efficiently and with integrity;
 Protect the interests of depositors and other recognized stakeholders;
 Align corporate activities and behaviour with the expectation that the banking institutions will
operate in a safe and sound manner, and in compliance with applicable laws and regulations;
 Implement corporate values codes of conduct and other standards of appropriate behaviour and
systems used to ensure compliance with the aforementioned;
 Articulate corporate strategy against which the success of he overall enterprise and the contribution
of individuals are measured; clearly assign responsibilities and decision-making authorities,
incorporating a hierarchy of required approvals from individuals to the board of directors;
 Establish mechanisms for interaction and co-operation amongst the board of directors, senior
management and the auditors;
 Implement strong internal control systems, including internal and external audit functions and other
checks and balances, independent f business lines;
 Monitor risk exposures where conflicts of interest are likely to be particularly great, including
business relationships with borrowers affiliated with the banking institution, large shareholders,
senior management, or key decision makers within the institution.
 Offer financial and managerial incentives in the form of compensation, promotion, and recognition to
 senior management, business line management and employees; and
 Implement appropriate information flows internally and to the public.

4.4 OVERVIEW OF THEORIES UNDERPINNING DIFFERING VIEWS OF CORPORATE

GOVERNANCE
Nexus of Contracts
Firms may be unraveled as a series of contracts. Three interested parties are: managers, owners and
employees. Divergence of interests among the parties result in agency costs – costs incurred by
shareholders in monitoring the managers in order to minimize the divergence between their interests.
Social Entity
The view holds that directors’ obligation go beyond ensuring that shareholders get fair return.
Directors are not just agents of shareholders – so profits do not necessarily come first. Directors are
trustees for the corporation itself and need to balance competing interests of everyone, including
employees, creditors and the community.
Stewardship Theory
This is an elaboration of the social entity theory. Based on the idea that managers are stewards of the
corporation’s assets and need wide powers to balance conflicting interests.

Amalgamation of Theories and Flexibility of Corporation Law

 Property concept/agency/nexus of contracts hold that corporations’ purpose is to advance purpose
of the owners, that is, shareholders.
 Entity/social concept, hold that the corporation has a public purpose, which means that directors’
duties go beyond just ensuring that investors get a fair return.
 Corporations’ law allows both approaches to co-exist. The question is to what extent does
corporations law deal with conflicts between the two theories? E.g.
In takeovers, if shareholders sell shares there is an effect on creditors, employees, management
and the community. Whose interests are being looked after when most of shareholders sell?

4.5 CRITICAL ISSUES AND CHALLENGES IN CORPORATE GOVERNANCE

4.5.1 Defining Corporate Boards

Among the many challenges facing many organizations is the issue of defining what corporate boards are.
Corporate boards can be briefly defined as boards of directors in different organizations. In general, they are
made up of non-executive directors who bring in independent judgment to bear on issues of organizational
strategy, performance, resources, and the appointment of executive directors.
 4.5.2 Types of Boards in Different Sectors
There are different types of boards representing different organizations. The type of organization also affects the
role and structure of the board. There are three major types of boards representing the private, public and non-
governmental sectors. These are summarized in table 4.1.
Table 4.1 – Types of Boards in Different Sectors
Private Sector Public Sector NGO (Voluntary) Sector
Examples -Profit-making entities -Non commercial entities -Non-profit entities
-Industrial, commercial or service -Parastatals or quasi-government -Local and international NGOs (Care,
boards. (IBM, Coca-Cola, Barclays boards. (ZESA, GMB, NSSA, NRZ, World Vision, Msasa Project,
Bank, Delta Corporation, etc) Universities, Schools, Hospitals, etc) CONNECT, etc)
-Welfare agencies
Structure and Size -Boards appointed by shareholders -Boards appointed by government -Boards appointed by members at an
ministers AGM
-Composed of internal and external -Composed of internal and external -Composed of internal and external
directors board members committee members, trustees or
governors.
-9 – 12 members -7 – 10 members -5 – 8 members
-Board divided into committees e.g. -Boards divided into committees e.g. -Boards divided into committees with
Finance, Audit, HR, etc: who are Finance, HR and Audit Committee, specialists e.g. HR and Finance
specialists in their fields etc
Roles and Duties -Total control and authority over -Controls the organisation’s -Ensuring the successful management of
organisation’s mission and purpose. activities. the organization.
-Overseeing the management of -Determines organisation’s mission -Duty of loyalty i.e. conflict of interest.
resources. and supervising the Chief Executive. -Duty of care for the organization by
Giving support and supervision to the -Overseeing the management of attending meetings and reading board
CEO resources. papers.
Accountability -To the shareholders and other -To the Minister and the public at -To stakeholders who are members of the
stakeholders such as customers, large i.e. taxpayers. organization as well as the beneficiaries
creditors, banks, suppliers, etc. -Civic and other interest groups. of the programmes.
-Interest groups
Sources of -Shareholders, both individuals and -Government ministries through -Donor agencies
Funding institutional. parliamentary votes and taxpayers -Fund-raising from well wishers.
-Other investors. money. -Projects such as training programmes or
consultancies.

