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L/O/G/O

Corporate Governance

An Introduction(Konsep dan Kerangka)*

Purwatiningsih Lisdiono

*diambil dari berbagai sumber


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www.themegallery.com


When a business goes wrong, look only to

the people who are running it

-Michael Dell-CEO Dell Corporation


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Definition of CG (1)

Definisi menurut OECD (1999)

Definisi menurut KNKGcari dan bandingkan

Definisi menurut IICGcari dan bandingkan

Definisi menurut Kepmen BUMN tentang Tata Kelola

Perusahaancari dan bandingkan

Secara singkat, CG adalah Processes and structure by

which business and affairs of corporate sector is directedand controlled (Cadbury Committee , 1992)


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Corporate Governance is the system by which businessoperations are directed and controlled.

The corporate governance structure specifies thedistribution of rights and responsibilities among different

participants in the corporation, such as, board, managers,shareholders and other stakeholders, and spells out therules and procedures for making decisions on corporateaffairs.

By doing this, it also provides the structure through whichthe company objectives are set,and the means of attainingthose objectives and monitoring performance,

OECD April 1999.


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World Bank Define corporate governance ininternational context as that blend of law,

regulation and appropriate voluntary private sector

practices which enable a corporation to attract

financial and human capital, perform efficiently, andtherebyperpetuateitself by generating long-term

economic value for its shareholders and society as a

whole


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Shleifer and Vishny (1997) : Corporate governancedeals with the ways in which suppliers of finance to

corporations assure themselves of getting a return

on their investment

This definition can be expanded to define corporate

governance as being concerned with the resolution

of collective action problems among dispersed

investors and the reconciliation of conflicts of interest

between various corporate claimholders.


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For Tuanakotta (1999), corporate governance isessentially about best business practice, aiming toenhance organizational performance and wellbeingand to create shareholder and stakeholder value.

He stated that corporate governance is beyond

structure and compliance. It has to be directed towards process and

effectiveness. It is also beyond compliance anddisclosure.

It has to be directed toward positive performance. Inconclusion, good corporate governance is goodbusiness. Good governance is not separate project, orsimply an add on to running your business. Its runningand managing your business as usual.





It is about check and balance between all organ oforganization.

The most important : it is about changing the way ofthinking to run the business, Changing the mindset.

Making the companies accountable to theirstakeholders.

The key issue :TRANPARENCY and ACCOUNTABILITY



Corporate Governance Theories

Agency Theory (Jensen & Meckling, 1976)

Transaction-cost Economics (Williamson, 1996)

Stewardship Theory (Davis, Schoorman, Donaldson,

1997) Stakeholder Theory (Mitchell, Agle, Wood, 1997)

Others theories that are relevant



Some Background Information

Adolf Berle and Gardiner Means The ModernCorporation and Private Property (1932)

After US Stock market crash

Concerned with performance of modern corporations andefficient use of resources

Issues associated with separation of ownership andcontrol. How do you hold managers accountable?

What are the potential problems?

How can you address those problems?


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Pemegang Saham

RUPS

Dewan Komisaris

Dewan Direksi

Stakeholders

Employees

Customers

SuppliersCreditors

Society

Standards(IAI- accounting

standards)

LawsRegulations

Internal External

Private Regulatory

Bank

Markets Product Markets

Labor Market

Capital Market

Corporate Governance Mechanism :

The Internal and External Architecture

Reputational agents

Accountants

Lawyers

Credit rating Investment bankers

Financial media

Investment advisors

Research


analyst

Internal Auditor

Accounting

Management

Source : Modification from Cadbury (1999) Corporate Governance: A Framework for Implementation, Kim and Nofsinger ( 2004)

Corporate Governance.


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L/O/G/O

Source: The World Bank Group


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Emphasis on Market Institutions

OECD Principles of Corporate Governance

1. Ensuring the Basis for an Effective Corporate

Governance Framework*

2. The Rights of Shareholders and Key OwnershipStructures*

3. The Equitable Treatment of Shareholders

4. The Role of Stakeholders in Corporate

Governance

5. Disclosure and Transparency

6. The Responsibilities of the Board


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Corporate governance intersect with manydisciplines include micro-economics,

organizational theory, information theory, law,

accounting, finance, management, psychology,

sociology and politics.

