Corporate Governance Concept and Its Implications

Introduction

Numerous authors have sought to define the concept of corporate governance over time. The nature of this concept, as well as its impacts on organisations, has attracted the attention of many scholars and students in the field of corporate management. The concept of corporate governance is a very broad and problematic one. However, the broadness and problematic nature of the concept notwithstanding, the concept is very relevant to any particular business today. There are various dimensions adopted by corporate governance as a concept in corporate management. The variety of dimensions means that the concept is a bit difficult to define.

The expression or definition of corporate governance can assume two perspectives. The different meanings derived from such perspectives are based on the focus or emphasis of the particular scholar or student. The concept can be viewed as instruments either used to manage or allocate power in a firm. The definition is based on the external institutions and mechanisms that control the firm’s activities and efficiency. From such a perspective, it is apparent that corporate governance refers to the systems of decision making and power distribution within a firm.

The decision making and power distribution systems are geared towards overcoming the problems associated with the failure to meet the agreements made in the contract between the various stakeholders. For example, the management team enters into a contract with the owners of the firm (shareholders) and agrees to maximise their wealth. On their part, the shareholders agree to compensate the managers for their efforts. Either of the parties may fail to meet its part of the contract, giving rise to conflicts of interest. It can be regarded as internal corporate governance or managerial processes.¹

Corporate governance may also refer to a set of rules, practices, and institutional policies developed in order to protect the interests of investors. The interests of investors or shareholders are protected from, among others, managerial and entrepreneurial opportunistic behaviours. The opportunistic behaviours may arise from institutional or external corporate governance.² Such behaviours may put the future of the organisation at risk, endangering the resources invested in the firm. The various scholars and students in the field of management define corporate governance from either of the perspectives given above.

The concept of corporate governance generally concerns itself with bringing the interests of investors and managers together. It ensures that managers and investors come to an agreement to ensure that the firm operates in a manner that benefits the investors. Disagreements between the two parties are detrimental to the firm. The concept is also concerned with the relationship between the internal governing mechanisms of corporations on the one hand, and the attitudes of members of the society towards the corporation’s accountability on the other hand. ³

Given the scenario above, it is obvious that a general approach to corporate governance would entail analysis of systems used by managers to operate organisations. In addition to the managers, other stakeholders use these systems to direct and control the organisation. Corporate governance also entails supervising the performance of managers and ensuring that accountability is enhanced. It especially focuses on the accountability of the directors and controllers of the corporation.⁴

In light of these definitions, it is apparent that corporate governance encompasses the processes, structures, cultures, and systems engendering the successful operation of corporations. It is also apparent that managers are some of the critical directors and controllers of corporations. As such, managers and directors play a major role in corporate governance.

Managers are an integral part in the running of corporations. In most instances, corporations will succeed or fail to achieve the envisaged goals and objectives based on the effectiveness of decisions made by the managers. Poor corporate governance can be attributed to poor management. Such poor management of the organisation will ultimately result into losses for the stakeholders. Thus, managers are very critical in the corporate governance process.⁵

Evolution of Corporate Governance

The concept of corporate governance may be fairly recent in corporate management field, but it is not entirely new. Starting from the 1980s, the concept of corporate governance has generated considerable attention from scholars and students. The concept gained much of its initial impetus from the Anglo-American codes of good governance. The codes were buttressed by the recommendations and principles of American Law Institute (1984) and the 1987 Tread Way Commission. The Cadbury Code of 1992 also played a major role in bringing the concept of corporate governance to the attention of the public.⁶

Prior to the above events that spurred interest in corporate governance, such authors as Means and Bearle had highlighted the importance of the concept in 1932. ⁷ The authors had shown modern corporations as separate entities with regards to various elements. Ownership and control of the firm was separated by the scholars. The reason is that the owners lack the capacity or willingness to engage in and direct the firm.

Initially, corporate governance was fronted as the solution to address the disproportionate nature of relationships between company’s main stakeholders. The concept has remained conspicuous in the developed economies. However, it is gaining ground in the developing economies. The rising popularity of this concept in developing economies is attributed to its ability to impact positively on sustainable growth. ⁸

The Asian crisis and the relatively poor performing corporate sector in Sub-Saharan Africa contributed greatly to the emergence of the corporate governance concept in development debates.⁹ Currently, the concept is deeply rooted in global corporations. The concept of corporate governance is still under evolution. It is evolving to incorporate all emerging issues in organisations. The developed world seems to be far ahead compared to their developing counterparts in terms of understanding and implementing the system in their corporations.