4.5.3 Why do Organisations Need Effective and Functioning Boards?

There are two major reasons why organizations need boards.
 A well-motivated and effective board can help top management with advice, moral support and assistance; but
not with the day-to-day running of the organization.
 An effective board can also help an organization by overseeing its financial control and accountability. For
example, where public funds are used by a parastatal, or a voluntary organization, it is imperative that such
funds be properly accounted for.

4.5.4 Structure and Composition of Boards

The general trend in many firms is to go for smaller boards of 5-10 directors. In general, the composition of boards
includes both inside directors (management) and outside (non-management) directors. In recent years, we have seen
the composition of external directors surpassing that of internal directors. This has resulted from external pressure
of shareholders who want more board members to represent their interests on the boards.
On who should serve as a board member, Drucker (1974: 635-636) gives the following criteria:
 A board member should be competent to serve on boards;
 He/she should have time for the job;
 He/she should be independent of management;
 A board member should be a “professional director”, that is, a real first-rate individual with commitment to the
organization.

4.5.5 The Roles and Duties of Boards and Management

Table 4.2 provides a summary of the difference between the roles of governance (the board) and that of management
(the managers).

In addition to the roles and duties in Table 4.2, Drucker also believes that it is the duty of the board to demand top
performance from management and to remove those executives who are non-performers. He goes on to say that an
effective board should insist on being informed of what is happening in the organization before the problem gets out
of hand. Additionally, an effective board should not accept recommendations from top management without
questioning them. In short, an effective board should insist on being effective.

An effective board will often have several committees such as the Audit and Human Resources Committees.

Table 4.2 - Different Roles and Duties of Governance and Management

Governance Management
Responsibilities  Determining the organisation’s mission and  Planning and implementing programmes
purpose. and policy decisions.

 Holding ultimate authority and  Recruitment and selection of employees and

responsibility for the organization. allocation of tasks.

 Overseeing the management of resources.  Budgeting and maintaining proper

accounting procedures and practices.
 Providing support and assistance to the
organization when it is under attack.  Providing the market with quality goods
and services.
 Assisting management when it is
experiencing problems  Day-to-day running of the organization.

 Acting as the last court of appeal or  Developing and maintaining good public
decision-making body. relations with all shareholders.

 Supervising the CEO and assisting in the  Providing the board with any information
selection and induction of new board required.
members.

4.5.6 The Duties of Directors

A) In an important statement published in 1990, the Business Roundtable set forth the following specific
responsibilities of corporate boards of directors:2
 Select, regularly evaluate and, if necessary replace the chief executive officer. Determine management
compensation, and review succession planning.
 Review and where necessary, approve the corporation’s financial objectives, major strategies, and plans.
 Provide advice and support to top management.
 Select and recommend to shareholders candidates for the board of directors.
 Review the adequacy of corporate systems to see if they comply with current laws and regulations.

B) In terms of the King Report on Corporate Governance, (1997), the main functions of the board are as follows:
 Establish and direct the company, both as to strategy and structure
 Ascertain key business determinants within the context of a company’s constituent businesses and monitor
executive management’s implementation of the organization’s strategies.
 Review the company’s operational performance and that of its management.
 Ascertain that the company has adequate systems of internal control, both operational and financial.
 Participate in the selection of the chief executive officer and other senior officers of a company, providing
guidance on appointments and succession planning.
 Endeavour to ensure that the company operates in an ethical manner with all its stakeholders.
 Address the adequacy of employee benefits relative to industry norms and practice.

The code requires the board to retain full and effective control in monitoring executive management and ensuring
that material decisions remain within its jurisdiction. It remains for the board to define its own levels of materiality,
which should be clearly communicated to all affected levels of management in an organization and possibly
supported by some form of procedures or policy manual.

C) According to the RBZ, an important aspect of the functions of the Board is the identification of key risk areas
and key performance indicators. The board must have a Charter, which as a minimum should clearly set out:
 The adoption of strategic plans.
 Monitoring of operational performance and management
 Determination of policy and processes to ensure effective risk management and internal control, and
 Communication policy and director selection, orientation and evaluation.

In addition the duties and responsibilities of the board of directors of a banking institution are as follows:
 To ensure that there are adequate policies in place that are aimed at improving the banking institutions profit

2
The Business Roundtable, the role and Composition of the Board of Directors of the Large Publicly Owned Corporation, New York: Business
Roundtable, 1978 pp 11-12. Cited in Linda Kozar Du Plessis (Ed.), Environments of Business, BA 243; The McGraw-Hill Companies, Inc.,
1997, p700
 performance and ensuring fulfillment of the banking institution’s strategic plans.
 To ensure that the banking institution has adequate systems to identify, measure, monitor and manage key risks
facing the banking institution.
 Select and appoint senior executive officers who are qualified and competent to administer the affairs of the
banking institution effectively and soundly.
 Establish and ensure the effective functioning of Board and Management Committees in key areas.
 Set up an effective internal audit department, staffed with qualified personnel to perform internal audit
functions, covering the traditional function of financial audit as well as the function of management audit.
 Set up an independent Compliance Function and approve the bank’s compliance policy, including a charter or
other formal document.
 Ensure that the banking institution has a beneficial influence on the economic well-being of its community.
 Supervise the affairs of the banking institution, and be regularly informed of the banking institution’s condition
and policies in ensuring that the banking institution is soundly managed.
 Adopt and follow sound policies and objectives which have been fully deliberated.
 Observe banking laws, rulings and regulations.
 The duty of care requires a board member, at a minimum, to participate effectively in board an committee
meetings, to communicate and work effectively with the chairman of the board and the chief executive officer.
 The duty of loyalty forbids directors and officers from participating in a competing enterprise unless a majority
of disinterested board members approve.