Each may view corporate governance in a

different way.

Corporate Governance is multi - discipline


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Why is it important? Proliferation of financial scandals and crisis

Loss of trust of investors

Globalization lead to increasing cross-border

investment opportunities but investors may nothave knowledge about the regulatoryframework of overseas investeesinvestorsneed security or safety guaranteethat are

common and can be applied everywhere withsome adaptationone of that guarantee isgood corporate governance practice


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Why is it important (continued) Search for investment (FDI trends) : Investors are

not willing to invest in countries / companies that are corrupt, prone tofraud, poorly managed and lacking sufficient protection for investorsrights one ofthe solution is GCG

Competition push companies to search forlower / cheaper Cost of capital

Privatization

SOE / BUMN reform

Competitiveness pressures

Sustainability


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Again, Why GCG? Main Reason

Corporation interacts with various parties inconducting its business:

Directors / Management

Stockholders

Majority Minority

Creditors

Government

Employees

Public


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Why CG?

Those relations could cause conflict of interest To control/manage that possible conflict of

interests among parties , one of the solution is

to apply CG CG is also needed to protect the interests of

principals from opportunistic behavior of

agent

Ultimate Objective:enhancing shareholder

value, whilst taking into account the interests

of other stakeholders.


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Drivers of Corporate Governance Dealing with

Failures and Scandals

Chile Financial Crisis 1970s

Asian Financial Crisis 1997

Russian Financial Crisis 1998

Impact of governance failures

on:

Companies

Societies

Economies Challenges today: Who is next

to fail? Who wants to fail?Questions remain in regards to Chinas

underlying financial health despite

impressive growth figures


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CorporateGovernance and Competitiveness

Stronger Shareholder Protection=Larger Stock Markets


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Corporate Governance and Competitiveness

Stronger Corporate Governance=Lower Cost of Capital


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Corporate Governance and Competitiveness

Higher Equity Rights=Higher Returns on Investment


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Corporate Governance Business Ethics

CORE VALUES of CG

Transparency

Fairness

Accountability

Responsibility

Guide for behaviorStructure of decision-making


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Ethical Behavior Matters

Why does it matter?

Ethical business practices = ability to retain

existing customers, gain new ones

Positive impact on employees - management Supply chains, global market opportunities

Corporate citizenship and the role of business in

societyif succeed could win the peoples

heartbecome competitive advantage


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Applying ethics

Bright lines vs. values Ethics as a set of evolving guidelines

Ethics and responsible decision-making by the

Board


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Board of Directors

Fundamentals:

Duty of care

Duty of loyalty

Business judgment rule


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Institutions Matter!

Functioning Markets

Better Environment for Doing Business

Rule of

Law

Good

Governance

Property

Rights

Access to

Information

Market

Entry


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Objective of Corporate Governance

Build up an environment of trust and confidence amongst thosethat having competing and conflicting interest

Enhance shareholders value and protect the interest of otherstakeholders by enhancing the corporate performance andaccountability

Promote the efficient use of scarce resources

Promote the trust of investors

Good corporate governance has a positive link to economicdevelopment and good corporate performance

Funds will flow to entities which are seen to have internationallyaccepted standards of corporate governance

Corporate Governance also plays an important role in maintainingcorporate integrity and managing the risk of corporate fraud,combating against management misconduct and corruption


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What can good corporate governance

bring to a corporation?

Creation and enhancement of a corporationscompetitive advantage

Enabling a corporation to perform efficiently andpreventing fraud and malpractice

Providing protection to shareholders interest Increasing the valuation of an enterprise

Ensuring compliance with laws and regulations

Alleviating poverty by enhancing socialresponsibilitiese

Increase trust of shareholders and creditors lower cost of capital


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Corporate governance at the heart of investmentdecisions

75% ready to pay premium for high governance

standards

Premium range:

1214% North America, Western Europe

20-25% Asia, Latin America

30%+ Eastern Europe, Africa

Investor surveys: McKinsey 2002


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Today, the importance of good governanceis widely appreciated (even in Asia).