The Role of Corporate Governance and Associated Managerial Implications

Corporate governance, when viewed as the processes involving directing and controlling organisations, has various implications on organizational management. In most countries, such as the U.S and the U.K, the managers and the shareholders may be in disagreement. The concept of corporate governance comes in to resolve such conflicts.

Corporate governance calls for the separation between ownership and control of organisations. The development might make managers and shareholders formulate and try to achieve differing goals and objectives.¹⁰ The people running the organisation on a daily basis (the managers) are usually not the owners. As such, they do not incur losses when the business falls or profits when it flourishes. Although they may be interested in the maximisation of value for shareholders, managers sometimes pursue other personal objectives. Such objectives include maximisation of their salaries and optimising the growth of a particular market segment. The managers may also get attached to given projects.

When managers deviate from the goals and objectives of stakeholders, an issue referred to as agency problem may arise.¹¹ Therefore, the need to control the management team is made obvious in corporations. Such a need is apparent especially since it is the management’s duty to generate money for the shareholders through their daily contact with the organisation. It is also important to appreciate the role played by corporate governance in relation to the capital structure of the organisation and value creation.¹²

Managerial discretion is a major requirement in some organisations, especially the public owned corporations. The ownership of such corporations is widely distributed, a factor that might lead to apathy among the shareholders with regards to the corporation’s actions. Under such conditions, governance arrangements become very important. Such arrangements help avoid the discretion of managers from harming the interests of the owners.

Several guiding principles form the basis of corporate governance. Such principles help to achieve the roles of corporate governance and enhance effective management. First, the governance structure requires designs that clearly delineate power and responsibilities. The design should also incorporate measures aimed at controlling the performance of the managers.¹³ Accountability and control are also fundamental to corporate governance. Corporate governance is achieved through sufficient disclosures and guaranteed transparency. Members of the board also constitute a fundamental principle of corporate governance.¹⁴ The selection of the board members or members of any other governing body in the corporation should be in line with the organisation’s governance principles. Managers who understand their recruitment guidelines in relation to principles of corporate governance are more likely to excel in their duties.¹⁵

Corporate governance is anchored by a number of theories. The theories highlight the basis of the concept and relationships that result from it. The principle agency theory or agency theory is the main theoretical perspective adopted when analysing and researching on corporate governance.¹⁶ It is an economic theory that adopts some behavioural assumptions. For example, it assumes that all human beings strive for their own benefit. Hence, it follows that, in some instances, human beings will act opportunistically to serve their own interests. Considering that they are human beings, managers may engage in such behaviours. The objective of corporate governance is to reduce or eliminate the likelihood of such occurrences. Corporate governance also helps managers and other stakeholders to acquire the special skills essential in strategic decision-making. It limits the problems resulting from asymmetric objectives.

The agency theory captures the ubiquitous relationship between the various stakeholders. For instance, it defines the relationship between principle delegates and the managers. It makes the duties and responsibilities of each party clear.¹⁷ With regards to the concept of corporate governance, ‘principals’ constitute the enterprise owners who hire the professional managers.¹⁸ The managers act as the agents of the owners. They are tasked with the responsibility of running the organisation.

Generally, agency theory is an appealing and an inspiring notion when analysing corporate governance.¹⁹ However, it is not a very convincing perspective. The various assumptions and assertions made in the theory are highly contested. Under such a setting, agency problems are bound to arise between the managers running the firm and their principals. Such problems arise since the managers have information advantage, which they may end up misusing for their own benefit. Their interests fail to concur with those of their employers. At the same time, the business owners lack the means of addressing the problem of information asymmetry, hence the introduction of corporate governance.

The introduction of corporate governance principles seeks to address this fundamental issue of agency-problem.²⁰ The concept implies that problems are addressed when the interests of the managers and those of the owners are identical. To this end, the managers are subjected to control from internal or external oversight mechanisms. Mischief from the managers is reduced when they aspire for goals and desires similar to those of the owners. In addition, the alignment of the two sets of interests functions as a managerial incentive.²¹ Such incentives include granting or simulating equity ownership in relation to corporate management.

The agency theory, coupled with corporate governance, may seem like an impregnable solution to organisational agency problems. However, this viewpoint has received a lot of criticism. The agency perspective is viewed as too narrow.²² The narrowness is attributed to the excessive focus on the interests of shareholders. The theory does not focus adequately on other agents of the corporation.