4.5.7 Internal Auditors

Internal audit is required to ensure the checks and balances required by corporate governance. They must be given
standing that commands respect by:
(a) Reporting to the chairman of the audit committee and
(b) Having direct access to the chairman of the board.

Corporate boards place place considerable reliance on the work of the audit committee and the continuing work of
the company's internal auditor. The following important points should be borne in mind:
 every board should aim to have a properly functioning audit committee,
 the audit committee should be chaired by a non-executive director (as a minimum) and ideally, should be
entirely composed of non-executive directors,
 the audit committee should meet regularly,
 the audit committee should have direct access to the external and internal auditors (and vice versa),
 the audit committee should give initial approval to both the external and internal audit plans – both of
which should be submitted to the full board for approval, the audit committee should ensure that the
internal auditor is given sufficient delegated authority to discharge the full range of duties and functions set
 out in the relevant international standard(s),
 the audit committee and internal auditor should oversee the operations of all subsidiaries and joint ventures
(where the level of risk or control warrants this),
 the internal auditor should be known to all directors and should report to the full board from time to time.

The above requirements are the minimum requirements that one would expect to find in any organisation that is
serious about achieving best practice.

Generally, compliance standards are key in providing a framework for an effective compliance programe, the
performance of which can be monitored and assessed. A compliance program is an important element in the
corporate governance and due diligence of an organisation, and should:
 Aim to prevent, and where necessary, identify and respond to, breaches of laws, regulations, codes or
organisational standards occurring in the organisation;
 Promote a culture of compliance within the organisation; and
 Assist the organisation in remaining or becoming a good corporate citizen.

Compliance standards may also include two important principles. The first includes a reference to general
'organisational standards'. This means that the risk management policies need to be implemented and monitored
once they have been defined by the board. In addition to this, there is the fascinating reference to 'good corporate
citizenship' – a concept that, having been linked to compliance, must become closely embedded in the thinking of
boards and management.

The internal auditors’ should not be confined to an examination of systems and procedures limited to financial
issues. Good governance is a creative act. It is therefore fraught with risk and difficulty. Internal auditors help to
manage that risk – not by applying strict controls alone. Rather, they should be available to offer wise counsel and
assistance to their colleagues.

A) In terms of the King Report on Corporate Governance, the role and function of internal auditors are:
 Independent appraisal function
 To examine and evaluate company’s activities.
 To assist executive management in the discharge of their responsibilities.
 To do this internal audit provides:
- Analysis
- Appraisals
- Recommendations
- Counsel
 - Information.
 Internal audit provides assistance to board and management in carrying out their duties by providing
information on adequacy and effectiveness of internal control.

In addition, the scope of internal audit include:

 Review reliability and integrity of financial and operating information and the means used for the presentation
and measurement of information.
 Review systems to ensure compliance with policies, plans, procedures, laws and regulations.
 Review the means of safeguarding assets.
 Review the economics and the efficient management of a company’s:
- Financial resources
- Human resources
- Other resources.
 Review operations – ascertain if results are consistent with established objectives and goals.

B) According to the RBZ Bank Licensing, Supervision and Surveillance Guideline No. 01-2004/BSD, the core
function of an internal audit department is to perform an independent appraisal of the financial institution’s
activities as a service to management. The internal audit function plays an important role in helping management to
establish and maintain the best possible internal control environment within the financial institution.

A sound internal control environment would ensure:

 Adequacy and effectiveness of the internal control system.
 Compliance with policies, procedures, rules, guidelines, directives, laws and regulations.
 Detection of frauds, errors, omissions and any other irregularities.
 Management audit.
 Information systems audit, and
 Participative and consultative role in the development of new products and systems.

Scope of Audit Work cover:

 Evaluation and appraisal of the internal control system.
 Compliance with policies, procedures, rules, guidelines, directives, laws, and regulations.
 Adequacy and effectiveness of risk management system.
 Effective and efficient use of resources.
 Accomplishment of set goals and objectives.

4.5.8 How Effective Are Corporate Boards?

Many writers have questioned the effectiveness of corporate boards. For example,
(a) Koontz, O’Donnell and Weihrich (1980:465), have noted that “there is evidence that boards heading all kinds of
enterprises – business corporations, charitable foundations, universities, and others – are not doing a very effective
job”. Thus, when a financial problem or other problems arise in an organization, the first question raised by the
public, financial analysts or general officials is: Where was the board?

(b) The above sentiments are echoed by Peter Drucker (1974:628), who believes that “there is one thing all boards
have in common, regardless of their legal position they do not function”. Thus, when there is trouble within an
organization, it is the board which hears of the problem last.

(c) Other criticisms have substantially increased in recent years. For example, some stakeholders, such as
employees, customers, suppliers, communities, and society in general, believe that boards do not give them enough
attention when board members are making decisions. The issue here is not the performance of boards, but how
stakeholders should be treated by boards.