Good governance is a very easy phrase to

say, but much harder to understand and

to appreciate.

It is not only for companies, but also forpublic institutions (Public Sector

Governance)


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The Core Values of CG

Transparency

Accountability

Fairness

Responsibility


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Organs CG

General Meeting of Shareholders (RUPS) Board of Commissioners (Dewan Komisaris)

Independent commissioners

Remuneration Committee

Nomination Committee Audit Committee

CG Committee

Risk Management Committee

Board of Directors (Direksi) Internal Audit

Risk Management Team


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MANAGEMENT

VsCORPORATE GOVERNANCE


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Agency

Relationship

Risk Bearing Specialist

(Principal)

Managers(Agents)

Decision

Makers

which creates

Managerial Decision-

Making Special ist

(Agent)

Hire

An agency relationship exists when:

Shareholder

(Principals)

Firm

Owners

Agency Theory (Jensen and Meckling)


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Conflict of Interests

Insiders have an information advantage overother parties (i.e. outsiders).

Insiders: Management, Majority Stockholders

Outsiders: Creditors, Minority Stockholders,Government, Employees, Public

These parties pursue their own interests(i.e.,self-interest), which can be conflicting

As a result, the parties whose action isunobservable tend to shirk (i.e., insiders),which is detrimental to the other parties


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Shareholder Manager Conflict

The self-interested behavior of managers maybe at conflict with the interest ofshareholders.

Managers may favor growth and larger size of

the firm, for the reason of: Greater job security

Larger compensation

Greater prestige Larger discretionary expense accounts


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Principal Agent Relationship

An agent has decision making authority thataffects the well-being of the principal.

Examples of principal-agent relationship:

Shareholders - Manager Creditors - Firm

Majority StockholdersMinority Stockholders

GovernmentFirm EmployeesFirm

Public/society - Firm


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The Agency problem occurs when:

The desires or goals of the principal & agent conflict

and it is difficult or expensive for the principal to verify

that the agent has behaved appropriately.

Agency problem in Indonesia :

Majority interest / shareholders Vs.Minority interest

Agency Theory


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L/O/G/O

Corporate Governance- Agency Theory-

Beyza Oba

Spring 2004


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Corporate governance:

an old problem a new solution

Seperation of ownership and control in joint-stock company(Berle

and Means 1932) allows the firms behaviour to diverge from the

profit maximizing, cost minimizing ideal

The principal problem rests in the abuse of power by corporate

elites;status quo leaves excess power in the hands of seniormanagement, some of whom abuse this in the service of their own

interest (Hutton, 1995), the result is damaging for shareholders

Corporate governance includes the structures, process, culturesand systems that engender the successfull operation of

organisations (Keasey and Wright 1993) and mechanisms to cope

with these elements


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Agency Theory

In economics, the principal-agent problem treats the difficulties that arise

under conditions of incomplete and asymmetric information when aprincipal hires an agent.

Various mechanisms may be used to try to align the interests of the agent

with those of the principal, such as commissions, profit sharing, or fear of

firing. The principal-agent problem is found in most employer/employee

relationships, for example, when shareholders hire top executives ofcorporations.

Assumptions of agency Theory:

Bounded rationality

Opportunism

Information asymmetry AT focuses on the relationship and goal incongruance between managers and

shareholders

Agency relationships occur when one partner in a transaction (the principal)

delegates authority to another (the agent) and the welfare of the principal is

affected by the choices of the agent


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Agency Theory

The delegation of decision-making authority from principal toagent is problematic :

The interests of principal and agent ussualy will diverge

The principal cannot perfectly and costlessly monitor theactions of the agent

The principal cannot perfectly and costlessly monitor andacquire the information available to or possesed by the agent

These create the agency problemthat is the possibility of

opportunistic behaviour on the part of the agent that worksagainst the welfare of the principal


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Agency costs

Agency costs; incur to protect principals interests and to reduce thepossibility that agents will misbehave Monitoringexpenditures by principals

Bondingexpenditures by agents

Residual loss of the principal

Essential sources of agency problems:Moral hazard; more of the agents actions are hidden from the principalor are costly to observe

In economic theory, a moral hazardis a situation where a party willhave a tendency to take risks because the costs that could incur will not

be felt by the party taking the risk. In other words, it is a tendency to bemore willing to take a risk, knowing that the potential costs or burdensof taking such risk will be borne, in whole or in part, by others.A moralhazard may occur where the actions of one party may change to thedetriment of another after a financial transactionhas taken place.

