This essay has been submitted by a student. This is not an example of the work written by our professional essay writers.
The topic of corporate governance practices has been of great interest especially after to the high-profile collapses of large corporations mostly involving accounting frauds. When investing in a company, shareholders want to be assured of one thing: that their money is in safe hands, that the assets with which management has been entrusted are being deployed effectively, in accordance with the stated strategy and with sufficient controls to protect the Shareholders from excessive risk. Given this, from our perspective - and this is perhaps in the definitions of corporate governance that - good corporate governance is not some subjective limit to the number of executive versus non-executive directors, it is the very lifeline of the best companies in the world; it is a way of structuring business that ensures sufficient internal checks and balances; in a way that management tells 'it how it is' rather than hiding behind the minimum legal requirement.
Corporate scandalsÂ of various forms have maintained public and political interest in the regulation of corporate governance. In the U.S., these includeÂ Enron CorporationÂ and MCI Inc.Â (formerly WorldCom). Their downfall is associated with theÂ U.S. federal governmentÂ passing theÂ Sarbanes-Oxley ActÂ in 2002, intending to restore public confidence in corporate governance.
The issue of corporate governance continues to attract a high level of attention. Valuable lessons have been learned from the series of corporate collapses that occurred in different parts of the world in the early part of this decade. This due to the fact that financial mishandling and lack of attention by the board, have put many companies into an embarrassing position. There is now a growing realization that until and unless the tone is set at the top, stakeholders' confidence in all likelihood will remain at the lowest rate.
Corporate governance involves a set of relationships between a company's management, its board, its 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 interests of the company and its shareholders and should facilitate effective monitoring.
Since it concerns the relationships among the Board of Directors, Management, Shareholders and other Stakeholders, it contributes to the sustainable economic development by enhancing the performance of companies and increasing their access to outside capital.
"Corporate governance refers to the structures and processes for the direction and control of companies." 
Therefore the aim of this report was to seek insight into the set of rules and regulations that are applicable to listed companies in Pakistan, in turn find out whether the companies are complying with the code and how actively they support the emerging concept of corporate governance. To make this report more meaningful, the report also analyzes the international code of corporate governance of Malaysia, Singapore and Hongkong with the code given by SECP.
For this purpose keeping certain limitations of resources and time constraints, directors of 8 listed companies in Pakistan were interviewed to understand their point of view on corporate governance practices.
Objective of Research
The purpose of this research is of two folds:
A) To seek insight into the compliance of code of corporate governance vis a vis are the actual practices. Whether the companies are complying with the code and how they support this emerging concept of Corporate Governance being integral to business operations.
B) To compare the codes of Corporate Governance of three countries ie. Malaysia, Singapore and Hong Kong with the code given by SECP applicable to listed companies in Pakistan.
This study is based on qualitative research to find out the Corporate Governance practices used in different listed Pakistani companies. Our survey companies include, Engro Corp which has won the Merit Certificate for Best Sustainability Report - 2010 and NJI which is a SAFA Winner - 2010 Pakistan
Conceptual Frame Work
Conceptual frame work for research is present below:
How it was addressed?
Exploratory Qualitative Research
CEO, MD, Chairman, Directors
Companies listed in Karachi Stock Exchange
08 Companies. GSK, HBL, AgriAutos, Engro Corp, EFU, New Jubliee Insurance, Abbott, Indus Motors.
Semi Structured Questionnaire and Interviews
Emergence of Corporate Governance
Over the past three decades, corporate directors' duties in the U.S. have expanded beyond their traditional legal responsibility of duty of loyalty to the corporation and its shareholders. In the first half of the 1990s, the issue of corporate governance in the U.S. received considerable press attention due to the wave of CEO dismissals (e.g.:Â IBM,Â Kodak,Â Honeywell) by their boards.
Corporations now owe much to the work of Adrian Cadbury in 1992, in the wake of corporate catastrophes in the United Kingdom, the Cadbury Report-titled Financial Aspects of Corporate Governance-concluded that similar fiascos could be mitigated by way of greater disclosure by management and better oversight by boards of directors.
However, The Cadbury Report is the first code on corporate governance. It was followed by codes in Australia (the Hilmer Report, 1993); France (the Viénot Report, 1995); the Netherlands (the Peters Report, 1997); and South Africa (the King Reports, 1994 and 2002), among others. The present version of Cadbury is now seen in Combined Code 2010.
Need for Corporate Governance
For emerging market, improving corporate governance can serve a number of important objectives. It reduces market vulnerability to financial crisis, reinforces proper rights, reduces transaction cost and cost of capital, and leads to capital market development. Weak corporate governance frameworks can result in loss of investor confidence and discourage outside investment. Research has shown that good corporate governance practices have led to significant boost in economic value added of firms, higher productivity and lower risk of systemic financial failure for countries.