The agency theory sticks to the notion of shareholder primacy in relation to the goals of the organisation.²³ Such biasness is one of the theory’s limitations. Such a focus implies that managers run the organisation solely to meet the interests of the shareholders, which involves absolute value maximisation. Such a perception may greatly hinder the performance of the manager by curtailing their flexibility. Managers may require to be monitored through corporate governance. However, flexibility is essential for them to diversify means and mechanisms of maximising the shareholders’ value.

Corporate governance addresses the direction and monitoring of the corporation by the managers. The design and structure of this concept greatly influences the actions of the managers. The management, also referred to as the organisation’s internal instruments, represents the coordination mechanisms.²⁴ The mechanism is critical to bilateral contracting processes between the stakeholders and the management.

An effective corporate governance structure utilises both the internal and external instruments as mechanisms of collective coordination. The mechanisms operate across legal systems, financial markets, and the managers’ job markets. Thus, effective corporate governance facilitates effective management.²⁵

As already indicated, corporate governance has effects on managers. As such, its failure will most likely result into poor performance on the part of the managers. Such an event is evident whenever there are conflicts of interest in the organisation or high risks of opportunistic behaviours. In such cases, the firm’s cost of capital is bound to increase.

The investors are hesitant to trust the management. Such a hesitation means that they are not willing to extend their resources to such organisations. However, corporate governance may enhance trustworthiness in the firm.²⁶ Such an appreciation is followed by market appreciation increased investors’ trust. The development eases access to capital in the market, leading to increased value creation in the organisation.

The management may own equity in the corporation in efforts to motivate them. There may also be independent and external board of directors as a result of corporate governance. The concept may also call for the presence of institutional investors. Such developments improve the performance of the organisation in the market.²⁷

Corporate governance, as already indicated, is crucial to the success of any organisation. It affects the value of the organisation. It gives the managers major responsibilities.²⁸ It is therefore apparent that corporate governance should be taken into account when determining the value created by the management. In addition, corporate governance significantly related to the firm’s capital structure. As such, the concept is important with regards to firm value.

It is important to provide recommendations with respect to the implementation of the stakeholders’ theory and it relationship with the concept of corporate governance. Corporate governance can provide specifications for corporate objectives essential in overcoming the overly narrow objectives. The objectives reflect the diverse interests of the varying groups of stakeholders. They also reflect the interests of any other constituents claiming a stake in the company.

It is difficult to strike a balance between all these interests. Their diversity makes the decision making process more complex.²⁹ However, corporate governance can be made flexible for the purposes of achieving the objectives of the organisation. The stakeholder concept should be taken into consideration to address these interests. The stakeholder concept will integrate these interests in the organisational decision-making framework.

Theoretically, it is possible to achieve a balanced organisation. The managers in a given firm play a vital role in the implementation of new systems in the organisation. The managers are responsible for the implementation of changes in the firm. They achieve this through the adoption of the corporate governance concept.

Corporate Governance and Organisational Operations

It is important to take into consideration the interests of the managers, the owners, and other stakeholders when designing corporate governance systems. Such a measure is essential because a corporate governance system can either facilitate or hinder the performance of a given organisation.³⁰ When corporate governance hinders internal corporate ventures, it ends up as an operational and performance obstacle to the managers. Essentially, organisational managerial systems are required to facilitate managerial activities. Such facilitation maximises the value of the concept to the firm and to the stakeholders.

In corporate governance, aligning interests of the various parties to the interests of the firm benefits the entire organisation. The stakeholders’ theory is very categorical in relation to attending to the needs of the various stakeholder groups. Investors are accorded attention as the major stakeholders in the firm.³¹

An effective corporate governance system will incorporate the needs of all the stakeholders.³² They include customers, employees, suppliers, and the local community. Doing so eliminates the operational obstacles faced by managers. Some of the obstacles include un-cooperative local communities and suppliers with little enthusiasm to work with the organisation.

