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CMSE11279 Corporate Governance

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CMSE11279 Corporate Governance

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CMSE11279 Corporate Governance

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Course Code: CMSE11279
University: The University Of Edinburgh

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Country: United Kingdom

Question:

‘As a separate legal person, a corporation has two basic objectives: To survive and to thrive. Shareholder value is not the objective of the corporation; it is an outcome of the corporation’s activities. While shareholders entrust their stakes in a corporation to the board of directors, shareholders are just one audience among others that the board may consider when making decisions on behalf of the corporation.
 
These audiences, typically called stakeholders, may also include other financial stakeholders, such as bondholders, and nonfinancial stakeholders, such as employees, customers, suppliers, and NGOs representing various concerns of civil society. In the face of limited resources, no matter how large the corporation, directors must make choices regarding the significance of the corporation’s many audiences.’ 

Answer:

Introduction
The aim of this report is to evaluate the role of the board of directors in a company and their responsibilities towards stakeholders of the corporation. A corporation is an artificial person, and it is incorporated to perform business activities to generate profits for its members. Shareholders are referred as the owners of the company since they own its shares, and they invest their money in the corporation by taking the risk. On the other hand, stakeholder is a broad term which includes different entities that have interest in the operations of the company or affected by its functioning (Carroll and Buchholtz, 2014). Some examples of stakeholders include employees, customers, government, environment, suppliers, shareholders, creditors, local communities and others. Generally, the primary focus of directors is towards the interest of shareholders since they bring capital in the business which is crucial for its growth. However, the board of directors are not the agent of the shareholders, and they did not have to consider their interest above other stakeholders.
While performing its duties, the board is responsible towards all stakeholders equally. According to the Australian Institute of Company Directors (AICD), it is the primary objective of directors is to prioritise the interest of the company above all rather than its shareholders (Sheridan, Smith and Lord, 2014). Shareholders are a part of the wider audience of stakeholders who are affected by the functioning of the corporation. This report will evaluate different factors such as stakeholder and shareholder approach, corporate governance and others to understand the role of the board of directors towards stakeholders. Examples of various corporations will be evaluated in the case to understand how stakeholder approach leads to success. Finally, recommendations will be given for directors to understand how they can fulfil the interest of stakeholders while taking business decisions.
Findings and analysis
Corporations which are operating in Australia are incorporated under the Corporations Act 2001 (Cwlth). The law provides that these companies have a separate legal entity which is different from its directors, shareholders and officers. They have the right to form a legal contract and sue or get sued in case of violation. The directors of a company are appointed at the Annual General Meeting (AGM) by the votes of shareholders. They are responsible for managing the operations of the company and focussing on fulfilling its two main objectives which are to strive and to thrive. The Corporations Law provides various responsibilities which are necessary to comply by directors. It is their duty to comply with them, or else legal actions can be taken against them. As per AICD (2018), there are four basic duties of directors as imposed by the Corporations Act. Firstly, they have to maintain care and diligence while operating in the company as given in section 180.
Secondly, they are required to act in good faith in the company as per section 181. It means that they should not take business decisions to benefit themselves; they should ensure that their decisions achieve the object of the company. Thirdly, section 182 provides that they should not misuse their position in the company (Legal Service Commission, 2018). Since they are the highest authorities in the corporations, they should avoid taking unfair advantage of their position or taking decisions which are detrimental for the organisation. Lastly, they should not misuse the information which they have to take unfair advantage or adversely affect the company as given in section 183 (Austlii, 2018). Conclusively, it is not a duty of directors to focus on the interest of shareholders and avoid other stakeholders. They should act in good faith and take business decisions which benefit a wider range of stakeholders in the company rather than just shareholders.
Corporate Governance
The concept of corporate governance has gained substantial popularity in the past few decades. It is referred to a system of checks and balances for both internet and external corporations which assist in ensuring that while performing its operations the company is accountable to all its stakeholders and act in socially responsible way in different areas of their business activity (Tricker and Tricker, 2015). The principle of corporate governance is focused towards protecting and advancing the interest of shareholders by implementing strategic plans and establishing a capable monitoring management. Furthermore, it also governs the relationship between the corporation, board, shareholders and stakeholders. The Australian Securities Exchange (ASX) has provided various corporate governance principles which are necessary to comply by directors. It includes (ASX, 2018):

Laying down a strong foundation for effective management and oversight
Structuring the board in order to add value
Respecting the rights of security holders
Recognising and managing risks
Acting ethically and responsibly
Safeguarding integrity in corporate reporting
Providing fair and responsible remuneration
Making timely and balanced disclosures

