Introduction To Corporate Governance PDF

BM2001 INTRODUCTION TO CORPORATE GOVERNANCE Overview of Corporate Governance Corporate governance is a system of direction, feedback, and control using regulations, per...

BM2001 INTRODUCTION TO CORPORATE GOVERNANCE Overview of Corporate Governance Corporate governance is a system of direction, feedback, and control using regulations, performance standards, and ethical guidelines, to hold the company's Board and senior management accountable for ensuring ethical behavior to the benefit of all stakeholders and society. To raise the corporate governance standards of Philippine corporations to a level at par with its regional and global counterparts, the Securities in Exchange Commission (SEC) approved and released on November 22, 2016, the SEC Memorandum Circular No. 19. This memorandum circular is the Code of Corporate Governance for Publicly Listed Companies (CG Code for PLCs). The Code adopts the "comply and explain" approach. This approach combines voluntary compliance with mandatory disclosure, and it means that companies do not have to comply with the Code. Still, they must state in their annual corporate governance reports whether they comply with the Code provisions, identify any areas of non-compliance, and explain the reasons for non-compliance. The Code contains these three (3) parts: Principles - These are high-level statements of corporate governance good practice that apply to all companies. Recommendations - These are objective criteria that are intended to identify the specific features of corporate governance good practice that are recommended for companies operating according to the Code. Explanations - It supplements the recommendations which aim to provide companies information about best practices in corporate governance. What is Good Governance? Like the government, governance can be good or bad. Bad government and bad governance have similar characteristics: corruption, whimsical and expedient decision-making, shortsightedness, disregard for the concern of the many in the decisions. In the same vein, the criteria for good governance is the same as corporate governance. They include (Office of the Ombudsman, n.d.): accountability; ethics in decision-making and implementation; transparency and predictability; rule-bound decision-making and action; responsiveness; and a long-term view of the public interest. The public should, therefore, have a right to expect laws, a fair judicial system, politically accountable lawmaking, and active and reform-minded bureaucracy. Eight (8) Characteristics of Good Governance (Office of the Ombudsman, n.d.) Participation - All men and women should have a voice in decision-making, either directly or through a legitimate intermediate organization that represents their interests. Such broad participation is built on freedom of association and speech, as well as capacities to participate constructively. 01 Handout 1 *Property of STI  [email protected] Page 1 of 9  BM2001 Rule of law - Good governance requires fair legal frameworks that are imposed impartially. It also requires full protection of human rights, particularly those minorities. Impartial enforcement of laws requires an independent judiciary and an impartial and incorruptible police force. Transparency - It means that decisions are taken, and their enforcement are done in a manner that follows the rules and regulations. It also means that information is freely available and directly accessible to those who will be affected by such decisions and enforcement. It also means that enough information is provided and that it is provided in easily understandable forms and media. Responsiveness - It requires that the organization and processes try to serve all stakeholders within a reasonable timeframe. Consensus oriented - It means organization mediates differing interests to reach a broad consensus on what is in the best interests of the group, and where possible, on policies and procedures. Equity and inclusiveness – The organization must ensure that all its members feel they have a stake in it and do not feel excluded. This requires, all groups, but particularly the most vulnerable, have opportunities to improve or maintain their well-being. Effectiveness and efficiency - It means that processes and organizations must produce results that meet needs while making the best use of resources. Accountability - Decision-makers must be accountable to the public, as well as to organizational stakeholders. Board of Directors Board of Directors (BOD) are the governing body elected by the stockholders that exercises the corporate powers of a corporation, conducts all its business and control its properties. Establishing a Competent Board (Securities and Exchange Commission, 2016) The company must establish a competent, working board to foster the long-term success of the corporation, sustain its competitiveness and profitability, in a manner consistent with its corporate objectives and the long- term best interests of its shareholders and other stakeholders. The Code suggests that to be competent, the company's BOD should: have directors with a collective knowledge relevant to the company's industry/sector; have a majority of non-executive directors (NEDs); create policy training of directors; have a policy on board diversity; and be assisted by the corporate secretary and compliance officer. Roles and Responsibilities of the Board (Securities and Exchange Commission, 2016) It is the Board's responsibility to foster the long-term success of the corporation and secure its sustained competitiveness