Corporate Governance: A review of Literature

Corporate Governance: A review of Literature


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What is Corporate Governance?


Principles of Corporate Governance


Theoretical foundations of corporate governance


Agency theory


Stewardship theory


Stakeholder theory


Post-Enron theories


Corporate Governance: The changing trends


Recent developments on regulatory front and research


Corporate Governance: Relationship with market indicators


Venture Capital Model: Impact on Corporate Governance


Appendix I- Examples of Corporate Governing bodies


This paper is a review of pertinent literature on corporate governance. Corporate governance addresses the control issues created due to the separation of ownership and management of a corporation.It is generally considered as the means by which shareholders control the board of directors.Corporate governance maintains relationships between board of director, stakeholders and shareholders. Every relationship has high significance and multi-faceted aspects. OECD considers corporate governance as a framework dealing with the problems resulting from the separation of ownership and control of a corporation. Precisely stating, Du Plessis, et al. (2010) defines corporate governance as the system of regulating and overseeing corporate conduct and of balancing the interests of all internal stakeholders and other parties (external stakeholders, governments, and local communities) who can be affected by the corporation’s conduct. This literature review paper adopts a throughput investigative approach whereby literature has been reviewed that describes different facets and elements of corporate governance. After reviewing academic literature on background and principles of corporate governance, literature pertaining to the theoretical foundation of CG has been reviewed. Agency theory, stewardship theory, and stakeholder theory have been identified as theoretical foundations of CG whereas contemporary theories of CG have emerged after the corporate scandal of Enron and WorldCom. Contemporary trends in the conduct and structuring of CG have also been reviewed. Venture Capital (VC) model of financing has been found to have significant positive influence on start-up companies in the U.S. CEO, Board of Directors (BOA), and shareholders are identified as the main actors of corporate governance structures. Sarbanes-Oxley (SOX) Act 2002 required significant changes in management, board structure, accounting practices, financial reporting standards, and audit protocols for large sized private and public firms.


Corporate Governance: A review of Literature


I- Introduction


In the backdrop of global financial crisis (GFC) in 2008, the debate on structure and formation of corporate governance has intensified. Corporate governance is a relatively new term that emerged during 1980s and 1990s but now it has developed into a well-known idea mainly because of two factors i.e. curious happening in corporate world and global mobile capital flows (Joshi, 2004). Since its emergence, the term corporate governance has been defined differently under different perspectives. In this regard, a simple way to describe the meaning of term is “putting morality into capitalism”(Martin, 2006).In this regard, corporate governance is perceived as an anti-greed regulatory framework. However, it is generally considered as the means by which shareholders control the board of directors (Lenoble, 2003). This perspective follows the classic principal-agent theoretical foundations. In a more clear way, it addresses the control issues created due to the separation of ownership and management of a corporation.


This research paper is divided into six broad sections, each dealing with particular but coherent aspect of corporate governance literature. Section I introduce the topic of the study and describe the composition of report. Part II includes background and principles of corporate governance as a scholarly subject. Part III will review literature on theoretical foundations of corporate governance. Part IV reviews pertinent literature on the topic of changing trends observed in corporate governance of firms. Part V and VI highlight the relationship of corporate governance with market indicators of a firm’s performance and impact of venture capitalist financing model on firm’s corporate governance. At the end, part VII of the paper concludes the paper by describing most consistent themes found in the literature review.


