Wednesday, 22 January 2014
By Chan Hoi Leong, Researcher
Area of discussion: Corporate Governance
Chapter/Keyword(s): Malaysian Code on Corporate Governance 2012 (“MCCG 2012”)
Discuss how the Malaysian Code on Corporate Governance 2012 would help to strengthen governance in listed companies in Malaysia including the roles and responsibilities of the board and management; reinforce independence, risk and financial reporting.
Essentially, Malaysian Code on Corporate Governance 2012 (“MCCG 2012”) lists down wide principles of good governance and detailed recommendations on structures and processes as well as commentaries to aid understanding by giving out guidelines and examples. Ideally, companies are advised to follow its best practices which are flexible, as it will lead to the creation of sound corporate governance culture, besides promoting ethical and sustainable values. It encourages companies to put extra efforts on their governance needs instead of merely fulfilling the minimum requirements or “box ticking”. This is beneficial as Mallin (2013, p.291) highlights that many listed companies in Malaysia are still family-controlled; at such shareholders’ rights are often being ignored while transparency and independence are relatively weak. It is indeed the keys for efficiency, market confidence and investor protection. Below is the careful analysis of each principle including their impacts, advantages and effectiveness:
Under the first principle of establishing clear roles and responsibilities, the board shall formalise ethical standards through a code of conduct. For example: trade practices, ethics guidelines and working standards. Organisations should view codes as a great tool to inculcate its employees with sound principles besides regulating their behaviour only (Steger & Amann 2013, p.149). At such, codes can add value to firms by creating an ethical and positive work culture throughout the entire company. Ideally, well-administered and properly executed codes can offer numerous benefits such as provide guidelines to assist employees whenever they face ethical dilemmas in finding the proper course of action; minimise the risk of having too many subjective and inconsistent management standards; build public trust and improve business reputation; and ultimately, promote market efficiency. PricewaterhouseCoopers (PwC) and Deloitte are some of the industrial examples that are having a strict code of conduct.
Next, the board should also assure that the organisation’s strategies promote sustainability especially in the area of environmental, social and governance (ESG) whereby their respective policies and implementation need to be disclosed in the company’s annual reports and website. Such disclosures are important for long-term growth and profitability. For instance: the ways on how an organisation operates, measurement of progress towards achieving their sustainability targets, identification of new market opportunities for sustainability-related products and services, mitigation of sustainability-related risks and so on. It is apparent that sustainability initiatives can aid in boosting a company’s competitiveness, employees’ morale and ability in getting more capital (Main & Konigsburg 2011, p.3).
Then, the board ought to formalise and make public of its board charter, which point out the board’s strategic aims, roles and responsibilities. This is vital especially for the area that concerns with the division and separation of authorities and responsibilities between the board and the management, the chairman and the CEO, and all the board sub-committees; all roles should be clear-cut, non-ambiguous and preferably be split. By doing so, it will give a better insight to the person in charge whereby they can discharge their duties delegated to them more effectively in their own area of control as well as increasing their understanding ability on what needs to be done so that they can do the right things correctly. Tasks if possible should not be overlapping to avoid confusion. This is to prevent ‘pointing finger attitude’ when something went wrong and indirectly, it will boost their seriousness in doing work too. This is because everyone is held accountable or liable for what he or she did while the others can know who to refer or blame when they identify work errors and mistakes. As a consequence, it will promote efficiency in each individual, team and division. Performance evaluation and assessment can also be done more accurately and fairly. It is noted that Sime Darby already doing this.
Meanwhile, it is undoubtedly that the nominating committee’s responsibilities have been increased tremendously under Principle 2: Strengthen Composition. Since they are in charge to supervise the director’s selection and assessment, it is strongly advisable that the nominating committee should comprise exclusively of NEDs of which majority of them must be independent. Besides, the nominating committee’s chairman should also be a senior independent director. The benefits of this move are it gives additional independence and increase objectivity in the director appointment process (Azmi 2012, p.13). Thus, avoids the directors from being appointed on the basis of personal connections or networking (Mallin 2013, p.171).