in a manner consistent with its fiduciary responsibility, which it should exercise in the best interest of the corporation and its shareholders. General Responsibility A director's office is one of trust and confidence. He should act in the best interest of the corporation in a manner characterized by transparency, accountability, and fairness. He should exercise leadership, prudence, and integrity in directing the corporation towards sustained progress over the long term. A 01 Handout 1 *Property of STI  [email protected] Page 2 of 9  BM2001 director assumes certain responsibilities to different constituencies or stakeholders, who have the right to expect that the organization is being run prudently and soundly. To ensure good governance of the corporation, the Board should establish the corporation's vision and mission, strategic objectives, policies, and procedures that may guide and direct the activities of the company and the means to attain the same as well as the mechanism for monitoring management's performance. While the management of the day-to-day affairs of the organization is the responsibility of the management team, the Board is, however, responsible for monitoring and overseeing management action. Duties and Functions To ensure a high standard of best practice for the company and its stakeholders, the Board should conduct itself with utmost honesty and integrity in the discharge of its duties, functions, and responsibilities which include, among others, the following: i. Install a process of selection to ensure a mix of competent directors. Each of them can add value and contribute independent judgment to the formulation of sound corporate strategies and policies. ii. Determine the corporation's purpose and value, as well as strategies and general policies to ensure that it survives and thrives despite financial crises and its assets and reputation, are adequately protected. iii. Ensure that the corporation complies with all relevant laws, regulations, and codes of best business practices. iv. Identify the corporation's major and other stakeholders and formulate a clear policy on communicating or relating with them accurately, effectively, and sufficiently. There must be an accounting rendered to them regularly to serve their legitimate interests. v. An investor relations program that reaches out to all shareholders and fully informs them of corporate activities should be developed. vi. Adopt a system of internal checks and balances, which may be applied in the first instance to the Board. vii. Endeavor to provide appropriate technology and systems rating to account for available resources to ensure the position of a meaningful and robust competitor. Identify key risk areas and key performance indicators and monitor these factors with due diligence. viii. Constitute an Audit and Compliance Committee. ix. Properly discharge Board functions by meeting regularly. Independent views during Board meetings should be given due consideration, and all such meetings should be duly documented. x. Keep Board authority within the powers of the organization as prescribed in the articles of incorporation, by-laws, and existing laws, rules, and regulations. Executive director - It refers to a director who is at the same time appointed to head a department/unit within the corporate organization. Non-executive director - It refers to a Board member with non-executive functions. 01 Handout 1 *Property of STI  [email protected] Page 3 of 9  BM2001 Qualifications of Director (Securities and Exchange Commission, 2016) Every director shall own at least one (1) share of the capital stock of the corporation of which he is a director, which share shall stand in his name in the books of the corporation. The Board may provide for additional qualifications of a director such as, but not limited to, the following: a. Educational attainment b. Adequate competency and understanding of business c. Age requirement d. Integrity/probity (honesty) e. Assiduousness The Board should adopt a code of business ethics and conducts. Ensure Proper implementation and efficient monitoring of compliance with the Code. Disqualifications of Director (Securities and Exchange Commission, 2016) a. Any person who has been finally convicted by a competent judicial or administrative body of the following: (i) any crime involving the purchase or sale of securities, e.g., proprietary or non-proprietary membership certificate, commodity futures contract, or interest in a common trust fund, pre- need plan, pension plan or life plan; (ii) any crime arising out of the person's conduct as an underwriter, broker, dealer, investment company, investment adviser, principal distributor, mutual fund dealer, futures commission merchant, commodity trading advisor, floor broker; and (iii) any crime arising out of his relationship with a bank, quasi-bank, trust company, investment house or as an affiliated person of any of them. b. Any person who, because of any misconduct, after hearing or trial, is permanently or temporarily enjoined by order, judgment or decree of the Commission or any court or other administrative body of competent jurisdiction from: (i) acting as an underwriter, broker, dealer, investment adviser, principal distributor, mutual fund dealer, futures commission merchant, commodity trading advisor, or a floor broker; (ii) acting as a director or officer of a bank, quasi-bank, trust company, investment house, investment company or an affiliated person of any of them; (iii) engaging in or continuing any conduct or practice in connection with any such activity or willfully