A recent Wal-Mart Mexican bribery case  highlights the poor governance systems. The CEO of Wal-Mart in Mexico and his chief lieutenants, including the Mexican general counsel and chief auditor, knowingly orchestrated bribes of Mexican officials to obtain building permits, zoning variances and environmental clearances, and also falsified records to hide these payments. It appears the numerous company internal governing systems, processes and procedures have been non-existent or have failed.Â Â It must define the CEO's core role as one which truly fuses high performance with high integrity,Â using governance to refer not just to relations between board and management but, importantly, to how the CEO governs the company from top to bottom. Most corporate scandals are perpetuated by a culture of silence. In Wal-Mart's case it appears to have been no integrity hotline or whistleblower system that worked, because the alleged bribery scheme went on for years without anyone reporting it. The question that must be raise is, where was the board? And what role should board play now to safeguard shareholders interest and retain their confidence?
Good corporate governance helps an organization achieve its objectives; poor corporate governance can speed its decline. Corporate governance has emerged from obscurity and become a mainstream topic.
Some continental European  countries, including Germany and the Netherlands, require a two-tiered Board of Directors as a means of improving corporate governance.Â In the two-tiered board, the Executive Board, made up of company executives, generally runs day-to-day operations while the supervisory board, made up entirely of non-executive directors
who represent shareholders and employees, hires and fires the members of the executive board, determines their compensation, and reviews major business decisions.
The United States and the UK
The so-called "Anglo-American model" (also known as "the unitary system") emphasizes a single-tiered Board of Directors composed of a mixture of executives from the company and non-executive directors, all of whom are elected by shareholders.Â Non-executive directors are expected to outnumber executive directors and hold key posts, including audit and compensation committees. The United States  and the United Kingdom differ in one critical respect with regard to corporate governance: In the United Kingdom, the CEO generally does not also serve as Chairman of the Board, whereas in the US having the dual role is the norm, despite major misgivings regarding the impact on corporate governance.
In the United States, corporations are directly governed by state laws, while the exchange (offering and trading) of securities in corporations (including shares) is governed by federal legislation. Many U.S. states have adopted theÂ Model Business Corporation Act, but the dominant state law for publicly-traded corporations isÂ Delaware, which continues to be the place of incorporation for the majority of publicly-traded corporations.Â Individual rules for corporations are based upon theÂ corporate charterÂ and, less authoritatively, the corporateÂ bylaws. Shareholders cannot initiate changes in the corporate charter although they can initiate changes to the corporate bylaws.
India'sÂ SEBIÂ Committee  on Corporate Governance defines corporate governance as the "acceptance by management of the inalienable rights of shareholders as the true owners of the corporation and of their own role as trustees on behalf of the shareholders. It is about commitment to values, about ethical business conduct and about making a distinction between personal & corporate funds in the management of a company."Â It has been suggested that the Indian approach is drawn from the Gandhian principle of trusteeship and the Directive Principles of the Indian Constitution, but this conceptualization of corporate objectives is also prevalent inÂ Anglo-AmericanÂ and most other jurisdictions.
In Pakistan, awareness of importance of good corporate governance is high among the regulatory bodies and policy makers. In 2002 the SECP issues a Code of Corporate Governance, which was made mandatory for listed companies. Initially, the code met with resistance from issuers and market participants but the willingness to comply with the code has been improving.
Some multinational companies, banks, and other companies are improving on their corporate governance structures.
The SECP has become gradually more active in enforcing its relatively strong authority under the law. Recent years have seen the imposition of more penalties, the road to new regulations, and a generally more activist regulatory approach. Regulatory enforcement must continue to be strengthened and be applied in a consistent fashion to close the gap between code and practice. At the same time, according to some companies, they are considering delisting from the exchanges for a number of factors, including strict corporate governance requirements
Recent Development in Corporate Governance in Pakistan
Pakistan is a common law country. Corporate entities in Pakistan are primarily regulated under the Companies Ordinance 1984, the Banking Companies Ordinance 1962, Securities and Exchange Ordinance, 1969, Securities and Exchange Commission of Pakistan Act, 1997, Insurance Ordinance 2000 and the various rules and regulations made there under.
The introduction of the Code of Corporate Governance in Pakistan in March 2002 (Code) by Securities and Exchange Commission of Pakistan (SECP) was a major step in corporate governance reforms in Pakistan to establish a framework for good governance of companies listed on Pakistan's stock exchanges. This was soon followed by two reports issued by SECP in April 2003 on Harmonizing the Code of Corporate Governance with the other laws/regulations in Pakistan and in September 2003 on Impact Assessment of the Code. In keeping with recommended practice, World Bank carried out a Review of Observance of Standards & Codes (ROSC) in 2005.