(d) In South Africa, recent research showed that many boards are found wanting on issues of corporate governance.
The research was based on The Board Barometer, which provides ranking of companies based on factors such as
corporate governance, age spread, experience, BEE codes and economic sector. The research did not cover
performance of boards, but looked at board composition, which includes expertise, diversity and experience. It also
covered visible signs of attitude towards good governance, including BEE and transformation, board sub-
committees and reporting.3

(e) Corporate governance has improved in Zimbabwe over the last five years. Most companies have basics
corporate governance structures in place in the form of board of directors and board committees. Some
organizations have voluntarily adopted best international practices of good corporate governance. However, most
companies have good governance structures on paper, but in practice this is not the case. There is a tendency to
focus on compliance to codes and regulations rather than how best the business can be controlled and directed,
performance of company, adoption of best practice principles and voluntary compliance. 4

In recent years, on one hand, there has been a growth globally in establishing stricter Corporate Governance procedures, as well as release in
London in December 2004, of the new FTSE ISS Corporate Governance Index, which lists those business corporations with sound corporate
governance principles. The FTSE ISS Corporate Governance Index Series (CGI) was established “to raise the profile of companies achieving
high standards of corporate governance”. 5 FTSE is the London based Index company and ISS is the Institutional Shareholder Services, with
headquarters in Maryland, USA.

On the other hand, a number of high profile corporate scandals have occurred manifesting poor corporate governance standards, and other lapses
in “Business Ethics”, including freed; lying; breaches of trust; conflicts of interest; a lack of transparency; insider dealings, and fraud by directors
and others. Indeed, it can be argued that the stricter Corporate Governance procedures have been introduced as remedies to encourage higher
ethical conduct in business corporations and to prevent “white collar” crime.

D What Qualities should Directors Possess?

3
Article by Marcia Klein entitled: “Many Boards Found Wanting”, in The Business Times, Sept 23, 2007 p. 7
4
Article by Allan Choruma entitled: “Corporate Governance Reforms in Zimbabwe”, in The Financial Gazette, July 5-11 2007, p. 16
5
London, FTSE ISS Corporate Governance Index, 13 December 2004 p1.
 A board cannot be effective unless its members possess and exercise good judgment, are financially literate, and
are able and willing to assume responsibility. They need as well the courage to say no to management when it
proposes actions or policies that subordinate the interests of the stockholders to the interests of management or
otherwise serve to reduce rather than enhance stockholder value.
 The Five I’s: A look at the best-run public companies reveal that an excellent board needs independent, well-
informed, ethical, experienced, proactive directors who possess business and financial savvy and the ability to
create a boardroom environment in which the five I’s of good corporate governance reign: Independence,
Integrity, Informed, Involved, and Initiative.
1. Independence. The NYSE defines an independent director as one who has no material relationship with
the listed company, and Nasdaq defines an independent director as a person who has no relationship that
would interfere with the exercise of his or her judgment. With independence comes the ability and courage
to challenge management and fellow directors in an environment that encourages constructive skepticism
as well as free and open differences of opinion. Independence means:
- Management will have the benefit of the board’s unfettered, best judgment.
- The board will make decisions on the basis of what is in the best interests of the stockholders.
- The board will expect and demand that management will deal honestly with the directors and ethically
in the conduct of the corporation’s business.
- The “don’t rock the boat” attitude will be replaced by an attitude that encourages, and demands free
and open discussion and constructive disagreement.
2. Integrity. Successful companies insist on integrity even at the risk of restraining entrepreneurship. The
CEO, with the advice and consent of the directors, is responsible for setting the right tone at the top and
creating a corporate culture that censures extravagance, greed, dishonesty, and self-dealing, and extols
decency, integrity, and ethical behavior.
3. Informed. A director may be independent and possess integrity, but what good is a director who is not
informed? An individual who agrees to serve as a director should, as a condition to service, commit to
spend the time and make the effort necessary to become and remain fully informed about the company’s
business, industry, competitors, and finances. Uninformed directors are liabilities, make bad decisions, and
consume valuable management and board time. Commitment and preparation for meetings are essential to
the director’s discharge of his or her oversight responsibilities, including understanding what keeps the
CEO awake at night; maintaining the level of business savvy that permits the director to contribute to the
development of the company’s strategy; maintaining a level of financial literacy required to evaluate the
company’s financial performance; evincing a willingness to listen; and keeping abreast of new governance
requirements by participating in the continuing education process.
4. Involved. Effective oversight of management requires availability, commitment, and dedication of the
time required to discharge the director’s fiduciary duties responsibly. Directors should be enthusiastic and
excited about their service on the board. If they are, they will devote whatever time is required to ensure
 that they are fully prepared and know enough about the corporation’s business to perform their duties
assiduously and intelligently.
5. Initiative. A director must be proactive, ask questions, insist on answers, listen carefully, participate in the
preparation of the agendas for board meetings, and be prepared to take the initiative when management
stumbles or needs help. The board has no room for insouciant directors who are not committed or who
believe they can serve as passive observers. Directors who lack initiative or fail or are unable to contribute
should resign. Effective directors are not afraid of being bold.
2.6 ETHICAL ISSUES IN CORPORATE GOVERNANCE
2.6.1 Shareholder rights
 The right to sell their stock
 The right to vote in the general meeting.
 The right to certain information about the company.
 The right to sue the managers for (alleged) misconduct.
 Certain residual rights in case of the corporation’s liquidation.