violating laws governing securities, and banking activities. Such disqualification shall also apply when such person is currently subject to an effective order of the Commission or any court or other administrative body refusing, revoking or suspending any registration, license or permit issued under the Corporation Code, Securities Regulation Code, or any other law administered by the Commission or Bangko Sentral ng Pilipinas, or under any rule or regulation promulgated by the Commission or Bangko Sentral ng Pilipinas, or otherwise restrained to engage in any activity involving securities and banking. Such a person is also disqualified when he is currently subject to an effective order of a self-regulatory organization suspending or expelling him from membership or participation or from associating with a member or participant of the organization. c. Any person finally convicted judicially or administratively of an offense involving moral turpitude, fraud, embezzlement, theft, estafa, counterfeiting, misappropriation, forgery, bribery, false oath, perjury or other fraudulent act or transgressions. 01 Handout 1 *Property of STI  [email protected] Page 4 of 9  BM2001 d. Any person finally found by the Commission or a court or other administrative body to have willfully violated, or willfully aided, abetted, counseled, induced or procured the violation of, any provision of the Securities Regulation Code, the Corporation Code, or any other law administered by the Commission or Bangko Sentral ng Pilipinas, or any rule, regulation or order of the Commission or Bangko Sentral ng Pilipinas, or who has filed a materially false or misleading application, report or registration statement required by the Commission, or any rule, regulation or order of the Commission. e. Any person judicially declared to be insolvent. f. Any person finally found guilty by a foreign court or equivalent financial regulatory authority of acts, violations or misconduct similar to any of the acts, violations or misconduct listed in paragraphs (a) to (e) hereof. g. Any affiliated person who is ineligible, because of paragraphs (a) to (e) hereof to serve or act in the capacities listed in those paragraphs. h. Conviction by final judgment of an offense punishable by imprisonment for a period exceeding six (6) years, or a violation of the Corporation Code, committed within five (5) years before the date of his election or appointment. i. The Board may also provide for the temporary disqualification of a director for the following reasons: (i) Refusal to fully disclose the extent of his business interest as required under the Securities Regulation Code and its Implementing Rules and Regulations. This disqualification shall be in effect as long as his refusal persists. (ii) Absence or non-participation for whatever reason/s for more than fifty percent (50%) of all meetings, both regular and special, of the Board of directors during his incumbency, or any twelve (12) month period during said incumbency. This disqualification applies for purposes of the succeeding election. j. Dismissal/termination from directorship in another listed corporation for cause. This disqualification shall be in effect until he has cleared himself of any involvement in the alleged irregularity. k. Being under preventive suspension by the corporation. l. If the independent director becomes an officer or employee of the same corporation he shall be automatically disqualified from being an independent director. m. If the beneficial security ownership of an independent director in the company or in its related companies shall exceed the 10% limit. n. Conviction that has not yet become final referred to in the grounds for the disqualification of directors. Board Committees o. The Board shall constitute committees in aid of good corporate governance. A. The Audit Committee shall be composed of at least three (3) Board members, preferably with accounting and finance background, one of whom shall be an independent director and another should have related audit experience. It shall have the following specific functions (Office of the Ombudsman, n.d.): a. Provide oversight over the senior management's activities in managing credit, market, liquidity, operational, legal, and other risks of the corporation. This function shall include receiving from senior management periodic information on risk exposures and risk management activities. However, in consideration of the risk profile of the corporation, the Board may constitute a separate Risk Management Committee to focus on carrying out this oversight role over risk management; b. Provide oversight of the corporation's internal and external auditors; 01 Handout 1 *Property of STI  [email protected] Page 5 of 9  BM2001 c. Review and approve audit scope and frequency, and the annual internal audit plan; d. Discuss with the external auditor before the audit commences the nature and scope of the audit, and ensure coordination where more than one audit firm is involved; e. Responsible for the setting-up of an internal audit department and consider the appointment of an internal auditor as well as an independent external auditor, the audit fee and any question of resignation or dismissal; f. Monitor and evaluate the adequacy and effectiveness of the corporation's internal control system; g. Receive and review reports of internal and external auditors and regulatory agencies, where applicable and ensure that management is taking appropriate corrective actions, in a timely manner in addressing control and compliance functions with regulatory agencies; h. Review