A credit rating agency has developed a local methodology to rate corporate governance. The Pakistan Institute of Corporate Governance (PICG) has recently been created as a public-private partnership, with the goal of training directors and building ore awareness towards corporate governance. While still in its nascent stages, the PICG held its first seminar for the Boards of Directors in November 2005. The PICG is also the focal institution to carry out the objectives of a International Finance Corporation (IFC) project, aiming at enhancing and inculcating good corporate governance practices in the country. The next step for the PICG is to mainstream this growing awareness amongst market participants, and make the business case so that firms will have the incentive to improve their corporate culture.
One of the major developments in the history of corporate governance in Pakistan has been the formulations of Code of Corporate Governance. Since corporate governance is crucial to enterprise development and a number of institutions have been involved in creating awareness and training to strengthen the culture of corporate governance.
PICG provides a plat form for discussions on corporate governance and provides an enabling environment for implementation of Code of Corporate Governance issued by SECP.
Corporate Governance Rating
Over the years corporate governance has managed to attract much public attention since it involves the financial health of the companies in general. The corporate need to be in compliance with corporate governance has introduced an industry of consultants, institutions, and rating agencies. Perhaps the most influential of these are the rating firms. These agencies develop a model to analyze companies against their own criteria based on the code, whether a company is well governed or not. These ratings influence a company's cost of capital, equity share price, stakeholder relationships, marketing value, attract investors and foreign capital.
Importance of Corporate Governance Rating
High profile failures lead to a strong need for ratings, since there is strong linkage between sustainable financial performance and corporate governance. Although there is a code and it has been made mandatory for the companies to comply with the code as a minimum requirement, a need for third party evaluation as an outsider can provide a good feedback as to the standard of compliance and the area (s) that need particular attention.
In Pakistan, JCR-VIS has emerged as a leader in corporate governance rating, apart from credit rating. JCR-VIS Credit Rating Co. Ltd. (JCR-VIS), approved by Securities & Exchange Commission of Pakistan and State Bank of Pakistan, is operating as a 'Full Service' rating agency providing independent rating services in Pakistan. JCR-VIS is a joint venture between Japan Credit Rating Agency, Ltd. (JCR) - Japan's premier rating agency, Vital Information Services (Pvt.) Limited (VIS) - Pakistan's only independent financial research organization, Karachi Stock Exchange and Islamabad Stock Exchange.
VIS was incorporated in 1994 with the equity participation of leading financial institutions, the largest publication house of Pakistan (The Jang Group), Mr. Faheem Ahmad and other professionals. The company provides independent capital market research based services to companies, small and large investors, etc.VIS' major strength is its exhaustive database on corporate Pakistan and ability to perform statistical and financial analyses on this database. VIS has a major interest in a credit bureau -Â NEWS-VIS Credit Information Services (Pvt.) Ltd.Â and Digital Works, the first digital archiving service bureau of Pakistan.
Corporate governance ratings are based on evaluation of key governance areas of the rated enterprise, which include regulatory compliance; ownership structure; composition and operations of the board of directors and executive management; self-regulation; financial transparency and relationship with stakeholders. The rating takes into account the continuity of the focus on governance since the last rating action, as also the efforts made towards improvement in systems and controls along with employee empowerment and fostering a system of broad based decision making. Companies are required to keep these ratings current.
Once a rating is finalized, the company is under ongoing surveillance by JCR-VIS during which interim and annual results are reviewed, at least on a quarterly basis, and other company developments are monitored, JCR-VIS may reevaluate the rating at any time. In addition, rated companies are subject to detailed review, normally on an annual basis.Â Â As a result of the surveillance process, it sometimes becomes apparent that changing conditions require reconsideration of the outstanding rating. When this occurs, the analyst undertakes a preliminary review, if the situation warrants a comprehensive analysis, communication with management, and a presentation to the rating committee follow. The rating committee evaluates the matter, arrives at a rating decision, and notifies the company, after which JCR-VIS publishes the new rating.
JCR-VIS had launched its methodology for corporate governance ratings in June 2002 and subsequently announced first such rating in January 2003. At that time it was among the first few rating agencies in the world to have developed the capability to offer such a service. Since they have gone on to complete eight corporate governance rating assignments, the results of six of which were made public. The Major areas that were considered for evaluation included disclosures relating to the board of directors, executive management, audit committee, financial disclosures, pay-out histories etc.
The model developed by JCR-VIS to evaluate companies governance and rating criteria is broadly defined under the following key areas:
Involvement of board members in stock exchange
No. of independent directors
No. of executive directors
Board operations/ duties and Responsibilities
Management Profile - that includes the composition and scope of operations
Evaluation and Remuneration criteria
Financial reporting, Transparency and Disclosure
Self - Regulation
Corporate Social Responsibility
Each area is assigned a certain weightage in percentages to measure their strength of governance. Overall major portion is assigned to board oversight since it is the integral part of corporate governance practices. Subsequently companies are rated from a scale of +1 to +10 mentioned above.