2.6.2 Principal-agent relation

Principal: Seeks profits, rising share price, etc Agent: Manager

Shareholder

Seeks remuneration, power, esteem, etc

2.6.3 Executive accountability and control

The central ethical issue is the independence of the supervisory, non-executive board members. They will
only be able to reasonable act in the principal’s interest if they have no directly conflicting interests. In
order to achieve this, a number of points are important.
 Non-executive directors should be largely drawn from outside the corporation.
 They should not have personal financial interest in the corporation other than the interests of shareholders.
 They should be appointed for a limited period in order to prevent them from getting too close to the
company.
 They should be competent to judge the business of the company. This would require and allow to some
degree a limited number of insiders, such as former executives or even works council members.
 They should have sufficient resources to get information or commission resear4ch into the corporation.
 They should be appointed independently.

2.6.4 Executive remuneration

The issue of executive pay, and in particular accusations that senior managers have enjoyed ‘fat cat’
 salaries at the expense of shareholders, employees, consumers, and other stakeholders has been a feature of
the business press over the past decade.

2.6.5 Ethical aspects of mergers and acquisitions.

 The central source of ethical concern is that managers may pursue interests that are not congruent with
shareholder’s interests in pursuing mergers and acquisitions.
 Basically, the conflict is around executive prestige on the one hand and profit and share price interests of
shareholders on the other.
 Particular ethical problems involve hostile take-overs. Hostile take-over tactics include:
o Limiting the target’s actions through a “bear hug”
o Proxy contests in support of a takeover
o Purchasing target stock in the open market
o Circumventing the target’s board through a tender offer
o Litigation
o Using multiple tactics concurrently.
 Pre-bid takeover defenses include:
o Poison pills to raise the cost of takeover
o Shark repellants to strengthen the target board’s defenses
o Staggered or classified board elections
o Cumulative voting rights
o Limiting when can remove directors
o Shark repellants to limit shareholder actions
o Limitations on calling special meetings
o Limiting consent solicitations
o Advance notice and super-majority provisions
o Other shark repellants
o Anti-greenmail and fair price provisions
o Super-voting stock, re-incorporation, and golden parachutes
 Post-bid takeover defenses
o Greenmail
o Standstill agreement
o Pac-man defense
o White knights and white squires
o Employee stock ownership plans
o Recapitalization
o Share buy-back plans
 o Corporate restructuring
o Litigation
o “Just say no”
 Hostile takeover attempts and proxy contests affect governance through the market for corporate control
 Hostile takeover attempts tend to benefit target shareholders substantially more than the acquirer’s
shareholders by putting the target into “play.” Consequently, acquirers generally consider friendly
takeovers preferable.
 Anti-takeover measures share two things in common. They are designed to
o raise the overall cost of the takeover to the acquirer’s shareholders and
o Increase the time required for the acquirer to complete the transaction to give the target additional
time to develop an anti-takeover strategy.

2.6.6 INSIDER TRADING

 Insider trading occurs when securities are bought or sold on the basis of material ‘non-public’ information.
 The executives of a corporation and other insiders know the company well, and so might easily know about
events that are likely to have a significant impact on the company’s share price well in advance of other
potential traders.
 Consequently, insiders are privileged over other players in the market in terms of knowledge, a privilege
they could take advantage of to reap a questionable profit.
 In the long-run, insider trading can undermine investors’ trust in the market.
 Moore (1990) provides four main ethical arguments that have been used against insider trading:
o Fairness. Inequalities in the access to relevant information about companies leading to a situation
where one party has an unfair advantage over the other.
o Misappropriation of property. Insider traders use valuable information that is essentially the
property of the firm involved, and to which they have no right access.
o Harm to investors and the market. Insider traders might benefit to the cost of ‘ordinary’
investors, making the market riskier, and threating confidence in the market.
o Undermining of fiduciary relationship. The relationships of trust and dependence among
shareholders and corporate managers (and employees) are based on managers acting in the
interests of shareholders, yet insider trading is fuelled by self-interest on the part of insiders rather
than obligation to their ‘principal’.

4.7 REFORMING CORPORATE BOARDS: REMEDIES TO STRENGTHEN CORPORATE

GOVERNANCE AND BUSINESS ETHICS
The answer to the criticisms leveled against the boards lie in revitalizing corporate boards. The following discussion
focuses on efforts in Europe, USA and Africa.
4.7.1 Joint IFC-World Bank Corporate Governance Group
The activities of the joint IFC-World Bank Corporate Governance Group are aimed at helping companies and
countries improve standards of governance for corporations, focusing on shareholder and stakeholder rights, board
member duties, disclosure, and effective enforcement. The department promotes the spirit of enterprise and
accountability, encouraging fairness, transparency and responsibility through its work. The measures taken to
improve corporate governance present opportunities to manage risks, add value to companies, and contribute more
broadly to promoting sustainable private sector investment in developing countries.

The Capital Markets group advises governments and other institutions on the frameworks suited to promote the
markets for capital from government bonds to corporate and equity markets. Member units include the World Bank,
Global Corporate Governance Forum and the International Finance Corporation.