Based on the principle of corporate governance, it is clear that the board of directors are not responsible to shareholders and their interest only. They have to comply with a wider range of rules and regulations which is necessary to be fulfilled by them. The corporate governance principles encourage directors to implement a stakeholder approach while taking business decisions. In case directors breach their duties or only focus on the interest of shareholders, then they have to face legal consequences. In case directors misuse their power to achieve shareholder interest while acting adversely against the company, then they can be held liable by the court as given in the judgement of ASIC v Rich (2009) 236 FLR 1 (Jacobson, 2009). Thus, directors should not think that just because shareholders have invested in the company and taking a bigger risk, they have to prioritise their interest. Shareholders are a part of a wider audience in the corporation, and they have an equal position in the company as other stakeholders. Therefore, directors should carefully comply with their duties and principle of corporate governance to maintain a stakeholder approach while taking business decisions.
Shareholder vs. Stakeholder Approach
There are two different approaches which can be implemented by the board of directors while taking business decisions. In the shareholder approach, the primary motive of the corporation is to keep its shareholders happy by increasing the value of their shares and distributing large dividends (Ntim, Opong and Danbolt, 2012). By performing these strategies, more investors are attracted towards the company which brings more capital for the enterprise. However, in this approach, the interest of other stakeholders is not meet. For example, in order to increase the value of shareholders, directors did not comply with environmental policies and avoid taking appropriate measures to contribute to the growth of local communities. Furthermore, to distribute large dividends, the company has to cut back on employee bonuses, budget for environmental protection and community development. Many times, directors take illegal steps to benefit shareholders. Thus, a stakeholder approach is superior to shareholder approach since it enables the directors to focus on a broad range of stakeholders and to fulfil their interest.
Alternative Solution
It is common for directors to think about the interest of shareholders before other stakeholders since they play a crucial part in generating wealth in the enterprise. However, it could lead to negative consequences as shown by evidence of various corporations. Following are examples of corporations which have failed and others which have succeeded by implementing a shareholder and stakeholder approach respectively.
Enron
The company has filed for bankruptcy in December 2001 which was at the time the biggest corporate bankruptcy in the United States. The corporation was using various creative methods to falsify their accounts in order to keep its shareholders happy and attracting more investors. The corporation was early recognising revenue on incomplete transaction based on ‘mark-to-market’ accounting (Strouhal et al., 2010). It was reducing liabilities by moving risk to unconsolidated special purpose entities. Moreover, it was increasing income to control and treat the gain as a profit while not eliminating an unrealised gain. Due to these policies, the share price of the company was increasing rapidly which was increasing the value of the enterprise itself. Furthermore, its chairman and CEO used insider trading to made huge personal profits.
HIH Insurance Group
The company went into liquidation after facing an estimated loss of $5.3 billion in March 2001. It was also using creative accounting methods to falsify its accounts. The directors were misusing their position of misleading its stakeholders and conducting unfair practices (Azizkhani, Monroe and Shailer, 2010). The objective of these activities was to attract and increase shareholders value and keep them happy. However, it adversely affects them in the end as the corporation went into liquidation.
BHP Billiton
BHP is one of the biggest Australian enterprises in terms of revenue, and it has sustained its growth by implementing an effective Corporate Social Responsibility (CSR) model. The directors of the corporation have implemented a stakeholder approach in order to discharge their corporate responsibilities. The company has implemented appropriate health and safety regulations for its employees. It focuses on environmental management and takes appropriate steps to reduce its carbon footprint. It also focuses on developing local communities by establishing various campaigns such as Solar Project Fair, Macedon donations, and others (BHP, 2018).
Salesforce
It is an America based cloud computing corporation which secured the first position in Fortune’s ‘100 Best companies to work for’ 2018 list (Fortune, 2018). It directors have adopted an integrated philanthropic approach while during the business which is called ‘1-1-1 model’. Based on this model, one percent of its equity is set aside by the directors for grants in communities live and work, one percent for donating products for non-profit organisations and one percent for employees donations and development initiatives (Salesforce, 2018).
Conclusion
In conclusion, the board of directors are responsible towards a wide range of stakeholders who are affected by the operations of the company. They are not required to keep the interest of shareholder above others to make sure that they are happy with the operations of the enterprise. The provisions given in the Corporations Act and the principles of corporate governance are evaluated in the report to determine that the role of directors is to secure the interest of each stakeholder by promoting the growth of the corporation in an ethical manner. Furthermore, examples of companies such as Enron and HIH Insurance Group are discussed in the report which failed due to lack of stakeholder approach. The directors of these enterprises used illegal methods to increase shareholder value rather than applying a stakeholder approach to fulfil the interest of a wider range of stakeholders. Examples of companies such as BHP Billiton and Salesforce prove that a stakeholder approach assists directors in promoting the growth of an enterprise and sustaining its growth in the industry. Various recommendations are given below in order to ensure that directors implement stakeholder approach while taking business actions.
Recommendations