Precisely the model is based on the history of company's business and performance, the performance of the board of directors - composition and its effectiveness, management, committee's performance, transparency and disclosure, review of financial statements, related part contracts, risk management model.
While commenting on the corporate governance rating methodology, the deputy CEO, Jamal Abbas Zaidi said:
"Fast growth is always risky, unless supported by good corporate governance".
PACRA apart from JCR-VIS, is also involved in corporate governance rating but only as one element of entity rating. In assessing corporate governance, PACRA analyses governance data and information systematically and also performs more contextual, qualitative reviews of an individual company's governance practices.
The specific issues include:
The independence and effectiveness of the board of directors
Oversight of related party transactions that may lead to conflicts of interest
Board oversight of the audit function
Executive and director remuneration
Complex holding company structures
Ownership by private individuals and families
PACRA also examines other aspects of corporate governance whose impact on bondholders is less clear cut; these include equity ownership by executives and directors.
Standard and Poor
Drawing some attention to the international corporate governance rating agencies, Standard and Poor use the four core principles: Fairness, Transparency, Accountability, Responsibility as cornerstones in a corporate governance scoring methodology for individual companies. This methodology presents Standard & Poor's  approach to analyzing corporate governance both at a country and at a company level.
A Corporate Governance Score ('CGS') is assigned on a scale from CGS-10 (highest) to CGS-1 (lowest). In addition, scores from 10 (highest) to 1 (lowest) are awarded to the four individual components that contribute to the overall CGS. These are:
Ownership Structure & Influence
Transparency of ownership
Concentration and influence of ownership and external stakeholders
Financial Stakeholder Rights & Relations
Shareholder meeting and voting procedures
Ownership rights and takeover defenses
Stake holders relations
Financial Transparency and Information Disclosure
Content of public disclosure
Timing of and access to, public disclosure
The audit process
Board Structure & Process
Role and effectiveness of board.
Role and independence of outside directors
Director and executive compensation, evaluation and succession policies
A company Corporate Governance Score ('CGS') reflects Standard and Poor's assessment of a company's corporate governance practices and policies and the extent to which these serve the interests of the company's financial stakeholders, with an emphasis on shareholders' interests. For purposes of the CGS, corporate governance encompasses the interactions between a company's management, its board of directors, shareholders and other financial stakeholders
The term Corporate Governance score is used to distinguish corporate governance scoring results from credit ratings. A credit rating is generally an opinion of the financial ability of an entity to meet its debt obligations in accordance with their terms. A CGS and the accompanying analysis is a composite assessment of various company practices. Its scope is to benchmark the recent and current standards of corporate governance, rather than to opine on specific financial or commercial performance.
While corporate governance can affect a company's creditworthiness and equity attractiveness, the score does not itself express an opinion about a company's credit quality or share valuation. Standard & Poor's corporate governance analysts are housed within a division separated from credit rating analysts. Accordingly, confidential information obtained during the corporate governance scoring process will not be shared with credit rating analysts unless the client gives written consent to the contrary.
Corporate governance ratings, on the other hand, have been given scant attention and remain a real risk to investors. Agencies appoint corporate governance experts who develop checklists of good corporate governance practices based on the Code. These practices set forth their view of desirable corporate and board structures, policies, and procedures against which they compare and rate every company. Companies that conform to these "best" practices are deemed to have "good" corporate governance and those that do not are given bad ratings. Simple enough, but the end results don't measure up. There is little consistency between the ratings of one agency and the other. For instance, a company that has a good corporate governance rating with one agency may have a poor rating with another. In short, one size fits all approach to corporate governance is rarely a good fit. Something smells equally troubling are the conflicts of interest connected with corporate governance rating services. The issue arises when corporate governance rating agency rates the company while at the same time providing consultancy to those same companies on how to improve their corporate governance rating. The ethical conflict is obvious. This is like having the same person both as umpire and a coach.
Therefore, being board members, seeking to improve your company's corporate governance, recognize that every business faces unique challenges. Consult a corporate governance expert who takes that perspective and will provide you with meaningful advice relevant to your company's situation. Additionally, keep in mind that regulatory officials increasingly seek to hold corporate officials personally accountable for business decisions, so it may be worth getting more than one perspective in situations involving difficult issues.
New Code of Corporate Governance of Pakistan 2012 - Rundown
April 10th, 2012 The Federal Minister for Finance launched the Code of Corporate Governance, 2012. The Code sets a minimum benchmark in terms of governance standards, brings consistency in the corporate practices and promotes transparency through enhanced disclosure requirements
A summary of new code is given below:
1. The Code, 2012 requires at least one independent director while preference is for 1/3rd of the total members of the board to be independent directors.
