University Of Wollongong

Sydney Business School

Corporate Governance TBS909

Why an Independent Regulator should be an Integral Part of Effective Corporate Governance for Publicly Traded Organisation

Abdel Razzaq A. AbuShahout 3954808 12th June 2012

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Table of Contents
Introduction: ............................................................................................................................ 3 Corporate Governance Definition, Objectives and Importance:..................................... 3 Publicly listed companies Definition and Stakeholders Expectations: ............................... 4 Rationale behind Having an Independent Regulatory Role to Boost Corporate Governance Effectiveness: ...................................................................................................... 5 Conclusion: ............................................................................................................................... 8 References:................................................................................................................................ 9

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Introduction:
Corporate Governance Definition, Objectives and Importance:
In recent years and specifically over the last decade the need for a good corporate governance framework sought by companies increases significantly, as it become perceived as -a system that run the company- in sense that provides directory guidance and controlling the company boards actions of setting the strategic goals, ethical leadership practices, and more importantly reporting to the company stakeholders in accordance to the related laws, regulations and standards (Qfinance 2012), henceforth, to create an effective corporate governance scheme that add value through entrepreneurialism, innovation, development, investigation and provide accountability and control systems commensurate with risks involved to protect shareholders rights in the corporate (Du Plessis et al. 2010). Thus, we believe that there is a positive correlation between the type of governance structure and the company performance, though, companies with good corporate structure has qualified stewards (board

members/directors/managers), who lead to more transparency for shareholders and reduce cost of capital by reducing the risk of investments as evidence for successful investments strategies, driven by their integrated success objectives with corporate goals. Indeed, whether its a public or private listed company its required to have a good corporate governance (CG), but strictly in public companies to loosening the stakeholders recent attention and reinforce the company reliability to lure back the investors loss of confidence resulted by malpractices and corporate scandals since the global financial crisis in 2008, as we have seen after the collapses of Berlinerbank and WestLB in Germany and especially the case of Enron followed by Lehman Brothers in USA (OECD 2009). Hence, the need for the most important CG principles, transparency and accountability triggered to regain their credibility in stock market (ISSAI 2012). Accordingly, latest initiatives Led by collaboration between the Malaysian Securities Commission and association of South East Asian nations (ASEAN) CG

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expertise, to develop a CG Scorecard to rank publicly listed companies regarding their CG framework, in order to increase the imperatives to heighten the standards level, to enhance their image quality internationally for investors, from CG perspective for Asian companies that could be employed globally (TheNation 2011).

Publicly listed companies Definition and Stakeholders Expectations:

After that, shortly defining the public company as any company can offers its shares to the public by being listed on the stock exchange nationally or internationally (Fahcsia.gov.au 2012). Certainly, many reasons induce companies to be listed for public stock trading benefiting of potentiality of capital growth, market exposure to large institutional investments, enhancing company profile and employees shareholding scheme (Ramachandran 2009). However, the other side of the coin impose many restrictions for a public company to deal with, such as loosing control of management as shareholders will contribute in developing operational policies, as well as, the necessity to provide highly reporting standards, to comply with International Financial Reporting Standards (IFRS)/ General Accepted Accounting Principles (GAAP)/ Sarbanes-Oxley Act (SOX) and CG principles to publish their comprehensive transparent annual report (McDowal 2007). Hence, ease the implications of the agency dilemma on efficient value added operations, in spite of the extra costs associated with (Stava 2008). In spite of all of these standardisations and regulations required from the company to comply with, to create a sound of transparent disclosure of the company information to meet different stakeholders needs and interest regarding stakeholders philosophy, therefore, companies relies on external party to verify their disclosed information, to boost the confidence of stakeholders to use as reliable information source. However, what happened in the early 2002 of collusion represents incredibility of those auditors who works for global accounting and auditing firms

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such as Arthur Anderson in manipulating the financial statements for couple of companies such as Enron Corp., Tyco Int., Adelphia and WorldCom, covering up the real financial position. Accordingly, raised the public doubts over the credibility of those firms and their incompetency, unethical behaviour of its members for auditing (Angur 2012), in addition, many companies sees complying with those standards is too expensive to offer quality reports to stakeholders (Styger 2012). Consequently, to the insufficiency compliance with those standards and regulations creates what has been known as the expectation gap standards this refers to the distance between what public view (expect) and what auditors offers (actual) (Rezaee & Crumbley 2007). Furthermore, loss of public confidence is not the only the reason of low investments, as more problems appears within the company led to failure in the corporate governance mechanism, that comes underneath with the intention to counterfeit financial statements, such as looting by executives (insider trading), unnecessary expenses mainly for personal benefits, overpaid and remunerations policies that does not suit the company performance (Edwin 2010).