Subsequently, nominating committee shall develop, maintain and review a set of criteria to be used in director’s recruitment process and annual assessment. By doing this, it could help in identifying the best director, preferably who is balance in all aspects and can add value to the board as a whole (Azmi 2012, p.13). Logical thinking suggests a person’s performance will vary from time to time, that is why yearly assessment is essential. When assessing the suitability and quality of directors, nominating committee shall check, monitor and appraise each individual whereby considerations should be emphasize on performance, competencies, commitment (time spent in company and number of meetings attended), contribution, behaviour and et cetera vigorously and regularly (Mallin 2013, p.172). If necessary, remove incompetent or unsuitable directors. Not only that, the board should set a policy related to boardroom diversity and take proactive steps to ensure that women candidates are included in its recruitment exercise. Research suggests that mixed-gender teams are superior in solving complicated problems and examining more aspects of a problem (Gladman & Lamb 2013).
At the same time, the board should create a remuneration committee to develop official and transparent remuneration policies and procedures as well as to design fair remuneration packages which are align with the company’s long-term aims and business strategies in order to attract, retain and motivate directors. This move is critical as it can reduce the possibility of quality directors from being headhunted easily, encourage directors to strive harder and avoid companies from paying more than necessary. Remuneration committee needs to ensure that the design of contracts exclude ‘rewards for failure’, to prevent rewarding poor performing directors (Mnzava 2012, p.45). In addition, companies are highly encouraged to disclose board remuneration policies and procedures in their annual reports. In connection with that, previously Zakaria (2011) highlights that many company directors in Malaysia were still unwilling to reveal their remuneration details whereby only 8.3% of directors have declared their remuneration fees in 2011. Hopefully, this situation can be improved further in the future.
Another principle would be reinforcing independence. Undeniably, independent directors could help in mitigating risks arising from conflict of interest or unduly influence given by interested parties to control board’s decisions. Therefore, assessment of independent directors needs to be done yearly to evaluate whether they are still capable to provide independent and objective judgement as well as unbiased opinion during the board discussion. In this case, it is recommended that the nominating committee should set out the independence assessment’s criteria. For example: check whether they got received additional remuneration (apart from director’s fee) from the company; check whether they have any family or close relationship with other directors or advisers of the company (if any), level of commitment (time devoted and meetings’ attendance) and et cetera (Mallin 2013, p.175).
Besides, companies are discouraged to retain an independent director for more than nine years (Oh 2012); the reason behind this is long tenure might jeopardise independence because independent director has been receiving benefits for quite a long duration and started to feel attached with the company already. Hence, the danger is they might become biased and side the internal people. Anyway, they still can opt to serve the company in the capacity of a non-independent director. Furthermore, shareholders’ approval must be sought and board must give reasonable justification also before an independent director who has served for more than nine year can continue to remain independent (Law 2012, p.1). Another recommendation is the CEO and chairman shall not be the same person, and the chairman must be a non-executive director. This is extremely important to promote accountability and also to ensure that the CEO cannot easily influence the board. Thus, the risk of CEO abuses power to do something that are not beneficial to the shareholders and company can be potentially be reduced (Mallin 2013, p.167). If the chairman is non-independent, the board must consist of a majority of independent directors to “neutralise” the board. This is truly useful and helpful for corporation that are dominated by families like Berjaya Corporation.
As per the fourth principle: foster commitment, the board shall come out with its expectations on its members’ time commitment and set new directorship acceptance protocols. Ideally, directors should allocate enough time to run their duties. This recommendation is vital especially for those individuals that hold multiple directorships as they are more prone to distraction, easily lost focus and usually cannot provide sound advices as compared to the person that hold only one directorship (Hashim & Rahman 2011, p.137). This move encourages directors to at least notify the chairman about how much time that they could spend on the new appointment, before they accept any new directorships. Moreover, board also need to ensure that its member will frequently update their knowledge and refine their skills via suitable continuing education courses and long-term learning. This is because as time passed by, knowledge and skills will become irrelevant and obsolete due to globalisation and changing market dynamics. This move promotes sustainability whereby it enables directors to engage actively in board deliberations.