the quarterly, half-year and annual financial statements before submission to the Board, focusing particularly on: Any change/s in accounting policies and practices Major judgmental areas Significant adjustments resulting from the audit Going concern assumption Compliance with accounting standards Compliance with tax, legal, and stock exchange requirements i. Responsible for coordinating, monitoring and facilitating compliance with existing laws, rules and regulations.; j. Evaluate and determine non-audit work by external auditor and keep under review the non-audit fees paid to the external auditor both in relation to their significance to the auditor and with regard to the company's total expenditure on consultancy. The non-audit work should be disclosed in the annual report; and k. Establish and identify the reporting line of the chief audit executive so that the reporting level allows the internal audit activity to fulfill its responsibilities. The chief audit executive shall report directly to the Audit Committee functionally. The Audit Committee shall ensure that the internal auditors shall have free and full access to all the company's records, properties, and personnel relevant to the internal audit activity and that the internal audit activity should be free from interference in determining the scope of internal auditing examinations, performing work, and communicating results, and shall provide a venue for the Audit Committee to review and approve the annual internal audit plan. The Chairman of this committee should be an independent director. He should be responsible for instilling in the minds of the Board members the importance of management responsibilities in maintaining a sound system of internal control and the Board's oversight responsibility. For Philippine branches or subsidiaries of foreign corporations covered by this Code, the local audit head for such entities should be independent of the Philippine operations. It should report to the regional or corporate headquarters. B. The Board may also constitute the following committees: a. The Nomination Committee which may be composed of at least three (3) members, one of whom should be an independent director may review and evaluate the qualifications of all persons nominated to the Board as well as those nominated to other positions requiring appointment by the Board and provide assessment on the Board's effectiveness in directing the process of renewing and replacing Board members. 01 Handout 1 *Property of STI  [email protected] Page 6 of 9  BM2001 b. The Compensation or Remuneration Committee may be composed of at least three (3) members, one of whom should be an independent director. It may establish a formal and transparent procedure for developing a policy on executive remuneration and for fixing the remuneration packages of corporate officers and directors, and provide oversight over the remuneration of senior management and other key personnel ensuring that compensation is consistent with the corporation's culture, strategy, and control environment. Commitment and Independence Commitment To show full commitment to the company, the directors should devote time and attention necessary to properly and effectively perform their duties and responsibilities, including sufficient time to be familiar with the corporation’s business. Recommendations in Fostering Commitment (Securities and Exchange Commission, 2016) 1. The directors should attend and actively participate in all meetings of the Board, Committees, and Shareholders in person or through tele-/videoconferencing conducted under the rules and regulations of the Commission, except when justifiable causes, such as illness, death in the immediate family and serious accidents, prevent them from doing so. 2. The non-executive directors of the Board should concurrently serve as directors to a maximum of five publicly listed companies to ensure that they have sufficient time to fully prepare for meetings, challenge management’s proposals/views, and oversee the long-term strategy of the company. 3. A director should notify the Board where he/she is an incumbent director before accepting a directorship in another company. Board Leadership Should the Chief Executive Officer serve as the Chairman of the Board? Answer: No. There should be a separate role for the CEO and Chairman of the Board for the following reasons: - Better balance of power - Increased accountability - More objective decision making CEO leads management while the Chairman is focused on major decisions as to operations. Independence The Board should endeavor to exercise an objective and independent judgment on all corporate affairs. Recommendations in Reinforcing Board Independence (Securities and Exchange Commission, 2016) 1. The Board should have at least three (3) independent directors, or such number as to constitute at least one-third of the members of the Board, whichever is higher. 