The World Bank. The Corporate Governance Policy Practice helps client countries assess their corporate
governance institutional frameworks and practices under the auspices of the joint Bank-Fund initiatives on the
Reports on the Observances of Standards and Codes (ROSC). The assessments serve to:
 Increase transparency in international financial markets and assist country-level and global reform initiatives
 Underpin policy dialogue, strategic work and programmatic operations, and
 Provide input to technical assistance and capacity building efforts, such as the establishment of institutes of
directors.
The Corporate Governance Policy Unit synthesizes the knowledge drawn from the assessments in best practice
papers and notes.
Global Corporate Governance Forum – co-founded by the World Bank and the Organization for Economic Co-
operation and Development (OECD), is an advocate, supporter, and disseminator of high standards and practices of
corporate governance in developing and transition economies. The goal of the Forum is to:
 Bring together developed and developing countries,
 Tap the private sector through its close working relationship with the International Finance Corporation and the
Forum’s Private Sector Advisory Group of international business leaders, investors and professionals,
 Focus on practical, targeted corporate governance initiatives at the local, regional, and global level, and
 Promote government reform and private sector self-help.

Whether helping developing countries adopt codes of corporate governance, assisting a market in launching a new
and more open means of attracting investment, or strengthening training for company boards of directors, the Forum
finds leverage points for change.

The International Finance Corporation (IFC). The Corporate Governance Department’s Investor and Corporate
Practice developed the IFC Governance Methodology, a set of tools and Practices that IFC staff uses to assess the
quality of the governance of potential investee companies and that serves as a guide for their work with clients to
add value via improved client governance practices. In addition to working directly with clients, the functions of the
Investor and Corporate Practice include:
 Leading IFC’s role in the global policy dialogue on corporate governance,
 Providing technical assistance to regulators, stock markets, private sector associations and others, drawing form
the practical investment and business experiences of IFC and its investees, and
 Supervising and supporting IFC’s directorships and share voting policies and practices

Corporate governance is a priority for the IFC because it presents opportunities to manage investment risks and add
value to clients. In addition to the value-added provided to individual client companies, working to improve the
business climate for corporate governance contributes more broadly to IFC’s mission to promote sustainable private
sector investment and deepen capital markets.

4.7.2 The OECD Principles of Corporate Governance, 2004

The OECD Principles of Corporate Governance for publicly traded companies6 were first endorsed by OECD
Ministers in 1999, and have become an international benchmark. Since 1999, the Principles have formed the bases
for corporate governance initiatives in both OECD and non-OECD countries. The principles are stated as follows:
 Ensuring the basis for an effective corporate governance framework
 The rights of shareholders and key ownership functions
 The equitable treatment of shareholders
 The role of stakeholders in corporate governance
 Disclosure and transparency
 The responsibilities of the board.

The principles have been adopted as one of the Twelve Key Standards for Financial System Stability Forum.
Accordingly, they form the bases of the Corporate Governance component of the World Bank/IMF Reports on the
Observance of Standards and Codes (ROCS).

4.7.3 The OECD Guidelines for Multinational Enterprises

• These guidelines are recommendations by governments to multinational enterprises (MNEs) operating in
and from the territories of the 39 countries that adhere to the Guidelines.
• Designed to contribute to a favourable investment climate, they aim to promote the positive contributions
multinational enterprises can make to economic, environmental and social progress and to ensure that
MNEs act in harmony with the policies of the countries in which they operate and with societal
expectations.

6
To an extent, also applicable to improve governance in non-traded companies.
 • The Guidelines establish non-binding principles and standards covering such areas as human rights,
disclosure of information, anti-corruption, taxation, labour relations, environment, competition and
consumer protection.
• The Guidelines also “encourage, where practicable, business partners including suppliers and sub-
contractors, to apply principles of corporate conduct compatible with the Guidelines.

4.7.4 The United Nations Principles for Responsible Investment

This is a joint initiative of the UN Environment Programme Finance Initiative and the UN Global Compact with the
aim of incorporating environmental, social, and governance (ESG) issues into mainstream investment decision-
making and ownership practices. The UN PRI is based on the premise that institutional investors and asset
managers have a duty to act in the best long-term interests of their investors and therefore, need to give appropriate
consideration to how (ESG) issues can affect the performance of investment portfolios. By providing a framework
for the integration of responsible business conduct into investment strategies, the PRI contributes to the promotion
of ESG objectives within the financial sector. The Principles are accompanied by a set of 35 possible actions that
institutional investors and asset managers can take to integrate ESG considerations into their investment activities.

4.7.5 The CACG Guidelines: Principles for Corporate Governance in the Commonwealth
CAGG was established in April 1998 in response to the Edinburgh Declaration of the Commonwealth Heads of
Government meeting in October 1997 to promote excellence in corporate governance in the Commonwealth. The
Principles were based on two principle objectives:
 to promote good standards in the corporate governance and business practice throughout the Commonwealth.
 to facilitate the development of appropriate institutions which will be able to advance, teach and disseminate
such standards.