II- Background


Researchers try to investigate the real cause of 2008 like bust in financial markets. Some term it sheer negligence and risk taking propensity of financial institutions whereas other have pointed towards deep cultural and organizational issues responsible for creating such crisis. The role of management and Chief executive Office from firm’s side and the role of financial regulating agencies from government’s perspective have gained much importance. To review pertinent literature on the nature and role of corporate governance, following is the broad structure of this paper.Many other factors influence the corporate governance in firms. These factors include employees, customers, suppliers, creditor and community where the firm is located. Corporate governance maintains relationships between board of director, stakeholders and shareholders. Every relationship has high significance and multi-faceted aspects. Therefore, companies need to improve corporate governance in order to achieve and survive long-term growth.In this regard, academic literature considers it as a framework dealing with the problems resulting from the separation of ownership and control (OECD, 2004). Fernando (2009) explains this perspective as limited and stated that it should cover the areas of organizational structure, rules regarding board of directors, independence of audit committees, rules for disclosure of information to shareholders and creditors and control of the management. The Organization for Economic Co-operation and Development (2005) defines it as a structure that specifies the distribution of rights and responsibilities among the different participants in the organization and lays down the rules and procedures for decision-making. Moreover, different definitions of corporate governance can be put on a narrow to broad continuum. At a narrow end, it can be defined as a simple relationship between shareholders and the management while corporate governance, at the broad end of continuum, becomes a network of various relationships of stakeholders including shareholders, board of directors, employees, customers, suppliers, and bondholders at large (Solomon, 2010).


The Association of Chartered Certified Accountants (2008) provides two complimentary purposes of corporate governance. First, it should ensure that the board protects resources and allocates them to make planned progress toward the organizational defined goals. Second, those governing and managing anorganization account appropriately to its stakeholders. However, the literature review on the corporate governance suggests that there is no consensus on a single or universal definition of corporate governance. This means that the subject is in its evolutionary process and it would need time to synthesize different perspectives in a universal definition. Corporate governance has emerged as a major issue in late 20th century and early 21st century. It is denoted as the rules and regulations applicable for the business entities. It is essentially the mechanism comprising of rules and practices that define the governance of the business. It has a strategic level implementation meaning there by that corporate governance defines that how the business will be governed at corporate level. The relationship of board members with their stakeholders including shareholders, employees, and vendors is also a notable activity concerning corporate governance. The business concepts have evolved over the years. The activities performed at the corporate level are also defined under the corporate governance (Tricker, 2012). The corporate board members exert their power to influence the executive management of a corporate entity. These relationships ensure that the corporation is heading in the desired direction for present as well as future course. The auditors, legitimate stakeholders, and regulators are also covered through corporate governance functions.


What is Corporate Governance?


To start with, following is an often quoted definition of corporate governance that states it as “the system of regulating and overseeing corporate conduct and of balancing the interests of all internal stakeholders and other parties (external stakeholders, governments, and local communities) who can be affected by the corporation’s conduct, in order to ensure responsible behavior along with achievement of maximum level of efficiency and profitability” (Du Plessis, Jacques, Hargovan & Bagaric, 2010; p. 10). Thus, the definition implies that governance at the corporate level is more concerned with oversight of firm’s actions, policies, and practices rather than day-to-day operations. Broadly stating, there are some main responsibility areas being identified for the corporate governors, namely:


1- Running a system of oversight and regulation in context of firm’s conduct


2- Safeguarding and promotion interests of internal stakeholders of the company


3- While displaying responsibility, the corporate governance is aimed at maximizing firms’ efficiency and profitability.


Some researchers used to describe ‘corporate governance’ as the process but lately, large number of researchers have agreed upon that rather than being a process, corporate governance is a system that incorporates several other processes. The domain of corporate governance has therefore assumed much wider influence, specifically after the GFC in 2008. Some researchers have also defined corporate governance by outlining the main actors involved in the performance of governance at the corporate level (Gompers, Ishii, and Metrick, 2003). These have been identified as the:


Chief Executive Officer (CEO)


Board of Directors (BOD)




The notion of corporate governance got entered the academia and the practitioner’s guidelines when in late nineties and early 2000s; Japan underwent recession along with other major Asian markets of that time. Some called it the ‘governance recession’ as well as the leaders and CEO was not highly responsive to the looming threat of loss of job and employment opportunities as well (Gompers, et al., 2003). Increased need of capital resources to be raised from open markets has also led the importance of corporate governance to increase in recent years. Another aspect of corporate governance culture that has increasingly come to be scrutinized is the value-based governance and bottom line governance. Firms in Europe and specifically in the U.S. market have emphasized that their companies should reengage in value-based corporate governance (Du Plessis, et al., 2010; p. 11)In modern corporations, corporate governance arises through the severance of ownership and management control in the organizations.