2. Criteria for assessment of independence have been substantially expanded.
3. Maximum number of Executive Directors has been decreased from 75% to 1/3rd of elected directors including CEO.
4. Number of directorships has been decreased from 10 to 7 that a director can hold at the same time.
5. Requirement of board evaluation has been introduced
6. Office of the Chairman and CEO has been separated. The Chairman shall now be elected from amongst the non-executive directors of a listed company.
7. It will now be mandatory for directors of listed companies to attain certification under any director training program offered by any institution (local or foreign), which meets the criteria specified by the SECP. The criteria are available at the websites of the stock exchanges and the SECP.
8. The appointment, remuneration and terms and conditions of employment of the Chief Financial Officers (CFO), Company Secretary (CS) and the Head of Internal Audit (IA) of listed companies shall be determined by the Board rather than CEO. The removal will also be by the Board for CS and CFO.
9. Qualification introduced for Head of IA. The removal of Head of IA is with the approval of the Board only upon recommendation of the Chairman of the Audit Committee.
10. A formal and transparent procedure to be followed regarding remuneration of Directors and disclosure of aggregate remuneration in the annual report.
11. It is now mandatory for the Chairman of the audit committee to be an independent director, who shall not be the chairman of the board. Audit Committee shall comprise of non-executive directors.
12. The secretary of Audit Committee shall either be the Company Secretary or Head of Internal Audit. However, the CFO shall not be appointed as the secretary to the Audit Committee.
13. Human Resources and Remuneration Committees have been introduced.
14. The internal audit function may be outsourced by a listed company to a professional services firm or be performed by the internal audit staff of the holding company.
Key to corporate governance lies in the change in mindset. It is the joint responsibility of all concerned and not just the regulators prerogative. It should be viewed as a means towards achieving value creation and sustainability and only then can one reap the benefits of sustained economic growth and development at a macro level.
It is vital to note that most the responding companies agree that proper implementation of the code will provide intrinsic benefit beyond mere compliance. Though almost all the companies have responded in affirmative but what is actually to be judged is, whether the Boards have come out of the tick- box approach and have implemented the Code in spirit? The general impression is that, majority of the companies tend to comply with the code as a mere obligation. Hence, it can be noted that the soul of corporate governance is still missing.
It is evident from the survey that the cosmetic ingredients which are disclosed to the regulatory bodies and stake holders, are in place but the true spirit that forms the culture of corporate governance in an organization was lacking.
Although many of the directors in these companies mentioned that corporate governance is mindset and the way stakeholders steer the company, yet the practices revealed some interesting facts that negate the approach.
It was observed that there was no clear distinction between the ownership and control. Family owned companies are typically managed by the owners themselves. However in the case of multinationals, there is often a direct relationship between the foreign owner and management bypassing the boards. Hence, many important corporate decisions are thus never made at board level and consequently boards are not the driving force behind the key strategic decisions.
One of the key purposes of the Code is to strengthen the role of boards in the governance of the companies. The new code has further reinforced the role of non-executive independent directors. However, in case of a dominant ownership structure, the controlling families continue to have an uneven representation on the board. Importantly, it is necessary for outsides to play a more significant role on the boards, in order to make it more professional and accountable to all shareholders.
Taking a closer look in to the corporate governance practices being followed in the companies, revealed through the survey has been summarized below under the broad categories.
Board Composition and Size
The new code of corporate governance of Pakistan as given by the SECP emphasize on the presence of more independent directors vs non-executive directors, now it is preferable to have 3 independent directors on the board while executive directors should be 1/3 of the total board size.
Looking at the international practices, Singapore code gives companies the leverage on the board size as long as 1/3 of the size comprise of independent directors. Malaysian code as such doesn't put much emphasis on the board size and its composition specifically but, it says that the board should have a balance of executive and non executive/independent directors. And, the Hong Kong code proposes that there should be 3 independent directors on the board out of which one must have profession qualification or accounting or management experience. (see appendix for international codes of corporate governance). Ideally comparing all the four codes, Singapore and Pakistan's code emphasize on 1/3 representation of independent directors on the board.
During the study it was found that majority of the boards comprises of mostly non-executive directors. The rationale behind having independent directors in that, they bring a fresh perspective and independent thinking on the board and into the governance. Since independent directors contribute greater impartiality in their judgments. While commenting of the size of the board being sufficient for the affairs of their company, minimum requirement of 7 members is at least being followed in all these companies, but sufficiency of members remained a question mark.
Point to ponder
Independence of the directors at a subsidiary level remains a mystery, whereas the same director has been appointed as an independent director for a holding company. Whether they are truly independent or not, is an ambiguity in the code.