Unlike the agency theory, the shareholder theory expands the focus of the organisation. Such gestures ensure reduced conflicts of interest, which mar an investor-value oriented organisation. In fact, proponents of the stakeholders’ theory lay much emphasis on the representation of all stakeholder groups in the boards. They claim this is the only way through which effective governance can be realised in a firm.³³

The concept of a balanced organisation comes into play in relation to corporate governance and managerial implications. The concept of balanced corporation implies an organisation in which the interests of both the external and internal constituents are in harmony. Thus, corporate governance, as the process of directing and controlling companies, has major implications on the firm. It lays down the structures and processes needed to mobilise organisational resources without infringing on the freedom of the managers.³⁴

Apart from facilitating effective execution of the managerial functions, corporate governance fosters good governance mechanisms. The mechanisms impact significantly on innovative ideas in the firm.³⁵ For instance, although the shareholders of the firm may question the importance or relevance of investing in research and design, enforcement of inclusive corporate practices will facilitate corporate entrepreneurship.

Managers agree that the creation of sustainable value for the stakeholders and the firm itself depends on many factors. The willingness of the employees to perform above average, for instance, would depend on the fulfilment of their contractual terms. The managers, therefore, realise the importance of corporate governance in achieving this goal of enhanced employees’ performance.

The interest of employees is an important factor in corporate governance. The willingness of employees to perform above average diminishes on the realisation that the firm will not reward them. The scenario is evident, for example, when resources are only focused on the shareholders.³⁶ Therefore, managers utilise elements of corporate governance in some instances to enhance their performance.

Effective corporate governance greatly affects the internal operations of the firm.³⁷ Internal operations of a firm can be broken down to four main elements. They include strategic direction and transparency issues. The other elements are financial expectations and shareholder activism.³⁸ The contribution of corporate governance to these elements determines how the manager executes their duties.

Strategic governance defines the long-term direction taken by the organisation. Corporate governance facilitates the same by calling for the appointment of a board of directors. In order to facilitate value creation for the organisation, the values and aspirations of the individuals selected to sit on the board must fit in with those of the organisation. Such a fit ensures that the managerial direction adopted is effective. Such individuals also end up enhancing essential research and design.

Pegging the selection of board of members on corporate governance also eases the work of managers. The directors and the managers base their actions on corporate governance. As such, both parties agitate for one direction to be followed by the organisation. Conflict of is minimised, making the work of managers much easier.

With relation to financial expectations, corporate governance requires managers to make financial results on a quarterly basis. Corporate governance is more interested on return to investment. As such, it is more likely that the selection, retention, and termination of managerial projects are determined by corporate governance requirements.

Corporate governance concentrates on long-term profitability for the firm.³⁹ As such, it will most likely recommend the termination of unproductive short term projects, thus affecting managerial functions, albeit positively. On their part, managers tend to select projects that deliver immediate results. Such a selection is informed by the fact that the performance of the manager is determined using the results of these projects. At times, such selections dampen corporate entrepreneurship, which corporate governance protects through a number of countermeasures.

One of the greatest factors that motivate managers who misuse the resources of the corporation lies in financial gains. Effective control of corporation finances, as well as motivating reward system through corporate governance, may help solve the problem. Corporate governance requires accountability not only for expenditures, but also for income. Corporate governance addresses the issue of transparency through reforms. The disclosures made by the board are closely monitored through corporate governance structures. Managers are forced to focus on organisational objectives as opposed to selfish opportunities.

Corporate governance also requires the participation of Internal and external audit committees to enhance transparency.⁴⁰ Such measures discourage the managers from misusing their authority. It averts fraud and regulates the activities of managers. Audit reports are vetted by a number of parties, maintaining accountability. Collusion between the managers to run the organisation for their own selfish ends diminishes. Such accountability would, however, be difficult to achieve without incorporating such policies into corporate governance.⁴¹

The shareholders, as earlier indicated, form a major focus of corporate governance. The concerns of shareholders are addressed through corporate reforms and such other measures. However, such an approach has various shortcomings. Such shortcomings are evident when most of the stakeholders seek to invest for short-term as opposed to long-term gains. Such investors need not participate in major long-term expenditure of the firm, such as research and design.

Furthermore, majority of critics claim that corporations are rarely legitimate. The actions of such entities affect not only the direct stakeholders, but also the community, consumers, suppliers, and employees. Such corporations are lack accountability.⁴² Generally, the corporate governance structure seeks to create value for as many stakeholders in the model as possible. Hence, it is important to strike a balance with regards to the relationship between the various stakeholders.⁴³

The shareholder model enhances accountability by the managers not only to the owners of the firm, but also to the entire stakeholder fraternity. Thus, corporate governance mitigates the likelihood of managers deviating from corporate objectives. In addition, the model does not consider the company as an independent production process. On the contrary, it clearly defines the relationship between inputs and outputs of the firm.⁴⁴

Traditionally, corporate governance focuses on the owners or stakeholders of a firm. That view elicits a lot of controversy in the corporate world today. The importance of the owners of an organisation cannot be downplayed. However, the other constituent groups, including the managers, require consideration in the balanced concept. The concept of a balanced corporation is difficult to achieve.⁴⁵ However, when it is achieved, it takes into consideration the other constituent groups in an organisation. There is need to expand the scope of the corporate governance concept. Such a view will review and establish a balance between managers, stakeholders, and the firm.

