The definitive guide to corporate governance: principles & practices

The definitive guide to corporate governance: your roadmap to understanding everything about being on a board and running a company. 

Corporate governance is the system of rules, practices, and processes that govern a company and ensure it is accountable to everyone involved—from shareholders to the community. In today’s business climate, where trust is paramount, solid corporate governance can boost financial performance and investor confidence. It fosters long-term growth and economic stability. This guide explores the core principles, frameworks, and best practices for corporate governance.

While corporate governance has existed for a long time, the term really took off in the 1970s in the U.S. The power dynamic between board directors, executives, and shareholders has been constantly shifting. Early corporations often used a “republic” style, with checks and balances to prevent any one person or group from becoming too powerful.

The Industrial Revolution meant larger companies and professional managers but also created a conflict between owners and managers. This problem grew after World War II as financial institutions began investing heavily. Corporate scandals in the late 20th century spurred more attention on corporate governance, aiming to protect investors. The 1992 Cadbury Report in the UK was a game-changer, with recommendations for stronger financial governance. While these ideas were adopted worldwide, the U.S. took a different route with the Sarbanes-Oxley Act. The big takeaway? We’re moving from just focusing on shareholders to a broader view that includes all stakeholders, like employees and the community.

Several key ideas are crucial for effective corporate governance. These guide how companies and their leaders should act, ensuring they’re working for everyone’s best interests. Key corporate governance principles include:

• Fairness: Treat all stakeholders equally, making sure everyone has access to information and chances to participate in key decisions.
• Accountability: The board and management must answer for their actions and decisions and be ready to explain their choices.
• Responsibility: The board has a duty to act in the best interest of the company and its shareholders, making informed decisions and avoiding conflicts of interest.
• Transparency: Be open and honest with all stakeholders, sharing timely and accurate info on financial performance and governance practices.
• Responsibility: Directors must take full ownership of their authority and powers.
• Disclosure: Keep stakeholders in the loop about company activities, future plans, and business risks.
• Awareness: Boards should stay aware of company risks and take steps to reduce them.
• Impartiality: Board decisions should be made independently, free from personal interests.

These principles all support each other. Transparency boosts accountability, and accountability reinforces responsibility.

Corporate governance models differ globally due to legal, cultural, and market differences. Some common models include:

• Anglo-Saxon Model: This model, which is used in the U.S., UK, and Canada, is focused on shareholders, market forces, and the influence of institutional investors.
• German Model: Germany and Austria have a two-tiered board structure with significant roles for banks and employees.
• Japanese Model: In Japan and South Korea, this emphasises close ties between companies and banks, long-term relationships, and group consensus.

Various frameworks offer guidance for companies and policymakers. Key frameworks include:

• OECD Principles of Corporate Governance: These principles help listed companies access financing, protect investors, and support sustainability. They cover areas such as shareholder rights, corporate disclosure, board responsibilities, and sustainability.
• UK Corporate Governance Code: This code sets standards for good governance for companies on the London Stock Exchange. It emphasises leadership, accountability, and transparency and takes a “comply or explain” approach.
• Sarbanes-Oxley Act (SOX): This U.S. law, passed in 2002, aims to improve auditing and public disclosure following accounting scandals. It mandates reforms and penalties related to corporate responsibility and accounting regulation.

Corporate governance is constantly changing due to new challenges. Current trends include:

• ESG factors: Companies are under pressure to consider environmental, social, and governance factors, including reducing environmental impact and promoting ethical practices, which are becoming linked with cybersecurity and regulatory compliance.
• Cybersecurity: Cyber threats are a major concern, and boards must have solid cybersecurity risk management plans, especially with new technologies like AI and blockchain.
• Increased scrutiny: Companies face more oversight, with new rules on disclosure, reporting, and board diversity.
• Shareholder activism: Shareholders are holding companies more accountable for their performance and governance.
• Challenges for SMBs: Small and medium-sized businesses can also benefit from good corporate governance practices.

The board of directors is critical in corporate governance. Their main duties include:

• Setting the company’s strategic direction, vision, mission, and values.
• Overseeing management, including appointing the CEO and monitoring their performance.
• Protecting shareholder interests and ensuring the company is run to maximise shareholder value.
• Ensure accountability and that the company adheres to ethical standards.

A board focusing on vision, strategy, delegation, and accountability is most effective. Independent directors can provide objective insights and challenge management, ensuring the company acts in everyone’s best interest.

A board’s structure and makeup impact its effectiveness. Important factors include:

• Board size: Most boards have between four and twelve directors.
• Board structure: Boards often have committees focused on specific tasks.
• Board diversity: A mix of skills and perspectives on a board leads to better decisions and risk management. Diversity includes gender, ethnicity, age, and professional experience and can improve financial performance.

Legal requirements for boards are also something to keep in mind. For example, some laws protect shareholder equality, require a certain number of diverse members, and mandate that independent directors make up the majority of public company boards.

Corporate governance is vital for a company’s long-term success. Companies build trust, reduce risks, and improve performance by sticking to key principles and best practices. This focus on stakeholders, ethics, and long-term value is constantly evolving. Boards must handle ethical issues, new tech, and stakeholder expectations while staying on top of cybersecurity, ESG, and regulations. Companies can help create a better future for themselves and society by continually improving.

The definitive guide to corporate governance – The Corporate Governance Institute