However, the code does mention that, in case a director completes more than 3 tenures in same company they are no more treated as independent directors.
Qualification of Board
Neither the Code of Corporate Governance Pakistan nor international codes of Hong Kong, Malaysia and Singapore mention the qualification criteria for the selection of board members. However, the international code of Hong Kong does mention the eligibility criteria for the board member. (see Appendix)
Survey revealed that none of the companies had a written or required qualification criterion for the board members. However, it was observed that all these companies considered the blend of business knowledge, industry exposure and area of their expertise, imperative to their presence on the board. Only 3 out of 8 companies had few certified directors on their board through PICG and IoDUK (Institute of Directors, UK). Minimum weightage was assigned to the significance of certification of directors. None of these companies mentioned the importance of education as qualification criteria for the board members, as long as they act, in the best interest of the company and shareholders, in good faith.
No code of corporate governance whether Pakistan of international talk about the board responsibilities and duties. However, importance has been laid on the training and orientation of the board members upon their appointment. The orientation covers the scope responsibilities and extent of engagement at the board level. Pakistan Code emphasizes of the directors training. Similarly Singapore code mentions the importance of directors training on their responsibilities and duties. However, Malaysian code only talks about director's orientation. While Hong Kong code does not cover board responsibilities area.
Usually under the best practices, the board members are provided with a guideline to assist the members to clarify and understand their roles and duties. None of the companies (non-financial sector), under observation had any such written document or format in this respect, but directors were given a ToR (Term of Reference) with their appointment.
However, the board members are made to go through an orientation process by the company secretary on the scope and extent of their responsibilities, and level of engagement. Looking at the financial sector, mostly companies follow the Companies Ordinance 1984, that enlist the duties and responsibilities for the board members under sec 196.
While commenting of the board responsibility, Shabbir Hashim - Independent Director said: "Ideally a board's 30% of the scope of responsibility should be towards compliance and control, while 70% focus should be on Risk Management"
ERM appeared to be another turning point in the best practices of corporate governance, which is a good discipline if followed.
Further to this discussion, it was suggested that ERM should be carried out as simple exercise. To begin with, risks should be identified firstly at departmental levels along with the mitigants of risk and action plan corresponding to those factors. Critical risks that effect the bottom line of the firm should then be shortlisted and tabled to be monitored by the board.
Chairman and CEO of the Board
According to the Code of Corporate Governance by SECP, the chairman should be elected among the non-executive directors of the listed companies. While as per the international code of Hong Kong and Malaysia, the chairman is given a leadership role. Also, all these three codes say that the chairman is responsible for the coordination among the board members. Singapore code does not talk about the role of chairman on the board at all.
Subsequently, all the four codes mention that the chairman and the CEO should be a different person.
Generally it is observed that, in the family owned businesses and in certain MNCs the Chairman and the CEO is the same person, while the survey results indicate that in only 1 out of 8 companies, the Chairman was also the CEO. Under the best practices and as mentioned in the Code the Chairman and CEO, should be different to separate the control and ownership, benefit the minority shareholders and bring more accountability into the strategic decisions.
A strong CEO and Chairman as a person is not a bad thing, as long as the team has the stake in the decisionsâ€¦. Jamal Abbas Zaidi - Deputy CEO JCR-VIS
Code of Corporate Governance of Pakistan and Hong Kong stipulates that the board should atleast meet four times a year. While the code of Malaysia and Singapore do not lay much emphasis on the number of meetings for the board. (see appendix)
As a best practice, Code requires the company to meet atleast 4 times a year. The survey results show that, all the companies have gone beyond the realm of minimum requirement by the code, to meet and discuss the strategic issues and vision of the company. The calendar with tentative dates for the meeting is issues to all the members during the year. However, companies have met on needed basis depending upon the intensity of strategy.
Minimum compliance regarding the meeting schedules, meeting notices and minutes circulation is being followed by all these listed companies under observation.
Previously, code of corporate governance of Pakistan emphasized on the importance of audit committed, but the new code draws attention towards HR and Remuneration committee too at the board level. The international code of Hong Kong, Malaysia and Singapore, doesn't highlight the mandatory presence of Audit or HR/ Remuneration committee on the board.
The general practice followed by the surveyed companies mainly had the following board committees, apart from Management Committees; Audit Committee, Investment Committee, Risk Management Committee, all chaired by the non-executive directors. All the directors interviewed, laid utmost importance on the board audit committee.
Few discussion points that were brought forward are summarized below:
Compensation committee has to be headed by the Chairman, and CEO should be part of this committed on invitation only, as per corporate governance best practices.
The key to good corporate governance is that there should be a strong reporting line of internal auditor into the board audit committee.
Companies should internalize internal audit as much as they can.
One point that is held controversial is, internal auditor can/cannot be the secretary to the board audit committee, as per the independent director during the interview.