The Principles cover the following areas:

1 Leadership
3 Board Appointments
4 Strategy and values
5 Company performance
6 Compliance
7 Communication
8 Accountability to shareholders
9 Relationship with stakeholders
10 Balance of powers
11 Internal procedures
12 Board performance assessment
13 Management appointments and development
14 Technology
15 Risk management
16 Annual review of future solvency.

4.7.6 The Sarbanes-Oxley Act of 2002

The Act was a direct response in the U.S. to the Enron and WorldCom scandals. It affects corporate managers,
independent auditors, and other players who are integral to the capital formation in the U.S. Titles and key sections
are:

Title I – Public Company Accounting Oversight Board: Section 101 establishes an independent board to oversee
public company audits. Section 107 authorizes oversight and enforcement of the board to the SEC.
Title II – Auditor Independence: Section 201 prohibits a CPA firm that audits a public company to engage in
certain non-audit services with the same client. Section 203 requires audit partner rotation in their fifth, sixth, or
seventh year, depending on the partner’s role in the audit.
Title III – Corporate Responsibility: Section 302 requires a company’s chief executive officer (CEO) and chief
financial officer (CFO) to certify quarterly and annual reports. Section 303 makes it unlawful for corporate officers
or directors to fraudulently influence, coerce, manipulate, or mislead any independent auditors who are engaged in
auditing the firm’s financial statements.
Title IV – Enhanced Financial Disclosures: Section 404 requires each annual report filed with the SEC to include
an internal control report. The report shall: state the responsibility of management for establishing and maintaining
an adequate internal control structure and procedures for financial reporting and assess, as of the end of the
company’s fiscal year, the effectiveness of the internal control structure and procedures of the company for financial
reporting. The company’s independent auditors must attest to and report on the assessments made by company
management.
Title V – Analysts Conflicts of Interests: Requires financial analysts to properly disclose in research reports any
conflicts of interest they might hold with the companies they recommend.
Title VI – Commission Resources and Authority: Authorizes the SEC to censure or deny any person the privilege
of appearing or practicing before the SEC if that person is deemed to: be unqualified, have acted in an unethical
manner, or have aided and abetted a violation of federal securities law.
Title VII – Studies and Reports: Authorizes the General Accounting Office (GAO) to study the consolidation of
public accounting firms since 1989 and offer solutions to any recognized problems.
Title VIII – Corporate and Criminal Fraud Accountability: Section 802 makes it a felony to knowingly destroy,
alter, or create records and/or documents with the intent to impede, obstruct, or influence an ongoing or
contemplated federal investigation. Section 806 offers legal protection to whistle-blowers who provide evidence of
fraud.
Title IX – White-Collar Crime Penalty Enhancements: Section 906 sets forth criminal penalties applicable to
CEOs and CFOs of up to $5 million and up to 20 years in prison if they certify and file false and/or misleading
financial statements with the SEC.
Title X – Corporate Tax Returns: Section 1001 conveys a “sense of the Senate” that the corporate federal income
tax returns are signed by the CEO.
Title XI – Corporate Fraud Accountability: Section 1102 provides for fines and imprisonment of up to 20 years to
individuals who corruptly alter, destroy, mutilate, or conceal documents with the intent to impair the document’s
integrity or availability for use in an official proceeding or to otherwise obstruct, influence, or impede any official
proceeding. Section 1105 authorizes the SEC to prohibit anyone from serving as an officer or director if the person
has committed securities fraud.

[Section 404 is regarded as the most costly and complex provision to meet. With the advent of the new International
Financial Reporting Standards, some U.S.-listed companies, including U.S.- listed E.U. companies, are struggling
with the requirement. Section 404 covers internal control against fraud and require companies to document, test and
report on the effectiveness of their internal controls. It also requires auditors to give separate opinions on the state of
the controls.
Another key provision (Section 302) obliges Chief Executives to swear to the accuracy of their company’s accounts.
Accordingly the “ignorance” defense in the event of a scandal is less readily available. The Act was a direct
response in the U.S. to the Enron and WorldCom scandals.]

4.7.7 The New U.K. Combined Code on Corporate Governance

The code applies to U.K.-listed companies, and replaces the earlier Combined Code issued by the Hampel
Committee on Corporate Governance in June 1998. The Hampel Code, in turn, replaced the Cadbury Code. 7

The latest Combined Code is based on a review of the role and effectives of non-executive directors, and a review of
audit committees. It also includes guidance for directors on internal control. 8

The Combined Code is a set of Good Governance Principles and a Code of Best Practice (hence, “Combined”),
which is tied into the LSE Listing Rules. This U.K. approach of principles of Corporate Governance, rather than
legislation, is intended purposely to be more flexible, applied with “common sense and due regard to companies’
individual circumstances, and with an annual report explaining the application of the principles”.

4.7.8 The FTSE ISS Corporate Governance Index Series 2004

A joint project between FTSE Group, London, and the U.S Institutional Shareholder Services (ISS). The new
Corporate Governance Index (CGI) Series has among its aims “to raise the profile of companies achieving high
standards of corporate governance”. It also seeks “to raise the profile of corporate governance as an investment
concern”, so that best corporate governance performers can optimize their access to capital.