Principles of Corporate Governance


Researchers have also identified the essential principles on which the conduct of corporate governance rests. These are:














Social responsibility (Du Plessis, et al., 2010).


Du Plessis, et al. (2010) have described that the concept of corporate governance has significantly got transformed during the last few years. After each significant economic phase, the scholars have aligned the concept with more current needs of structural changes in the corporation’s management. Good governance has been described as the effective leadership by corporate managers and board of directors. Ethics, responsibility, and fairness are included as the intrinsic elements that corporate governors of corporations should have (King Committee, 2002; p. 12). Sustainability of business operations has also been mentioned as the fundamental responsibility of corporate governance whereby the executives and board members have to deliver sustainability of operations and profitability. Corporate citizenship is also a contemporary concept being inculcated in the corporate governance elements (King Committee, 2002).Du Plessis, et al. (2010) also mentioned that there is considerable transformation in the principles of corporate management since the last 10 years. In 2003, the authors observed, the principles were as follows:


Strengthening management oversight


Value addition through board restructuring by including more outside members on boards


Promotion of ethics and responsible culture


Maintenance of integrity in financial reports


Corporate disclosures should be timely and honest


Rights of shareholders to be safeguarded and promoted


Risk recognition and management


Responsibility in performance management, remuneration fixation, and recognizing legitimate interests of relevant stakeholders (King Committee, 2002).


Some researchers have opposed the idea of government reform of the board structures and emphasized on incremental changes in the financial industry without being coerced into restructuring drives (Salmon, Lorsch, Donaldson & Pound, 2000). Walter Salmon is quoted as saying that governmental intervention is detrimental to the independence and performance of the firm. The committees that are formed by the board of directors also need to change the way they work and devise policies. For instance, the audit committee needs to identify the ‘high exposure’ areas within the financial expenses and prevent any large retracement from companies profit expectations. Salmon also advises that ‘constructive dissatisfaction’ should be started in the board meetings and before media or any other regulatory agency identifies the flaw in financial reporting, board members should be able to identify it beforehand (Salmon, et al., 2000). Walter Salmon also identified the two main responsibility areas of corporate governance personnel, these were overseeing the strategic direction of the company (the long-term policies, procedures, and practices) and performance of i) Selection ii) Evaluation and iii) compensation of top managers of the company. The structuring of compensation and benefits plans is also overseen by the board of directors. Thus, corporate governance is more about anticipation of future trends in management and implementing them in the respective corporation. Salmon mentioned that in 1980s, the responsibility of board members was limited to firefighting only, the notion of tackling emergency situations in the corporations.


III- Theoretical foundations of corporate governance


In order to comprehensively understand the concept of ‘corporate governance’, it is imperative to study the theoretical foundations on which governance in corporate settings has been established. The theories that have significantly influenced the conduct of governance are agency theory, managerial hegemony, stewardship theory, stockholder theory, stakeholder theory, convergent theories of corporate governance, and the ‘post Enron’ theories of corporate citizenship (Clarke, 2004). The review suggests that the differences in the definitions of corporate governance are due to different theoretical perspective adopted by the researchers or defining authorities. In this regard, the classic theory defining and explaining corporate governance is agency theory, which treats shareholders as merely one of many factors of production bound together in a complex web of implicit and explicit contracts (Bainbridge, 2008). This theory treats the directors and officers as the agent of owners i.e. shareholder who define the objectives of the company; therefore, corporate governance under this theoretical perspective aims to align the goals of both the parties i.e. shareholders and directors as closely as possible to minimize the agency cost (Fernando, 2009). Agency theory upheld the notion that corporation is a set of contracts amongst individual factors of production. The classical economic theories revolved around the notion that profit maximization is the aim of firm and that the firm achieves so by acting as a single entity. This was however challenged by agency theory presenters and it was supported that each factor of production tries to maximize its own utility and profits. Thus, the performance of firm is based on contractual agreements and management was separated from finance.