Conclusion and Recommendations

Corporate governance is a relatively advanced system of directing and controlling organisations. The concept of corporate governance has significant impacts on contemporary managers. Corporate governance revolutionises the entire managerial functions. It addresses the agency issue and the relevance of the stakeholders to the organisation. The system monitors, regulates, and controls all the managerial functions in the organisation.

Earlier corporate structures give the managers substantial responsibilities and authority, but with little or no control of their actions. Under such arrangements, the managers may abuse their authority with regards to financial expectations, strategic direction, transparency, and accountability to shareholders. Corporate governance combines all these responsibilities and then formulates frameworks for their effective execution. Together with its underlying structure, the concept ensures the maximisation of value for owners and enhances the performance of manager.

The relevance of corporate governance to any firm at this era cannot be overemphasised. A consistent corporate governance image will appeal to all stakeholders in the firm at any given time. However, a successful firm needs more than good corporate governance structures. On its own, corporate structure does not guarantee organisational success. Success in business can be achieved by combining effective corporate governance with enhanced management.

In the process of conducting the study, this author learnt a lot about the concept of corporate governance. The author learnt about the meaning of corporate governance and its applications. In addition, the basic principles, theories, and frameworks regarding corporate governance provided the author with a new perspective from which to regard the concept. The knowledge gained from the study touches on the application of the concept in a firm and the various ways it affects the performance of managers. The study provided essential approaches to the concept. Such approaches can serve in advancing knowledge on the concept.

Bibliography

Abor, J & CD Adjasi, ‘Corporate governance and the small and medium enterprises sector: theory and implications’, Corporate Governance, vol. 7, no. 2, 2007, pp. 111-122. Web.

Rocca, M, ‘The influence of corporate governance on the relation between capital structure and value’, Corporate Governance, vol. 7, no. 6, 2007, pp. 312-325. Web.

Talaulicar, T, ‘The concept of balanced company and its implications for corporate governance’, Society and Business Review, vol. 5, no. 3, 2010, pp. 232-244. Web.

Verdeyen, V, P Johan & B Bea, ‘A social stakeholder model’, International Journal of Social Welfare, vol. 13, 2004, pp. 325-331. Web.

Footnotes

1 M Rocca, ’The influence of corporate governance on the relation between capital structure and value’, Corporate Governance, vol. 7 no. 6, 2007, p. 312-325. Web.

2 ibid.

3 ibid.

4 ibid.

5 ibid.

6 V Verdeyen, P Johan, B Bea, ‘A social stakeholder model’, International Journal of Social Welfare, vol. 13, 2004, pp. 325-331. Web.

7 ibid.

8 J Abor & CD Adjasi, ‘Corporate governance and the Small and Medium Enterprises sector: theory and implications’, Corporate Governance, vol. 7, no. 2, 2007, pp. 111-122. Web.

9 ibid.

10 ibid.

11 Abor & Adjasi, p. 117. Web.

12 Rocca, p. 316. Web.

13 Verdeyen et al., p. 325. Web.

14 ibid.

15 ibid.

16 T Talaulicar, ‘The concept of balanced company and its implications for corporate governance’, Society and Business Review, vol. 5, no. 3, 2010, pp. 232-244. Web.

17 Talaulicar, p. 233. Web.

18 ibid.

19 ibid.

20 ibid, p. 232. Web.

21 ibid.

22 ibid, p. 234. Web.

23 ibid.

24 Rocca, p. 312. Web.

25 ibid.

26 ibid.

27 Rocca, p. 316. Web.

28 ibid.

29 ibid.

30 Abor & Adjasi, p. 112. Web.

31 ibid.

32 ibid.

33 Rocca, p. 312. Web.

34 ibid.

35 ibid, p. 115.

36 ibid.

37 Abor & Adjasi, p. 115. Web.

38 ibid.

39 ibid.

40 ibid.

41 ibid.

42 Verdeyen et al., p. 326. Web.

43 ibid.

44 ibid.

45 ibid.