COURSE: MANGEMENT ACCOUNTING AND FINANCE [LM340]

MODULE: PRINCIPLES OF CORPORATE GOVERNANCE [DFA 1151(1)]

ASSSIGNMENT

Question: “Compare and contrast the corporate governance regulations in the

US and Europe and suggest the best approach to governance.”

TEAM MEMBERS:

 GOURDEALE Priyashna ID No.: 1811161

 JOGOO Tejushwaree ID No.: 1811824
 MUTTY Bibi Ruwaydah ID No.: 1812354
 POORUN Nabil Ahmad ID No.: 1810888
 CHANDRANEE Fakeerah ID No.: 1811176

SUBMISSION DATE: 16.02.2019

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TABLE OF CONTENT:

 Corporate governance…………………………..…..………. page 3

 The US Regulations……………………………….………page 4 – 6

 The EU Regulations…………………………..……..……page 7 – 9

 Best Approach to Governance…………………….....……. page 10

 Conclusion………………………………….……………page 12 - 13

 Referencing…………………………………….……………. page 14

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Corporate governance

Corporate Governance are rules to lead and guide a company which includes mechanisms to
regulate the various relationships between the Board, Executive Directors, Shareholders and
Stakeholders, by establishing rules and procedures to facilitate the decision making process and
add transparency and credibility to it with the objective of protecting the rights of shareholders
and Stakeholders and achieving fairness, competitiveness and transparency on the Exchange and
the business environment.

This includes catering for the needs of all those at stake in the organization, be it not only the
shareholders, but also the employees, suppliers, customers, potential investors, and so on. The
importance of the implementation of a governance system has grown significantly for the past
two decades since this reflects on the performance of the business both internally and externally.
Working on developing a good governance system greatly facilitates the strategic planning at
setting the corporate aims while simultaneously, considering the social, regulatory and market
environment in which the company operates.

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The US Regulations

Today’s U.S. corporate governance system is best understood as the set of fiduciary and

managerial responsibilities that binds a company’s management, shareholders, and the board
within a larger, societal context defined by legal, regulatory, competitive, economic, democratic,
ethical, and other societal forces. In the United States, there are two primary sources of law and
regulation relating to corporate governance:

 State corporate law

Both statutory and judicial, governs private as well as public corporations and the fiduciary
duties of directors. The most common state of incorporation is Delaware as Delaware law
and interpretation are influential in other states.

 Federal securities laws

On the federal level, the primary sources are the Securities Act of 1933 and the Securities
Exchange Act of 1934. The Securities Act regulates all offerings and sales of securities, whether
by public or private companies. The Exchange Act addresses many issues, including organising
the financial marketplace, the activities of brokers, dealers and other financial market
participants and, as to corporate governance, specific requirements relating to the periodic
disclosure of information by publicly held, or ‘reporting’, companies.

Then we got the Public Company Accounting Reform and Investor Protection Act of 2002, well
known as the Sarbanes-Oxley Act, which was enacted in July 2002 following the corporate
failures of 2001, The Enron Scandal, and 2002. The Sarbanes-Oxley Act, which applies to all
reporting companies with US-registered equity or debt securities, amends various provisions of
the Exchange Act to provide direct federal regulation of many matters that traditionally had been
left to state corporate law or addressed by federal law through disclosure requirements.

There is also the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 which
was executed in July 2010 in response to the financial crisis in 2008 and 2009. The Dodd-Frank
Act is intended to significantly restructure the regulatory framework for the US financial system

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and also extends federal regulation of corporate governance for all public companies.  In
addition, listing rules provide an additional source of corporate governance requirements. To list
a security on any of the two major listing bodies, that is, the New York Stock Exchange,
formerly known as the American Stock Exchange or the Nasdaq Stock Market, a company must
agree to abide by specific corporate governance listing rules.

The following are the core principles, rules, practices and processes that US companies apply for
a good corporate governance:

To begin with, the power of shareholders is that they generally have the right to elect directors.
Since long ago, it was common practice for directors to be elected by shareholders that can either
vote in favor of, or withhold their votes from, the director candidates nominated by the board.
Also, Shareholders can also nominate their own director candidates either before or at the AGM.
Shareholders’ liability for corporate actions is generally limited to the amount of their equity
investment. In keeping with their limited liability, shareholders play a limited role in the control
and management of the corporation.