Agency theory


The agency theory laid down the principle that managers raise capital from financers whereas financers provide funds to managers for providing them with efficient returns. The agency theory therefore states that corporate governance mainly deals with management of residual rights allocation issue (Clarke, 2004). The formation leads to a situation where managers accumulate significant residual rights and power for allocation of funds. This power along with management structure of that power is the main emphasis of corporate governance. Agency theory describes the investors as the ‘residual risk’ takers and not the owners of the firm. The agency theory thus separated the ownership of capital from the ownership of firm (Clarke, 2004). The agency theory also supports the notion that shareholders are the main principals whose interests shall be safeguarded by the management. Management and risk bearing are categorized as separate functions and each requiring specialization.


Stewardship theory


Stewardship theory emphasizes that the authority structure should facilitate the role of executives in managing and planning for the corporation. The greater empowerment to the managers would be more profitable for the corporation (Mallin, 2007). Stewardship theory utilizes psychological studies to dispel the dominant view that company’s directors are purely driven by their personal economic interests (Du Plessis, et al., 2010). This theory assumes that the executives have more expertise of running corporations than the owners i.e. shareholders have. Although the stewardship theory has sharp contrasts with the agency theory, it has more recently been considered as a complementary, rather than competing, for the development of an effective structure of board of directors (Van Ees, Gabrielsson, & Huse, 2009). Stewardship theory has largely questioned the assumptions of agency theories of corporate governance. The stewardship theory states that there is an inherited conflict of interest between the managers and the owners or the shareholders. Need for achievement, recognition, responsibility, and altruism (Clarke, 2004; p. 8) are also present in the human beings and these aspects of management should not be ignored while governing the corporation. A singularly focus on economic gains is rejected by the stewardship theorists. This perspective has significantly influenced the corporate governance in the firms as more number of managers view themselves as the stewards of the firm, thus fulfilling the objectives of firm rather than merely satisfying the principals.


Stakeholder theory


Another important theory about the corporate governance is stakeholder theory, which aims to balance the over-emphasis of shareholders. It aims to include all interest groups including employees, customers, suppliers, distributers, government and society at large to the corporate mix (Fernando, 2009). However, this theoretical perspective has been criticized for being too vague to define clearly the actual or more related stakeholders. In addition, there is dearth of empirical evidence in favor of its impact on the organizational performance. This theory has been considered as of little practical value because if the directors intend to facilitate various divergent interest groups, they would fail to address the basic requirements of the business (Smallman, 2004). Sociological theory in the corporate governance aims to promote equity and fairness in society through board composition, financial reporting, disclosure and auditing (Fernando, 2009).According to the stakeholder theory perspective, organizations have been described as the association and multilateral constructs of organizations and their stakeholders. In context of stakeholders, two broad publics have been identified, the internal and the external stakeholders. Shareholders are the main source of generating capital for the firm. The organization or corporation therefore is not to be viewed as an asset for the shareholders only but also for the suppliers, long-term employees and the society at large for which the organization generates employment. Despite increasing pressures to deliver higher returns over the investments of shareholders, corporate managers have found the stakeholder theory to best address the multilateral issues being faced by an organization during its life-time. The stakeholder theory therefore holds true that an organization is a multi-lateral construct aimed at serving the diverse internal and external stakeholders. The increased convergence of financial structures of firms and the systems that regulate their performance has resulted in a ‘converged’ perspective on corporate governance, whereby increased emphasis is laid upon different stakeholders and redress of their issues.


Post-Enron theories


The Sarbanes-Oxley Act promulgated by the U.S. Congress after the Enron financial reporting scandal broke in 2001-02 significantly set the direction of corporate governance and how it was aimed to advance in the coming years. The scandal shook the basis of market-based capitalism and thus gave way for ne theories to be publicized for managing corporations and enabling their conduct responsible. The structuring of pension funds, insurance funds, and mutual funds was severely criticized for increasing the avenues of greed in the executives of corporate world. The financial reporting standards were modified and increased emphasis, at least theoretically was laid upon the separation of powers and removing conflict of interest amongst the corporate managers. The ability of Enron to manipulate the energy market of California resulted in windfall profits to the company, approximately of $200 million within May to August 2000. Concepts such as trust, social capital, and knowledge-based business were soon incorporated into the theoretical constructs of corporate governance.