The new code by SECP has made the audit committee very powerful. Regarding the composition of the audit committee, both Pakistan and Singapore code mentions the size of 3 member, and all should be non-executive. In Pakistan atleast one member on the committee should have related financial expertise and knowledge and Singapore requires atleast two members with relevant finance skills/ expertise and experience. SECP code emphasized on meeting once every quarter, whereas Singapore only stipulates that committee should meet with the internal and external auditor atleast once in a year in the absence of company's management.
Malaysian code states that no executive director can be a member of the audit committee and does not comment the size and composition of the audit committee either. The committee should meet with the external auditors twice a year in the absence of management.
Hong Kong code does not cover audit committee composition and qualification at all. But, it restricts the partner of the former auditing firm to be part of another audit committee for atleast one year, to avoid the conflict of interest. None of the other codes under study mentions such restrictions. Committee shall meet atleast one a year as per the Code.
Only SECP code talks about the powerfulness of the audit committee, but doesn't mention the limitations of external or internal auditors unlike other international codes. All the Codes, besides reviewing the financial and quarterly accounts and compliance, empower the audit committee to recommend the board on the matters of appointment and removals of external auditor.
Survey reveals that's, as per the best practices and minimum compliance, all the companies under study have met atleast four times a year, have audit charter in place that states the agenda and responsibilities of the audit committee. They have three members on the committee all of which are non executive directors. The chairmen on the audit committee however have the financial knowledge and expertise, but no specific qualification criteria is followed for the selected on chairman of the audit committee. Only Engro Corp out of all the companies surveyed is vigorous on compliance and proactiveness towards the corporate governance culture. Engro Corpo produces a separate financial report and annual sustainability report, for which they have been awarded a Merit Certificate in 2010. This report entails the corporate governance strategy and framework, business and financial review, awards and recognitions, value addition, profit, people, environment, benefitting communities, stakeholders engagement etc which highlight the company's approach toward best practices.
It was highlight that the key to good corporate governance is to have a strong reporting line of internal audit committee into board audit committee. Companies should not outsource their internal audit and internalized their audit function as much as possible.
Role of Audit Committee
There has been a trend towards the establishment of strong and powerful audit committees in order to provide the board with a greater understanding of the company's financial health, through a formal source. An audit committee should play an independent oversight role by ensuring that the management maintains an effective control system while, at the same time highlight any potential problems that may affect the company's operations. Effectively structured audit committees provide an oversight of the financial reporting process, internal controls and the audit function.
The audit committee must be informed and diligent in fulfilling its duties and responsibilities. Without sound judgment, good communication with the board, management and auditors, and a healthy level of scepticism the effectiveness of audit committee will be substantially reduced. At the same time audit committees require the support of management in providing necessary information and resources in order to operate effectively and meet their objectives. It is essential that the board, management, internal auditors, external auditors and audit committees work together to ensure the effectiveness of audit committee and as a result enhance the corporate governance.
Establishing an effective audit committee depends primarily on the committee composition and the level to which the committee has access to timely and crucial company information. As per the code the committee should atleast meet quarterly. This frequency will ensure that they stay current on the recent events and make timely decisions. This subsequently includes the responsibility of ERM on the Board members. A strong and clear reporting line of internal and external auditors in crucial to board audit committees effectiveness.
The audit committee should also understand the action being taken by the management to address any weaknesses indentified in the internal control systems. Similarly, special consideration should be given to areas of risk that need attention or monitoring by the board.
International corporate governance standards and codes are increasingly emphasizing the need for boards to evaluate their effectiveness. For example, the UK's Combined Code states: "The board should undertake a formal and rigorous annual evaluation of its own performance and that of it's a committees and individual directors."
Code of corporate of Hong Kong, Malaysia and Singapore all emphasize on the board evaluation and highlight the parameters of the evaluation criteria. In Singapore and Malaysia nomination committee should be responsible to undertake the board evaluation and its sub-committees.
As per SECP, the board has to put in place the mechanism for its evaluation within two years of the introduction of the code of 2012. However it does not define any kind of parameter on which the board's performance should be evaluated.
None of the companies had a set mechanism for board evaluation or individual directors, neither its sub committees. However, the new code emphasizes that there should be a formal system for board of directors' evaluation. As per the international best practices, there are set performance measures and a mechanism in place to evaluate the board as a whole and the contribution of individual directors on the board done by the Nomination Committee in most of the international companies. Why code specifies a delay for two year is again a question mark that regulator need to revisit. Now the critics and the supporter of the corporate governance await to see which companies lead and are proactive to put an evaluation system in place for the board and its sub committees. This will create more transparency and disclosure on part of the company's compliance to best practices.