Rationale behind Having an Independent Regulatory Role to Boost Corporate Governance Effectiveness:
For those reasons above we need to examine the potential effectiveness of a listed company to self-regulate itself referring to the regulation by the company/industry committees that issues guidance and set standards to comply with according its industry as a code of conduct (QFinance 2012). And the question arises here to clarify if self-regulatory outcomes will meet the public interest without external intervention? For instance, the more the company regulate itself the more closer to the industry, which means more information about the real market condition collected, giving the advantage to practice effective diligent more often to identify potential risks in the market, while for

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independent regulator such as government they need to catch up on market flux especially in fast pace industries such as electronics and biotechnology (Hepburn n.d). In addition, selfregulatory allows more flexibility in developing collective interests of industry policies, procedures and forms in more practical nature, that serves the intended purpose more effectively and efficiently by generating loyal commitment within a corporate by employees, thats only happens with the supportive role of external regulatory to increase accountability mechanism, to not to compromise the stakeholders protection rights (Bartle & Vass 2005), thus, a collaboration work needed between corporate and legitimate industry supervisor to avoid increase the cost associated with agency dilemma, as if its done separately (Green & Hrab 2003). Conversely, sometimes independent authority requires high level of compliance to set/reach the industry bar high to surpass the shareholders expectation due to the political pressure for certain parties benefits intuitively for economic development which known as the legal origins theory as the implications of governmental laws on investors protections (Coglianese et al. 2004; La Porta et al. 2008), as a result, its not giving the opportunity for companies in the same industry to differentiate themselves, in term of having better governance mechanism than others (Law 2011). For example, the lesson learned from the case of HIH Royal Commission and Adelphia collapse reasoned of lack of accountability mechanisms over collected information and reliance on minimal unpleasant information to make decisions in benefit of stakeholders (InConsult Pty. Ltd. 2012). As collecting full information all the time is costly, therefore, the board and top management had made decisions based on incomplete information, hence, their failure reasoned due the information asymmetry. In contrary, for a corporation to have an effective self-regulatory system (CG), have as well its drawbacks that are varying as notion/degree of compliance differs from industry to another. Some of those problems of self-regulatory could appear briefly summarised by Sheehy (2006) as followed:

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Governance policies might be developed design/implementation in narrow scale that may not consider the interest of public stakeholders as it inner focus.

It might not have adequate disclosure to create confidence for public investors. It might create/limit the competition between the industry participants by limiting developing competitive advantage over each other.

More importantly, it might have insufficient authority to act as deterrent for malpractices, embezzlementsetc. in term of investigation and imposing sanctions.

Societal changes (decline in trust) correlated to globalisation especially in financial market (Bartle & Vass 2005). Notably, having to mention the taxonomy of the Australian government regulatory systems, that starts with no regulations and end up with fully-independent regulatory, as characterised by OECD according to the level of government intervention in businesses of particular industry (Bartle & Vass 2005), exemplifying the case using the alcohol industry in Australia as those publicly listed companies such as BRL Hardy Ltd., Cabonne Ltd. and Fosters Brewingetc. are self-regulated by the alcohol and advertising industries, according to Alcohol and Beverages Advertising Code Scheme (ABAC). Saying that based on these companies self developed corporate governance results its still have some deficiencies, mainly, ABAC can not penalise who breach the codes, though there is diminish of accountability in those companies, as well as slow process of complaints which derived of lack of transparency in the system (AARB 2012). What we are pointing here is that reaching effective corporate governance will not be attainable without external party intervention, to be able to identify potential loophole in the governance system, which could lead to market failure and exercise their judgment to encourage enhancing their performance (Treasury.gov.au 2012; ASX 2010).

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In fact, that easily could be attained through benchmarking the existing governance mechanism with its peers in market or external independent authority, such as the CG council recommendations (ASX 2007), who impose for a certain extent an ideal code of ethics that suits the current market condition, taken into account social, environmental and economical perspectives to ensure investors security and prosperity (Bendima 2009). Indeed, if not doing so as under the listing rule of Australian Stock Exchange they have to disclose where they dont comply with and reasons why not (ASX 2012). More importantly, to show that

independent authority should look after corporations, and has to be an integral part of governing corporate practices, here S&P, Moodys and GMI Analyst plays a good example as a leading independent provider of international CG solutions and environmental, social and governance (ESG) rating research (GMI 2012). It has an integrated platform that incorporates ESG metrics and accounting transparency measurements, designed to support decision making and early identification of risks and more importantly, discovering any pitfalls in the current corporate governance system. Adhered to agreed legislations and standardisation to help investors improve their ROI and be supportive to fiduciary varied needs (GMI 2011).

Conclusion:
Summarising the overall results its important to have an independent authority that supervise the corporations operations, beside reasonable mechanism of corporate governance, their Page 8 of 12

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existence collaboratively helps to protect the public investors in market. Certainly, going further than their ordinary reporting role on ambiguous financial information misdirecting right investments to go to the right place, which might cause economic instability, therefore, there judgement provide credibility to financial statements and corporate legal operations (Rezaee & Crumbley 2007). Though, its more preferably to comply with national or international level standards concerned of corporate governance principles, which help to address potential market failure (Treasury.gov.au 2012), and ensure protection of investors rights with a credible level of corporate governance practices, according to well known principles of efficiency, accountability, freedom, transparency and ethics as elements of successful effective corporate governance (Bendima 2009).

References:

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