IV- Corporate Governance: The changing trends


Hermalin (2005) argued that there has been considerable change in the trend of corporate governance. The author observed that there is a general trend toward ‘greater board diligence’ and that increasing number of outsiders are becoming the CEO of new firms (Hermalin, 2005). Shorter tenures for the CEOS and increased compensation are some of the recent trends in the U.S. Externally hired CEOs also have shorter tenures with the companies as compared to the CEOs that are internally hired by the companies. The author also observed that change in the manner that corporate governance is practiced has continued since long. The study also observed that despite having wide statuary powers vested with it, the board of directors only influence very few decisions. Most consistent act of board has been the selection, monitoring, and evaluation of CEO of the company (Hermalin, 2005). Becht, Bolton and Roell (2005) have described the corporate governance with respect to the control perspectives. The reconciliation of conflicts among different stakeholders of a company is the main concern of corporate governance. The study conducted by Becht, et al. (2005) is a survey of literature to determine the various legal and regulatory aspects of corporate control in large firms across different countries of the world. A comparison between corporate governance literatures between different countries is also made. The authors indicate that the intervention of regulatory authorities to save the smaller shareholders from abuse of large shareholders does provide better assurance for the smaller investors, but creates conflict among how interventions should be executed. A conflict is said to arise at the very moment when external shareholders of a company try to exert control and dominance in decision-making as compared to the internal stakeholders. The authors also describe the five usual formats in which this issue of corporate control in firms is addresses. These are:


Partial control of ownership within the authority of small number of investors


Take overs and voting contests to determine the corporate control


Control of authority by board of directors


Convergence of interests of both managers and the shareholders, this is achieved through compensation and benefits restructuring


Defining fiduciary duties of a firm’s CEO and establishment of criteria whereby investors and shareholders can file class action suits to compensate for any loss that CEO decision making resulted into.


According to Tricker (2012) it is observed that significant research has been focused on the corporate governance since 1980s. The significant developments through academic and professional research remarked the beginning of the subject as one of the major concerns. It is also important to note that the research journal for corporate governance was initiated in 1992. Hence it can be significantly justified that the subject is a new entrant in the global corporate circles. However it is noted that the theoretical development of corporate framework is relatively new but the some of the key practices were conducted not only since the beginning of trade organizations. The corporate governance is wrongly associated with the management. It is appropriate to define that both corporate governance and management has different paradigms. The application of corporate governance rules and regulations are applicable for large business entities. Whereas small families run business and entrepreneurship ventures cannot well segregate management and corporate governance.


There are multiple dimensions of corporate governance. The businesses are utilizing the capabilities of technology as well as exposure of information. This has increased significantly over the past several years. It has enabled the businesses of large scale to adopt these technological techniques to expand their operations. The complexity of organizational structures has been influenced through these changes (Fernando, 2009). Corporate governance has a significant role in addressing the complex issues faced in everyday operations of the business. It is a necessary check on the executives and business performance. The direction of the business has to be in line with the mission and goals. The ownership patterns of a business entity are also changed through the implementation of global technological advancements. The corporate entities are largely adopting a changed scenario for ownership, shareholders, and executive business management. The limited scope of owner influence on actual operations has also instigated the need for implementing the corporate governance practices (Tricker 2012).The board is responsible for taking into account the strategic level business implications. The powers gained through corporate governance are also relevant for posing a high level responsibility on the board members. These responsibilities are also concerning the risk management of the overall business operations. The board members are held responsible for ignoring the related risk factors having a potential to pose corporate risks (Kolk, 2008). The board members are also responsible for adding value to the business and as a result secure the rights of all shareholders.