2. The Board should ensure that its independent directors possess the necessary qualifications and none of the disqualifications for an independent director to hold the position. An independent director refers to a person who, ideally: a. Is not, or has not been a senior officer or employee of the covered company unless there has been a change in the controlling ownership of the company; 01 Handout 1 *Property of STI  [email protected] Page 7 of 9  BM2001 b. Is not, and has not been in the three years immediately preceding the election, a director of the covered company; a director, officer, employee of the covered company’s subsidiaries, associates, affiliates or related companies; or a director, officer, employee of the covered company’s substantial shareholders and its related companies; c. Has not been appointed in the covered company, its subsidiaries, associates, affiliates or related companies as Chairman “Emeritus,” “Ex-Officio” Directors/Officers or Members of any Advisory Board, or otherwise appointed in a capacity to assist the Board in the performance of its duties and responsibilities within three years immediately preceding his election; d. Is not an owner of more than two percent (2%) of the outstanding shares of the covered company, its subsidiaries, associates, affiliates or related companies; e. Is not a relative of a director, officer, or substantial shareholder of the covered company or any of its related companies or of any of its substantial shareholders. For this purpose, relatives include spouse, parent, child, brother, sister and the spouse of such child, brother or sister; f. Is not acting as a nominee or representative of any director of the covered company or any of its related companies; g. Is not a securities broker-dealer of listed companies and registered issuers of securities. “Securities broker-dealer” refers to any person holding any office of trust and responsibility in a broker-dealer firm, which includes, among others, a director, officer, principal stockholder, a nominee of the firm to the Exchange, an associated person or salesman, and an authorized clerk of the broker or dealer; h. Is not retained, either in his capacity or through a firm, as a professional adviser, auditor, consultant, agent or counsel of the covered company, any of its related companies or substantial shareholder, or is otherwise independent of management and free from any business or other relationship within the three years immediately preceding the date of his election; i. Does not engage or has not engaged, whether by himself or with other persons or through a firm of which he is a partner, director or substantial shareholder, in any transaction with the covered company or any of its related companies or substantial shareholders, other than such transactions that are conducted at arm’s length and could not materially interfere with or influence the exercise of his independent judgment; j. Is not affiliated with any non-profit organization that receives significant funding from the covered company or any of its related companies or substantial shareholders; and k. Is not employed as an executive officer of another company where any of the covered company’s executives serve as directors. 3. The Board’s independent directors should serve for a maximum cumulative term of nine (9) years. After which, the independent director should be perpetually barred from re-election as such in the same company but may continue to qualify for nomination and election as a non-independent director. In the instance that a company wants to retain an independent director who has served for nine years, the Board should provide meritorious justification/s and seek shareholders’ approval during the annual shareholders’ meeting. 4. The positions of Chairman of the Board and Chief Executive Officer should be held by separate individuals, and each should have clearly defined responsibilities. 5. The Board should designate a lead director among the independent directors if the Chairman of the 01 Handout 1 *Property of STI  [email protected] Page 8 of 9  BM2001 Board is not independent, including if the positions of the Chairman of the Board and Chief Executive Officer are held by one person. 6. A director with a material interest in any transaction affecting the corporation should abstain from taking part in the deliberations for the same. Board Balance and Independence The Board should include a balance of executive and non-executive directors (in particular Independent and non-executive directors) such that no individual or small group of individuals can dominate the Board’s decision making. The non-executive directors (NEDs) should have separate periodic meetings with the external auditor and Heads of the internal audit, compliance and risk functions, without any executive directors present to ensure that proper checks and balances are in place within the corporation. The lead independent director should chair the meetings. Board Performance The best measure of the Board’s effectiveness is through an assessment process. The Board should regularly carry out evaluations to appraise its performance as a body, and assess whether it possesses the right mix of backgrounds and competencies. Recommendations in Assessing Board Performance (Securities and Exchange Commission, 2016) 1. The Board should conduct an annual self-assessment of its performance, including the performance of the Chairman, individual members, and committees. Every three (3) years, the assessment should be supported by an external facilitator. 2. The Board should have in place a system that provides, at the minimum, criteria, and process to determine the performance of the Board, the individual directors, committees, and such system should allow for a feedback mechanism from the shareholders. Reference Office of the Ombudsman. (n.d.). The concept and theories of governance. Retrieved March 5, 2020, from http://www.ombudsman.gov.ph/UNDP4/wp-content/uploads/2013/01/Module_I.pdf Securities and Exchange Commission. (2016). Code of corporate governance for publicly-listed companies. Retrieved March 5, 2020, from https://www.sec.gov.ph/wp-content/uploads/2016/12/2016_memo_circular_no.19.pdf 01 Handout 1 *Property of STI  [email protected] Page 9 of 9