Then, the board structure that is predominant in the United States is a one-tier board. Delaware
General Corporate Law, section 141 states that ‘the business and affairs of every corporation
organized under this chapter shall be managed by or under the direction of a board of directors,
except as may be otherwise provided in this chapter or in its certificate of incorporation’. The
board of directors delegates managerial responsibility for day-to-day operations to the CEO and
other senior executives. Members of senior management may serve on the board, but they are not
organized as a separate management board. Also, the primary legal responsibility of the board is
to direct the business and affairs of the corporation. Besides, as directors are elected by the
shareholders and represent the shareholding body as a whole, they are fiduciaries of the
corporation and its shareholders and if in case a corporation becomes insolvent, directors
continue to owe their fiduciary duties to the corporation. Not only, shareholders can bring suit
against the directors on their own behalf or on behalf of the corporation, but also, to institute a
derivative suit, a shareholder must first make a demand to the board of directors that the
corporation initiate the proposed legal action on the corporation’s own behalf. In addition, state
corporate law generally provides that the business and affairs of the corporation shall be

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managed by or under the direction of the board of directors. The board has wide-ranging
authority to delegate day-to-day management and other aspects of its responsibilities both to
non-board members and to board committees and even individual directors.

Furthermore, directors owe duties encompassing both a duty of care and a duty of loyalty to the
corporation and to the corporation’s shareholders. Although grounded in common law, the duty
of care has been codified in more than 40 states. Most state statutes require that directors
discharge their responsibilities in good faith, with the care of an ordinarily prudent person in a
like position would exercise under similar circumstances, and in a manner the director
reasonably believes to be in the corporation’s best interests. Conduct that violates the duty of
care may also, in certain circumstances, violate the good faith obligation that is a component of
the duty of loyalty. The duty of loyalty prohibits self-dealing and misappropriation of assets or
opportunities by board members. Directors are not allowed to use their position to make a
personal profit or achieve personal gain or other advantage. The duty of loyalty includes a duty
of candour that requires a director to disclose to the corporation any conflicts of interest. The
Supreme Court provided guidance with respect to the contours of the duty of good faith,
describing the following two categories of fiduciary behaviour as conduct in breach of the duty
of good faith: conduct motivated by subjective bad faith, that is, actual intent to do harm and
conduct involving ‘intentional dereliction of duty, a conscious disregard for one’s
responsibilities’. The Supreme Court further held that gross negligence on the part of directors
‘clearly’ does not constitute a breach of the duty of good faith.

Moreover, the remuneration of directors is generally a matter for the board of directors, or a
committee of the board, usually, the compensation committee or the nominating or governance
committee, to determine. In determining the appropriate amount of compensation to be paid to
directors, many boards and compensation or nominating or governance committees rely on the
advice of independent compensation consultants, whose expertise lies in analysing compensation
trends in industry or other market segments. The Securities and Exchange Commission amended
its regulations in 2012 to require enhanced disclosure with respect to a company’s use of
compensation consultants. Compensation given to all directors must be disclosed by reporting

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companies. Under the Sarbanes-Oxley Act, audit committee members can only receive director’s
fees from the companies they serve.

The EU Regulations

Just like the US, corporate governance has received much more attention in Europe over the last
decade. There were several committees which examined on how to strengthen the corporate
governance regulations. In 2003, the European Commission proposed a framework for corporate
governance. The Commission recognized that there were many differences in the systems which
were currently used and cited with mostly legal and cultural reasons. However, they still wanted
to design a good system that would maintain shareholder rights and protections for third parties,
especially creditors. They also wanted a system that would provide enhancement of disclosure
including providing information in annual reports that discuss loads of things such as related
parties, risk management, composition and operation of board and committees, description of
shareholder rights and disclosures of shareholders having major holdings or voting and control
rights. But the objectives of the proposed European model appear to align with those of the U.S.
model, due to some significant differences.

Some of these major philosophical differences include firstly where the European emphasis on
the stakeholder rather than the shareholder, secondly the prevalence of two-tiered boards which
are structured with a supervisory board which is either wholely or partly non-executive and
finally is a management board such as executive and the move to prohibit CEO or Chair duality.

The European model gives importance to all stakeholders including the shareholders.
Additionally, the separation between ownership and management is not that clear with boards
comprising of representatives of various stakeholders such as majority shareholders, lenders,
employees, suppliers, customers, public etc. The board is in fact a structure with a supervisory
board comprising of Non-Executive Directors which controls decision making by the Executive
Directors.