There are multiple prospective for corporate governance including the relationships, financial performance, business growth, and for economic growth of the organization (Fernando, 2009). It is also observed that lately it is a standard practice to take professional and industry experts as board members to ensure that the business is following the right direction required to maintain their existence and achieve growth (Kolk, 2008). Different levels of corporate governance are implemented in various organizations. The composition of corporate governance is varied based on the business and related impacts on various functions. The figure below provides a brief understanding of the related functions and their composition.


Recent developments on regulatory front and research


Researchers such as Becht, et al. (2003) also mentioned that there has been change in the academic research paradigm and regulatory front of corporate governance. The Sarbanes-Oxley Act was introduced in July 2002 and subsequently the New York attorney general Eliot Spitzer introduced some laws in a settlement with Wall Street investment banking industry. Recent corporate governance scandals also impacted the European countries. These European countries also adopted comprehensive reforms for corporate governance. The researchers have identified three main areas of interest for the academic researchers after media reporting about corporate scandals, specifically that of Enron. These three dimensions of interest for the academic scholars were:


Presence of conflict of interest between financial analysts, investment bankers, and auditors


Compensation and benefits plans and scrutiny of executive compensation elements


Questioning the role of board of directors in failing to preempt the corporate scandals


However, there have been enormous changes in the corporate codes of conduct, both in the U.S. And the European firms. These range from board elections to the capital raising potential of Chinese firms, despite limited property laws and shareholder protection in their regulatory statues. Sarbanes-Oxley Act (SOX) has been of significant interest to the researchers. Although, there still exists considerable gap in the discourse analysis of SOX and its effectiveness, the measures taken under the SOX Act were significantly aimed at preventing Enron and WorldCom type corporate scandals and the mitigate the failure of corporate managers to address the issues of falsifying accounts of the firms. Not only did the SOX Act provide for a more stringent regulatory environment for corporate managers, it also tried to curtail the role of accounting firms to collude with the client firms. The auditing partner, according to the SOX Act was required to be rotated after each five years. The selection of auditing firm was also delegated to the external directors of a firm. After the U.S. Congress, the most stringent measures to improve the corporate governance standards, New York Stock Exchange (NYSE) was another corporate body to publish its code of admission to the new firms and restructure membership requirements of existing firms at NYSE.


O’Sullivan (2011) compared the corporate control measures in the U.S. And German firms. The researcher mentions that since 1990s, the corporations have significantly played a role in the growth of labor markets at the national level in each economy. The resource allocation role of the firms has also enabled them to attain greater importance. Farber (2005) has also mentioned that the fraudulent firms that were observed to have reported fudged or misleading financial statements had poor corporate control. The main purpose of the study was to assess the relationship between the financial reporting systems being adopted by firms and the quality of corporate governance in the same firms. The main findings being reported were that there were few outside directors in the board of the companies being stated as misleading in reporting criteria. The author surveyed 87 such firms that were reported by Securitas and Exchange Commission (SEC) as fraudulently reporting their statements. Poor governance was reported in the said firms. The most striking findings on the survey of fraudulent firms were that:


Less percentage of outside directors serving as board members


Audit committee meetings less than those firms not being reported as ‘fraudulent’


Lack of financial experts on audit committee panels


Lack of ‘big 4’ accounting firms as their auditors


Assumption of chairmanship of board of directors by majority of CEOs in reportedly fraudulent firms sample


The study also concluded that after fraud practices were detected in the sample firms, the management did try to improve the corporate governance. The result was a reorganization of corporate governance structures. This implies that structures of corporate governance play an important role in establishing credible and trustworthy system of governance. The shift of corporations whereby more number and percentage of outside directors now serve as board members is indicative of the fact that structures are changing.