The series design incorporates ISS corporate governance ratings into a financial index to aid professional investors

7
Mark Stock et al, KPMG, the Combined Code: A Practical Guide, London: Gee Publishing Ltd, 1999 p. 1.
8
Produced by Turnbull Committee in 1999, Internal Control: Guidance for Directors on the Combined Code: published by the Institute of
chartered Accountants in England and Wales, Sept 1999.
and others. As a result, the financial performance of companies can be tracked against “themes in corporate
governance practice”, including compensation systems for executives and non-executive directors; the structure and
independence of the Board; and the independence and integrity of the audit process.

Besides, enhanced access to capital, the rewards for those companies selected to be listed on the Corporate
Governance Indexes include positive reputation for corporate governance ‘best practice”.

4.7.9 The King Report on Corporate Governance:9

The King Report provides guidelines on Corporate Governance to South African companies. It is divided into the
following areas:
 The Code of Corporate Practices and Conduct
 Guidelines for Company Secretaries
 Explanatory Notes on the King Report on Corporate Governance
 Summary of the King Report on Corporate Governance.
According to the King Report, the following are principles of good corporate governance:
 Discipline – correct and proper behaviour of senior management.
 Transparency –ease with which an outsider is able to make meaningful analysis of a company’s actions, its
economic fundamentals and non-financial aspects
 Independence – minimise or avoid potential conflicts, for instance dominance of CEO or large shareowner.
 Accountability – of decision makers for decisions and actions. Mechanism must exist for this, for queries and
assessment.
 Responsibility – allows for corrective action and penalising of management.
 Fairness – balanced in taking into account all those who have an interest in the company and its future.
 Social Responsibility – aware of and respond to issues, placing high priority on ethical standards: non-
discriminatory, non-explorative, and responsible to environment and human rights.

4.7.10 RBZ Bank Licensing, Supervision and Surveillance Guideline No. 01-2004/BSD
The guidelines cover two important aspects:
 Corporate Governance, which cover a variety of governance related issues, such as composition, role, function,
duties and responsibilities of the board, appointment of directors, board attendance board committees,
organizational integrity/code of ethics, etc.
 Minimum Internal Audit Standards in Banking institutions, which cover issues relating to the internal audit
function, duties and responsibilities, scope, reporting, etc.

9
The King Report on Corporate Governance (1997), Juta & Co. Ltd, reprinted with the permission of the Southern African Institute of Chartered
Secretaries and Administrators.
The guidelines apply to all banking and non-banking institutions licensed and supervised by the RBZ.

Activities
1. Define corporate governance and explain its importance. What are the main ethical problems that arise in the area of corporate
governance?
2. List and explain the objectives of an effective corporate governance system.
3. Describe the core attributes of an effective corporate governance system, and evaluate whether your company’s corporate
governance has those attributes.
4. Compare and contrast the three major business forms and the conflicts of interest problems in each.
5. Explain the concept of the principal-agent problem.
6. Compare and contrast agency relationships and the potential sources of conflicts between (a) managers and shareholders, and (b)
directors and shareholders.
7. Describe the responsibilities of the board of directors, and list and explain the attributes of the board that an investor or investment
analyst must assess.
8. Illustrate effective corporate governance practices as it relates to attributes of the board of directors, and evaluate the strengths and
weaknesses of a company’s corporate governance practice.
9. Describe the elements of a company’s statement of corporate governance policies that investors and analysts should assess.
10. Discuss the RBZ guidelines regarding: (a) Directorship in other corporations, (b) Maximum number of directorship, (c) Board
attendance, and (d) Disqualification of Directors.
11. With respect to the RBZ guidelines, give a brief review of the primary responsibilities of the following committees: (a) Audit
Committee, (b) Board Credit Committee, (c) Loans Review Committee, (d) Asset and Liability Committee, (e) Risk Management
Committee, and (f) Executive Committee.
12. What are the main functions of a board provided by the King Report on Corporate Governance?
13. The King Report provides some useful guidelines for directors in regard to their duties and responsibilities, emphasizing the
principles of duty of good faith and duty of care and skill. Itemize some of these guidelines.
14. Distinguish between private sector and public sector boards in terms of: (a) structure and size (b) roles and duties (c) accountability,
and (d) sources of funding.
15. Distinguish between the roles and duties of governance and those of management.
16. Outline the duties of directors as provided by the Business Roundtable.
17. Provide a summary of the OECD Principles of Corporate Governance. Further comment on the applicability of the OECD
Guidelines for Multinational Enterprises to the global economic crisis.
18. What are the key provisions of sections 302 and 404 of the Sarbanes-Oxley Act of 2002?
19. What governance shortcomings were uncovered by the Enron and WorldCom scandals?
20. Provide brief notes on how the IFC-World Bank Corporate Governance Group assist companies and countries improve standards of
governance.
21. Outline the CACG objectives and principles and examine how they are applicable to governance issues in Zimbabwe.
22. Why is the ownership of corporations different from that of other forms of ‘property’? What implications does this have for the
nature of shareholder rights?
23. What is hostile takeover and why do they occur? What are the main ethical issues that arise in hostile takeovers, and how can they
be dealt with?
24. Define insider trading. What are the main ethical arguments against insider trading?
25. Set out the system of corporate governance that operates in your home country. To what extent is the system similar or different to
the Anglo-American or the continental European governance model? How can you explain any differences? Do you think that the
governance system in your country provides a fair basis for corporate activity?