The directors should implement a CSR structure in the company to promote compliance with effective corporate governance principles. The CSR model should be focused towards the interest of a wider range of stakeholders who are affected by the functioning of the corporation.
Eccles and Youmans (2015) provided that the directors should prepare and distribute a ‘Statement of Significant Audiences and Materiality’. In this statement, they should add all the stakeholders of the company who are affected by its functioning and the decisions of the directors. Directors should evaluate the materiality of each stakeholder, and they should form business strategies in a way to fulfil the interest of a wider range of stakeholders.
Directors should comply with the guidelines issued by the AICD to ensure that they did not breach any principle of the Corporations Act and comply with other ASX corporate governance principles.
Directors should not sell themselves in order to attract more investors into the company by focusing primarily on fulfilling their interest. The objective of directors should be to keep the profitability of the company stable and fulfilling the interest of a wider range of stakeholders.

References List
AICD. (2018) General Duties of Directors. [online] AICD. Available from: https://aicd.companydirectors.com.au/resources/director-tools/practical-tools-for-directors/duties-of-directors/general-duties-of-directors [Accessed 3rd August 2018].
ASX. (2018) Corporate Governance Principles and Recommendations. [PDF] ASX. Available from: https://www.asx.com.au/documents/asx-compliance/cgc-principles-and-recommendations-3rd-edn.pdf [Accessed 3rd August 2018].
Austlii. (2018) Corporations Act 2001. [online] Austlii. Available from: https://www5.austlii.edu.au/au/legis/cth/consol_act/ca2001172/index.html [Accessed 3rd August 2018].
Azizkhani, M., Monroe, G.S. and Shailer, G. (2010) The value of Big 4 audits in Australia. Accounting & Finance, 50(4), pp.743-766.
BHP. (2018) Sustainability. [online] BHP. Available from: https://www.bhp.com/our-approach/sustainability [Accessed 3rd August 2018].
Carroll, A. and Buchholtz, A. (2014) Business and society: Ethics, sustainability, and stakeholder management. Toronto: Nelson Education.
Eccles, R.G. and Youmans, T. (2015) Why Boards Must Look Beyond Shareholders. [online] MIT Sloan Management Review. Available from: https://sloanreview.mit.edu/article/why-boards-must-look-beyond-shareholders/ [Accessed 3rd August 2018].
Fortune. (2018) 100 Best Companies to Work For. [online] Fortune. Available from: https://fortune.com/best-companies/ [Accessed 3rd August 2018].
Jacobson, D. (2009) ASIC V RICH: ASIC One.Tel Case Against Rich And Silbermann Dismissed. [online] Bright Law. Available from: https://www.brightlaw.com.au/asic-v-rich-asic-onetel-case-against-rich-and-silbermann-dismissed/ [Accessed 3rd August 2018].
Legal Service Commission. (2018) General Duties of Directors – Corporations Act 2001 (Cth). [online] Law Handbook. Available from: https://www.lawhandbook.sa.gov.au/ch05s01s03s02.php [Accessed 3rd August 2018].
Ntim, C.G., Opong, K.K. and Danbolt, J. (2012) The relative value relevance of shareholder versus stakeholder corporate governance disclosure policy reforms in South Africa. Corporate Governance: An International Review, 20(1), pp.84-105.
Salesforce. (2018) Building a company with heart. [online] Available from: https://www.salesforce.com/company/ventures/pledge1/ [Accessed 3rd August 2018].
Sheridan, A., Smith, A. and Lord, L. (2014) Institutional influences on women’s representation on corporate boards: An Australian case study. Equality, Diversity and Inclusion: An International Journal, 33(2), pp.140-159.
Strouhal, J., Bonaci, C., Matis, D. and Mustata, R. (2010) Failure of measurement system? some lesson from fall of Enron corp. WSEAS Transactions on Systems, 9(9), pp.969-978.
Tricker, R.B. and Tricker, R.I. (2015) Corporate governance: Principles, policies, and practices. Oxford: Oxford University Press.

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