V- Corporate Governance: Relationship with market indicators


The ability of corporate governance and its structure on the financial aspect of firms is also worthy of investigation. Lately many researchers have engaged in such investigation about a firm’s corporate governance elements and its ability to raise capital and remain financially successful. Firm value and stockholder returns are important indicators of a corporation’s financial success. Bebchuk, Cohen, and Ferrell (2009) conducted an important study in which most important corporate governance provisions, amongst a set of 24 such provision recognized by Institutional Investors Research Center (IRRC), were identified that were positively correlated with firm’s value and stockholder returns. The results generated indicated towards presence of two sets of corporate governance provisions, first were constitutional and second ones were “takeover readiness” provisions. An entrenchment index of firms was thus composed on these six provisions, four from former category and two from the latter. The results were summarized as “We find that increases in the level of this index are monotonically associated with economically significant reductions in firm valuation, as measured by Tobin’s Q. We also find that firms with higher level of the entrenchment index were associated with large negative abnormal returns during the 1990-2003 period” (Bebchuk, et al., 2009; p. 783). Prior to this landmark study, another important study was conducted by Gompers, et al. (2003) in which the authors tested that whether or not stronger shareholder rights resulted in higher financial returns, including the equity prices. The results generated by the study indicated that a positive relationship existed between stronger shareholder rights in a firm and higher firm value, higher sales growth, lower capital expenses, and fewer corporate acquisitions. The study used as sample of 1500 large firms operating during 1990s. Another research was conducted on the firm’s market value and its relationship with corporate governance of the firm, the study was conducted on public corporations of South Korea (Black, Jang & Kim, 2006). The evidence of performance in form of corporate governance index (KCGI) of 515 Korean firms reported that OLS of firms having effective controls at corporate level. The Tobin’s Q. As a variable was better (160% increment in share price). The governance type and extensive control measures at the corporate level helped these firms perform better at the stock market. The companies adopted a policy of outside directors in order to increase the share prices. The law in Korea required large companies and banks to have outside directors to serve on their boards.


The role of corporate governance in generating and maintaining cash holdings for a firm have also been investigated. Dittmarand Mahrt-Smith (2007) investigated the role of corporate governance both in poorly governed and well-governed firms by comparing the value and use of cash holdings by these firms. For each 1 dollar of cash available, the results of the study indicated, it was valued at double the value in well-governed firms whereas same $1 was valued at $0.42-$0.88 in poorly governed companies. The study also found that large cash holdings are soon dissipated in poorly governed firms. Thus, operating performance of firms with elaborate and proper governance structure is better than those firms having poor control mechanism on corporate governance. Degree of managerial entrenchment and large scale shareholder monitoring are cited as the corporate governance measures. The corporate governance index developed by Gompers, et al. (2003) was adopted to test the degree of managerial entrenchment. Gompers had identified those more antitakeover provisions in firm’s charter signal towards weak corporate governance. The other measure of corporate governance used in this study was that adopted by Bebchuk, et al. (2009) based on constitutional and takeover provisions. In context of shareholder oversight, the study employed first measure as being sum of all ownership positions greater than 5% being held by large investors, probably institutional investors. A large number of ownership position above 5% indicated a greater shareholder control. The block institutional ownership was replaced by another measure, the presence of large public pension funds as these monitor the corporate firms more actively than other investors. The study is based on a sample of U.S. publicly traded firms from 1990-2003 and the data was collected. The results show that investors show little value to the cash available in poorly governed firms; similarly managers in poorly governed firms waste the free cash available to the company.