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http://en.wikipedia.org/wiki/Economic_theoryhttp://en.wikipedia.org/wiki/Financial_transactionhttp://en.wikipedia.org/wiki/Financial_transactionhttp://en.wikipedia.org/wiki/Economic_theory


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Economists explain moral hazard as a special case of information

asymmetry, a situation in which one party in a transaction has moreinformation than another.In particular, moral hazard may occur if a partythat is insulated from risk has more information about its actions andintentions than the party paying for the negative consequences of therisk. More broadly, moral hazard occurs when the party with moreinformation about its actions or intentions has a tendency or incentive

to behave inappropriately from the perspective of the party with lessinformation.

Moral hazard also arises in a principalagent problem, where one party,called an agent, acts on behalf of another party, called the principal. Theagent usually has more information about his or her actions or intentionsthan the principal does, because the principal usually cannot completely

monitor the agent. The agent may have an incentive to act inappropriately(from the viewpoint of the principal) if the interests of the agent and theprincipal are not aligned.
http://en.wikipedia.org/wiki/Information_asymmetryhttp://en.wikipedia.org/wiki/Information_asymmetryhttp://en.wikipedia.org/wiki/Principal%E2%80%93agent_problemhttp://en.wikipedia.org/wiki/Principal%E2%80%93agent_problemhttp://en.wikipedia.org/wiki/Principal%E2%80%93agent_problemhttp://en.wikipedia.org/wiki/Principal%E2%80%93agent_problemhttp://en.wikipedia.org/wiki/Principal%E2%80%93agent_problemhttp://en.wikipedia.org/wiki/Principal%E2%80%93agent_problemhttp://en.wikipedia.org/wiki/Information_asymmetryhttp://en.wikipedia.org/wiki/Information_asymmetry


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Agency costsEssential sources of agency problems:

Adverse selection; the agent posseses information that is, for the principalunobservable or costly to obtain

Adverse selection, anti-selection, or negative selection is a term used ineconomics, insurance, risk management, and statistics. It refers to a market

process in which undesired results occur when buyers and sellers haveasymmetric information (access to different information); the "bad" productsor services are more likely to be selected.For example, a bank that sets oneprice for all of its chequing account customers runs the risk of being adverselyselected against by its low-balance, high-activity (and hence least profitable)customers.

Risk aversion; as organisations grow managers become risk averse (theywould like to protect their position, managers would like to max. chance ofsuccess by projects that have already brought success, managers buildstructures to increase their chances of control)

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Resolving agency problems

Principals and agents resolve agency problems through; Monitoring; observing the behaviour and performance of

agents

Bonding; arrangements that penalise agents for acting inways that violate the interests of principals or reward them

for achieving principals goals

Contracts between agents and principals specify the monitoringand bonding arrangements

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Why do principals delegate authority to


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Why do principals delegate authority to

agents?

Size Simplicity of business operations (conceiving

opportunity, funding, making and implementing

decisions)

Decision making situation can overhelm the

cognitive capacity of a single individual, decison

quality can be improved by assigning different parts

of the decision to different individuals

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What monitoring mechanisms can principals put to

minimize agency costs?

Owners seek maximum effort from employees at minimal cost while employees seek

to minimise effort and maximise remuneration (i.e. pay and benefits)

Monitoring mechanisms;

A. Contracts

Principals can monitor agents by collecting information about their behaviour(decisions and actions)

behavioural contracts; specify the activities workers should engage in

e.g. institutional investors monitor the decisions of of senior managers, board ofdirectors monitor top management...

Principals can monitor consequences of (only partially obseved) agent behaviour

outcome based contracts; compensation, rewards, piece rate production,

commissions..