The presence of these stakeholders, who are also shareholders (owners, manager, customers,
employees), on the board also increase their influence in strategic management decisions. The
ownership patterns are more concentrated and complex with cross-holdings being common.

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Moreover, the relevant financial markets are less liquid and there is higher dependence on debt to
fund growth and operations of the companies. The concept of audit committee is existent in the
European model also, but the composition of the committee is not that severely laid down. The
Chairman and Chief Executive Officer positions may or may not be held by the same person.

For example, Bayerische Motoren Werke AG (ETR:BMW) (ETR:BMW3) (FRA:BMW) has a

Supervisory Board and a Board of Management. The Board of Management regularly provides
information to the Supervisory Board on information regarding strategy, sales volume, growth
prospects, production planning and so on which has a monitoring and advisory role. The
Supervisory Board also reviews the compensation of the Board of Management members and
examines if there are any cases of a conflict of interest. No doubt that the Supervisory Board
monitors its own efficiency and performance from time to time. In addition, there are several
other Committees in the BMW board including an Audit Committee. The two boards have
different Chair persons.

As per the BMW Annual Report 2011, “Corporate culture within the BMW Group is founded on
transparent reporting and internal communication, a policy of corporate governance aimed at the
interests of stakeholders, fair and open dealings between the Board of Management, the
Supervisory Board and employees and compliance with the law”. So there is a clear example
about the importance of stakeholders (as opposed to shareholders alone) is clearly reflected.

Similar board structures and roles can be seen in other European organizations like Renault SA
though the terminology of the Supervisory and Management bodies which may be different.

The rules and regulations in the European countries are not that strictly enforced as there is a
philosophy of “comply or explain basis”. This approach gives room for deviations, by providing
a proper justification for non-compliance. This flexibility is perhaps an important aspect because
the influencing stakeholders are more diverse and they monitor the performance of the company
more closely. There is longer term orientation in with the stakeholders, as the stakes are deeper
than simple stock holdings. These pulls and pressures by the large stakeholders obviously rein
innovation and risk taking ability of the management. This may be good in certain situations but

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mostly, the lack of irrelevant thinking may be harmful to the competitive advantage of the firm.
These effects increase the response time of the organizations making it less lean and mean.

In the European model, the effort of governing and managing an organization is more
collaborative and the majority shareholders or stakeholders are directly concerned with the
performance of the organization. For example, the banks are definitely affected by the cash flow
position of the company because repayment of their loans is supported by it. Thus, each
stakeholder on the board has his own outlook towards the governance of the company.

This may moderate the enthusiasm and efforts of the professional managers who work towards
improving the competitive advantage as well as pricing power of the firm. In Europe, the
emphasis is on voluntary internal controls rather than enforcement of controls by statutes. The
Government does not have a pressurize approach because the board structure appears to have
inherent checks and balances which prevent the Directors from taking decisions which may be in
terms of their own advantage.

But, shareholder rights remain a key concern, particularly for minority shareholders in controlled
companies as well as Comply-or-explain remains supported by investors, but it is recognized that
it can be ineffective without strong monitoring or an enforcement mechanism and the Capital
Markets Union is a worthy aim, but the absence of a corporate governance dimension may be a
blind spot.

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Best Approach to Governance

In our opinion, the best practices of corporate governance between these two countries is the US.
This is because, US consists of many corporate as compared to Europe such as the Securities Act
of 1933, Securities Exchange Act of 1934, Trust Indenture Act of 1939 Investment Company Act
of 1940, Investment Advisers Act of 1940, Sarbanes-Oxley Act of 2002, Dodd-Frank Wall Street
Reform and Consumer Protection Act of 2010 and Jumpstart Our Business Startups (JOBS) Act
of 2012.

Moreover, US adapts the structure of a one tier board where the executive directors are in charge
of the daily management, but will be supported intensively by the non-executive directors. It is
even possible to assign certain board’s duties to a non-executive. Also, the decision making
process in this system is expected to be less, as decisions only have to pass one body now. It is
therefore believed that a one-tier system has more clout than a two-tier system which is used by
the EU and is able to switch quicker when needed. Additionally, the directors owe the duty of
care as well as the duty of honesty, in other words the director fulfills the good ethical role with
the values of fairness, honesty and integrity.