VI- Venture Capital Model: Impact on Corporate Governance


Lately, venture capital model of starting up new businesses has immensely grown in the U.S. This sections reviews pertinent literature as to what impact this model has created on the corporate governance aspects of new companies as well as companies that intend to be sold in open market. Hellmannand Puri (2002) conducted such a research on Silicon Valley startup firms. The authors suggest that companies such as Cisco, Intel and Yahoo have benefited from venture capitalists as financial intermediaries. However, venture capitalists play bigger role in the corporate governance structures of start-up firms despite being labeled as financial intermediaries only. The authors found that several professionalization steps are taken in the corporate management structures of start-up companies due to venture capital funding. These steps consist of hiring of a marketing VP, adoption of stock option plans and thedevelopment/alteration of human resource policies. Founders and CEOs are also replaced sooner in the venture capital backed firms as compared to traditional banks backed firms. Thus, the venture capital model of financing exerts considerably more control and influence on the corporate governance of new start-up firms, and mostly for the financial good of these firms.Suchard (2009) also explored the impact of venture capital model of financing on 552 Initial Public Offerings (IPOs) in Australian stock market. The author observes that the board structures of Australian public firms are similar to that of the firms publicly registered in the U.S. And U.K whereas market operating procedures are similar to Japanese and German firms. The study found that despite being younger equity market; Australian firms opting for IPOs have more number of outside board members, as was found in case of U.S. firms going into IPOs. The venture capitalists, the study found, helped these firms with recruiting independent board members with specialist industry experience. Thus, the venture capitalists model helps the newly starting companies as well as those offering IPOs, to have improvised structure of corporate governance.


VII- Conclusion


Different definitions of corporate governance try to emphasize on different objectives, goals, means and tools. In this regard, it can have different definitions for different viewpoints. The economic viewpoint sees its impact on the vitality and integrity of the market system; the legal viewpoint refers to the procedures and rules, explicit and implicit, that provide the incentive framework for companies to attract financial and human capital, perform efficiently and avoid corruption; the societal (social) viewpoint of corporate governance focuses on communications. However, current economic and financial crises have imposed the inclusion of risk management in the definition of corporate governance. This review of pertinent literature indicates that there has been a historical shift in the theoretical foundations of corporate governance. From economic theory and agency theory of corporate governance to the stakeholder theory of corporate governance, structure of board of directors and rules as well as regulations for managing the governance have significantly changed. The review of literature also suggests that after each financial crisis or corporate financial scandal i.e. Asian economic crisis in late 1990s, 2001-2002 Enron and WorldCom financial reporting scandals, and the GFC in 2008 have significantly shaped the regulatory frameworks of corporate governance in the U.S., Europe, and Asia Pacific region. While European Union (EU) publishes most number of corporate governance codes of conduct, the most noteworthy in the U.S. corporate governance was the promulgation of Sarbanes-Oxley (SOX) Act in 2002. The act required significant changes in management, board structure, accounting, financial reporting standards, and audit protocols for large scale private and public firms.


CEO, Board of Directors (BOA), and shareholders are identified as the main actors of corporate governance structures. There is no general consensus on range of stakeholders of a firm, respective governments and employees of a firm play an important role in defining legality of corporate structures and execution of governance policies respectively. The most consistent attributes of corporate governance that have been identified in the review of literature are discipline, transparency, independence, accountability, responsibility, fairness, and social responsibility. Some of the contemporary issues being identified in the corporate governance literature are sustainability of operations and profitability, ethics-based decision making, an emphasis on improvised financial reporting standards, risk recognition, and risk management by the corporate managers. Removal of conflict of interest in the job design and compensation packages of executive members of company’s management is a widely discussed area in literature. Contemporary trends of corporate governance in the U.S., Europe, and Australia indicate a shift towards increased percentage of outside directors along with shorter tenures of CEOs. Lastly, it has been found that venture capital model of financing has enabled an improved structural and procedural functioning of corporate governance in start-up firms.




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Joshi, Vasudha. Corporate Governance: The Indian Scenario. Foundation Books, 2004.


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O’Sullivan, Mary. “Contests for corporate control: Corporate governance and economic performance in the United States and Germany.” OUP Catalogue (2011).


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Van Ees, Hans, Jonas Gabrielsson, and Morten Huse. “Toward a behavioral theory of boards and corporate governance.” Corporate Governance: An International Review 17, no. 3 (2009): 307-319.


Appendix I- Examples of Corporate Governing bodies


Corporate Entity






Governing body


Limited Liability Company




Memorandum of Articles for Association


Board of Directors


Professional Organization


Qualified members of the profession


Charter and membership rules




Local Clubs


Club members






Trade Unions


Registered members


Constitution and branch rule books


General executive council


Founding statute or charter


The governing body


Source: (Tricker, 2012)

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