One school of thought as a practice in Pakistani listed companies shows that, independent directors are reluctant and of the opinion to be evaluated, since they are elected by the shareholders.
Under the best practices of corporate governance, importance of succession planning can be overlooked. Almost all the international codes recommend on having a HR committee responsible mainly to ensure that the succession planning is in place. In all the companies under observation, succession planning is being done for the key positions like CEO, CFO, Internal Auditor, and one level below for each business unit as well, from the pool of high potential employees.
The responsibility of Succession planning for the company's key position lies with the board. The plan must be review and revised every year by the board members.
Corporate Social Responsibility
Internationally the relationship between organizations and society has moved on from paternalistic philanthropy to reexamination of business, its role and responsibilities. Corporate responsibility and corporate governance are inextricably entangled, especially in the global context.
It has been observed that MNCs operating in a society like Pakistan where a large faction of people possess negative sentiments against western corporation spend in lieu of CSR as a point scoring tool and to change people's perception, which indicates that CSR has become a marketing gimmick.
The true essence of CSR probes organizations to contribute a lot towards society where they are operating their businesses. During the survey it has been found that most of the companies have a certain percentage of PAT that is used for CSR activities. But a question remains is it enough from big conglomerates towards the wellbeing of society?
Following weak areas have been identified. Gaps between the SECP code and actual practice were identified, which are summarized below:
Board Performance Evaluation - although the code highlights the implementation to performance mechanism in place, but it does not define the set of parameters or performance measure. However, companies can follow the international mechanism for board's evaluation.
Succession Planning - no proper formula is developed and followed by the companies. Succession planning is done only for the key positions in the organization and not for management and below. Engro Crop out of all the companies under survey has a proper succession planning program and same formula is followed across the board.
Board Qualification - neither the code nor the company law mentions any qualification criteria for the board members selection in terms of academic qualification.
Board Responsibilities - Board members duties and responsibilities are not well defined as per the code. Although companies do have an orientation program for the directors upon their induction in to the board, on the scope and extent of responsibilities.
Board Audit Committee and its Role - the code highlight the gap in the financial literacy of the audit committee members. As much as the board audit committee had been made power and high emphasis has been laid on its role, there are no set qualification criteria for the selection of the committee members. The role of ab ideal audit committee has already been discussed above.
Recent state regulations emphasize of greater corporate governance standards in the areas of director independence, board size, and board responsibilities and its evaluation. Ensuring the implementation and execution of these governance practices to create truly independent boards and suitable board structures is now the most pressing objective.
It is observed that majority of the companies listed in Pakistan have been unable to touch the soul of corporate governance. And failed to understand the benefit their companies can reap with good governance practices. The execution of best governance has always been a resistance from many companies, mainly due to the reason that many companies in Pakistan are family owned, and decision are dominated by the owners in their own interest; hence they lack the long term vision and direction for the company and economy as a whole. This in turn is unable to develop a professional environment to cultivate the ecosystem for corporate governance.
It was observed that few companies had incorporated the concept of whistle blowing in the corporate culture; this shows these companies understand the true essence of corporate governance. These companies have started to adopt whistleblower policies, e.g. by creating websites, where employees can anonymously post complaints. Labor/trade unions have a "collective bargaining agent" who presents the grievances of employees on their behalf. However there is no specific whistleblower protection under the law. The concept of whistle blowing is becoming very common. Only 3 out of 8 responding companies have such a mechanism in place. Whistle blowing should be encouraged to curb the unethical practices which are harmful to the image of the company.
What actually needs to judged is, if the boards have come out of the tick-box approach to implement the code in spirit than just mere compliance. Also, if the system laid by the board ensures full disclosure of material information. Although all the listed companies now issues a statement of compliance of code of corporate governance but the question is, if this statement sufficient enough to prove the compliance with the best practices?
The code of corporate governance requires the directors to "carry out their fiduciary duties with a senseÂ of objective judgment and independence inÂ the best interests of the company".
Â However, the expression "fiduciary duties" is not defined in the Code.Â SECP mayÂ
consider listing out the fiduciary duties to make this provision more definite and, thus,Â effectively enforceable.Â In this regard, SECP may include the list of fiduciary dutiesÂ from the Manual of Corporate Governance.
There is a conservative bias in every country that impedes institutional change.Â Corporations do not take Corporate Governance seriously considering that it hampers their attention from business operation and bottom line is the financial strength which they do possess but when crisis strikes, that bias lessens and at times vanishes,Â bringing openness towardsÂ the long awaitedÂ change.Â Whatever idea is waiting in the wings at that time can be sweptÂ into reality.Â Thus, American Progressivism, German National Socialism, Italian Fascism, Japanese militarism, and Swedish Social Democracy all became incarnate during the depressions of the 1920s and 1930s. Hopefully with the passage of time similar change will outburst in Pakistan