But the Europe also contain some good characteristic among which includes a good management
of the board structure and voluntarily internal control rather than enforcement of control. But it is
to be noted that Europe is govern by a two tier board model whereby the decision making
process often delay in the company with low frequency of supervisory board meetings. Also, the
supervisory board member often received only limited information which decreases involvement
and therefore less concern about work. Additionally, the chairman and the CEO may or may not
be held by the same person which in turn delays work.

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Conclusion

This is why we come to the conclusion that the US is much relevant as compared to Europe, but
in order to make a good corporate governance in the country, companies need to have the best
governance practices as illustrated below:

 Building a competent board

The company should focus more on building a diversified and independent board. They
should be qualified, knowledgeable, have expertise, competent, have strong ethics and
integrity, diverse background and sufficient time to commit to their duties. This will
further simplify the decision-making and highly complex and technical issues will be
easily dealt with. Moreover, the chief executive officer (CEO) should not form part of
the board but has voting power. The composition of the board should be such that it
incorporates all the necessary skills and abilities to make sound decisions for the
company. The board should also have implicit trust in each other so that discussions are
productive.

 Aligning strategies with goals

The board should align their strategies and risk management activities with the
company’s goals. Board should utilize the majority of their human resources and other
tools to identify and assess all the forms of risk. The latter also needs to cooperate to
develop the corporation’s risk tolerance and risk profile. Furthermore, they have to ensure
that the organization had the best possible framework and controls set up, so that they can
monitor risk and moderate it when necessary.

 Being accountable
Board should ensure the accountability of a business. Transparent reporting procedures
should be developed and ensured by making use of performance metrics, maintaining

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 clear communication to stakeholders, mitigate conflict strategies and ensure fulfillment of
regulatory, compliance and disclosure requirements.
If there is poor accountability by the business then stakeholders may lose the confidence
they have in it and hence become reluctant to put in their best. The more accountable they
are, the more likely it is that results of performance measurement processes are going to
be a true and fair representative of the performance being measured. The agency problem
would be hard to defeat if there is no accountability in the company. With it, the
confidence of shareholders will increase as Board of director act as stewards for
shareholders.

There are many more among the best practices of corporate governance such as having a high
level of ethics and integrity, that defines the roles and responsibilities among the CEO,
management, BOD and shareholder. Also there’s need to have a diligent governance cloud.
Evaluating performance and make principled compensation decision, engaged in effective risk
management and build a strong, qualified board of directors and evaluate performance are also
known as the best practices of governance.

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Referencing

 https://foster.uw.edu/wp-content/uploads/2014/12/MiguelMendezFinal.pdf
 https://en.wikipedia.org/wiki/Corporate_governance
 https://saylordotorg.github.io/text_corporate-governance/s03-01-the-u-s-corporate-
governance-s.html
 https://www.schroders.com/hu/sysglobalassets/digital/resources/pdfs/2016-09-a-
schroders-review-of-us-corporate-governance.pdf
 https://link.springer.com/chapter/10.1057/9781137360014_5
 https://www.cfainstitute.org/en/advocacy/policy-positions/corporate-governance-policy-
in-the-european-union
 https://dif.fi/teema-artikkelit/corporate-governance-in-europe-update-on-key-issues-4/
 https://www.valuewalk.com/2013/01/corporate-governance-usa-versus-europe/
 https://www.valuewalk.com/2013/01/is-corporate-governance-better-across-the-atlantic/?
utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+valuewalk
%2FtNbc+%28Value+Walk%29
 http://group27.narod.ru/ucheba/files/tasis/Documents/English/3/3-7.pdf
 Https://law.stanford.edu/publications/no-16-corporate-governance-in-the-eu-and-u-s-
comply-or-explain-versus-rule/
 https://www.mcinnescooper.com/publications/legal-update-the-top-5-corporate-
governance-best-practices-that-benefit-every-company/
 https://www.oecd.org/corporate/ca/corporategovernanceprinciples/1824495.pdf
 http://www.ecgi.org/codes/documents/ibgc_2016_en.pdf
 https://corostrandberg.com/wp-content/uploads/2018/09/2018-corporate-governance-
best-practices-report-august-2018.pdf
 https://ecgi.global/sites/default/files/codes/documents/code_of_corporate_governance_6_
aug_2018.pdf

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