According to the fifth principle to uphold integrity, audit committee should ensure that the preparation of financial statements is in line with applicable financial reporting standards to promote reliability, besides having policies and procedures to evaluate the appropriateness and independence of external auditors. This includes a review of the audit fee and fees paid for non-audit work (Mallin 2013, p169). The external auditors’ independence would be threatened if they provide non-audit services to client without adequate safeguards and control as they might grow closer to the company (ICAEW 2013). This is even could be worst if the non-audit fees are higher than the audit fees as it is open to suspicion. That is why it is recommended that the audit committee shall establish policies to govern those non-audit services issues and procedures for external auditors to follow. In addition, external auditors’ written assurance should be obtained by the audit committee to confirm that they have been independent throughout the whole audit engagement.
For the sixth principle, the board should set up a good risk management framework and disclose in the annual report the primary features of the company’s risk management framework and internal controls system. All risks must be clearly identified, assessed and monitored as they can affect the bottom line, company and employees. For example: liquidity risk, political risk and reputation risk. Company ought to take appropriate measures to reduce and minimise risk such as diversification and transfer of risk; whilst to ensure that internal controls system is always practicable and robust, periodic testing of the effectiveness and efficiency of its procedures and processes must be carried out consistently. Such moves will safeguard shareholders’ investments and the company’s assets. Besides, an internal audit function that reports directly to the Audit Committee should also be established. Internal auditors shall have relevant qualifications and experiences to run their duties smoothly including review and appraise the governance, risk management and internal controls processes.
Meanwhile, the new additions under the seventh principle stress drastically on the importance of well-timed and sound disclosure. Firstly, organisations are required to have proper corporate disclosure policies and procedures, which include the reconsideration on the need for non-financial information data’s disclosure. Basically, it encourages companies to move away from merely satisfying the minimum reporting requirements to high quality and comprehensive disclosures. Ideally, more disclosures generally mean that the shareholders can have a clearer view about the company and indirectly, improve shareholders’ decision making as well as erase doubt. This will surely heighten transparency and shareholders’ confidence. Secondly, it promotes better and extensive use of technology; so that timely information can be communicated and circulated to all the shareholders (Pasricha 2012). For instance: setting up a platform exclusively for corporate governance in company website to display information like board charter, shareholders’ right and the annual report. As compared to traditional snail mail or postal system which is slow, costly and need a lot of effort, such technology-based dissemination methods are more effective, fast and convenient. Plus, it promotes higher accessibility, no delay and it is capable to reach wider audiences including foreign investors. The advantage is shareholders will not received out-dated information which is irrelevant in decision making.
Finally, the eighth principle defends and enhances shareholders’ rights as well as foster closer ties between company and shareholders. Sensible actions shall be taken by the board to encourage shareholders to take part in general meetings. Although the current minimum notice period is 21 days (OECD 2011, p.17), companies are allowed to give notices earlier than that to show their commitment. The board needs to think carefully whether they wish to utilise advanced electronic voting since it can potentially increase shareholder participation as physical attendance is not needed. Plus, shareholders are able to vote from remote computer terminals conveniently. Nonetheless, security and cost issues remain a challenge. Likewise, the board needs to move towards poll voting too. Shareholders need to be informed about their right to request a poll vote at the beginning of the general meeting. Pasricha (2012) voice out that the normal practice of show of hands voting is unfair because it does not take into account the shareholders’ percentage of shareholding. Since each shareholder who present physically has one vote, it empowers minority shareholders unequally. Fortunately, poll voting supports ‘one share one vote’ principle and the display of detailed results regarding the number of votes cast for and against each resolution will improve transparency significantly. In addition, electronic poll voting is also recommended as it can eliminate human error in counting votes and hence, recounts are unnecessary. Besides, the board needs to promote fine communication and actively engage with their shareholders. At such, they can consider to carry out regular meet ups, conference meetings, dialogue sessions and corporate visits to boost mutual understanding.
All in all, as the fulfillment of those principles and recommendations are voluntary, the adoption will heavily depend on a company’s willingness. Most importantly, if companies have decided to follow and execute majority of all those recommendation, it will certainly help them in strengthening their governance and create a win-win situation which is beneficial to the companies as well as to the shareholders. Profit aside, at least such code will push the board and sub-committee to perform their duties efficiently. Hence, companies should view it as a great opportunity to increase their corporate governance’s rating. A pleasant rating attracts new investments, gives a good impression to shareholders and indirectly increases their confidence. The adoption will improve overall performance, reduce fraud and help to gain better reputation. Not only that, core values such as transparency, independence, integrity, accountability, fairness and so on can be further improved too.
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