When tasks are not highly programmable monitoring performance (output) ismore efficient

Performance monitoring is problematic in relation to teams, free rider problems

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minimize agency costs?

B. Board of directors

board is charged with fiduciary responsibility (i.e. legal

trustee) of safeguarding the stockholders investmentInside

and outside board members

The outside board membersprovide objectivity as the board

ratifies and monitors the decisions of managers

responsibilities of the board of directors;

establish policies and objectives for the firm

elect, monitor, evaluate and compensate top managersmonitor, approve the financial condition of the firm

ensure that regulations are enforced

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The role of market discipline

Managerial labour marketviews the previous associations of managerswith success and failure as information about their talents . Managers of failing firms may not see a reduction in wages , but will be

disciplines as the managerial labour market attaches less value to theirservices

Managers in more sucessful markets may not receive any immediate gainin wages but the success of their firm may increase their value in

managerial labour market

Capital market and corporate control If managers (agents) of a firm take actions that are viewed by the market

as adversly affecting the value of the firms assets, then the price of theassets (i.e. stock price) will likely to drop. Managers in other firms,believing that they can profitably manage the assets of the failing firm,may be engaged in a takeover battle. The managers of the troubled firmwill loose control of their firm and old high agency cost managers will bereplaced by low (?) agency cost managers

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Assumptions of CG

The effective CG practice are often associated with:

1. A sound legal and regulatory framework and

rules of law in addition to incentive structures.

2. The ethical and transparent operations ofenterprises and their management.


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Ethical Conduct :

Ethic is the background color of CorporateGovernance.

Ethical conduct is putting into place the

mind-set do unto others you would havedone unto you.

Ethical approach is about reasonable

standard of behavior, both individually andcorporately. It is not theperfection.


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GCG and Its Impacts : CG as a Risk Factor

Country Level:

Market Infrastructure

Regulatory & Legal Environment

Informational Infrastructure

Common Problem : Form over Substance

Source: Standard and Poors


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GCG and Its Impacts : CG as a Risk Factor

Company Level:

1. Ownership Structure & Concentration

2. Financial Stakeholder Relations

3. Financial Transparency and InformationDisclosure.

4. Board and Management Structure and Process

Common Problem : Form over Substance

Source: Standard and Poors


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Corporate Governance Dilemma

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Business costs of too

much corporate

governance regulation

Benefits of having

corporate governance

mechanisms in place


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Strategy for Corporate Governance Reform

1. Initial Assessment2. Outreach and Education

3. Develop and Institute Corporate Governance

Mechanisms

4. Capacity-Building, Enforcement, and Follow-

up

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1. Initial Assessment

Assess corporate governance failures,challenges, opportunities, etc.

Rate country standards vs. international best

practices OECD principles/guidelines and local realities

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h d d


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2. Outreach and Education

Identify stakeholders Build awareness: business leaders,

policymakers, society

Create broader public demand for reform

Public education campaigns

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3. Develop and Institute


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3. Develop and Institute

Corporate Governance Mechanisms

Develop corporate governance codes andinternal control mechanisms

Foster shareholder activism

Improve regulatory and enforcementframeworks

Create corporate governance networksincluding regulatory bodies, business

leaders and organizations, and other civilsociety groups

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4. Capacity-Building, Enforcement, and Follow-up

Training and certification programs formanagers and directors

Establishment of Institutes of Directors

Create corporate governance ratings systemsfor investors

Training for financial intermediaries

Broader legal and institutional enforcement:ex. Judicial systems

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I tit ti d


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Institutions and Corporate Governance

What does it mean for countries?

Initial conditions matter

Need to recognize that there is a cross-section ofcountries, approaches, and capacities

Set own reform goals and priorities

Strike the right balance between international bestpractices and local needs, priorities, and experiences

Share lessons learnedknowledge management

Focus on processes rather than outcomes How you develop CG mechanisms and how they function vs. what you are

trying to develop

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Terima kasih

Thank youMerci

Gracias

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corporate governance

good corporate governance

corporate governancedeals

good governance

definition of cg

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