THE%20OECD%20CORPORATE%20GOVERNANCE%20PRINCIPLES%20AND%20THE%20ONGOING%20REVIEW

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THE OECD CORPORATE GOVERNANCE PRINCIPLES AND THE
ONGOING REVIEW

• Grant Kirkpatrick OECD
• Policy Dialogue on Corporate Governance in China
• Shanghai
• February 25, 2004

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Core Elements of the OECD Principles

1. The rights of shareholders
2. The equitable treatment of shareholders
3. The role of stakeholders
4. Disclosure and transparency
5. The responsibility of the boards

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Why core principles?

• Enormous variation in ownership and control
  structures in the world
• No single model of good corporate governance but
  need for a global language
• Detailed codes, best practices should be
  established at national and regional levels
• Objective to identify common elements or core
  principles underlying good corporate governance
  across the different systems a multilateral
  policy framework

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The call for an assessment/review of the
Principles
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OECD Ministers at their 2002 Annual Meeting

• Observed that the integrity of corporations,
  financial institutions and markets is essential
  to maintain confidence and economic activity and
  to protect the interests of stockholders.
• Agreed to implement best practices in corporate
  and financial governance which entails an
  appropriate mix of incentives, balanced between
  government regulations and self regulation,
  backed by effective enforcement.
• Agreed to survey recent experience and assess the
  Principles of Corporate Governance.

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THE FINANCIAL STABILITY FORUMS GUIDANCE FOR THE
REVIEW

• Recent improvements in national standards should
  be reflected in the revised Principles.
• While the Principles themselves should remain
  general, they should be strengthened.
• Provide more substantial guidance on
  applicability, implementation and enforcement in
  different economic and legal contexts.

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Policy concerns and driving forces

• Corporate scandals and large failures,problems of
  compensation and legitimacy.
• New awareness of links between Corporate
  governance arrangements and growth
• Reveal need for improving
• Transparency and disclosure
• Alignment of incentives
• Monitoring by boards
• Shareholder rights
• Implementation and enforcement

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The Review Process and Timetable

• OECDs Steering Group on Corporate Governance has
  carried out the Review (30 OECD Governments,
  World Bank, IMF, IOSCO, BIS, Basel Banking
  Committee, BIAC, and TUAC)
• Consultations were held with a wider group of
  interested parties, with non-OECD countries, and
  with several high-level roundtables chaired by
  the Secretary-General
• A survey of corporate governance developments in
  OECD countries since 1999, and a summary of
  experiences in non-OECD countries were prepared
  are available on our web site -
  www.oecd.org/daf/corporate-affairs
• Draft revised Principles were placed on the web
  for comment in January 2004 and resulted in some
  100 replies which are posted on our web site.
• Final version will go to Ministers in May

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The current state of the discussions,
chapter-by-chapter - Major issues - Possible
solutions
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Chapters I and II, The rights of shareholders
(plus their key ownership functions) and their
equitable treatment
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The corporate governance framework should protect
shareholders rights

• Right to have shares registered and secure
• Should be able to take part in shareholder
  meetings and in major decisions concerning the
  firm
• Equitable treatment of all shareholders, foreign
  and minority especially
• Should not be abused by insiders

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But in practice the rights are often weak and
redress is difficult

• Need for greater voice through strengthened
  voting rights and information
• More active institutional investors and
  disclosure of their conflicts of interest
• In presence of major shareholders improve
  protection of minority shareholders
• Takeovers often blocked

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Improving Shareholder voice

• The ability of shareholders to elect board
  members o their choice, to table proposals and
  ask questions of directors is, in reality, very
  limited in a number of countries.
• Should shareholders be given more decision rights
  with respect to board and executive compensation?
• Need to avoid shareholders second guessing
  management

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Ownership and shareholding structures

• The transparency of ownership and shareholding
  structures, including pyramids that result in
  control rights being greater than cash flow
  rights is limited in many cases.
• The Regional Roundtables have called for
  improvements in the disclosure of beneficial
  ownership to assist in efforts to curb abusive
  related party transactions.
• Beneficial ownership information also is
  important for the battle against international
  financial crime

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• Regional Roundtables on shareholder rights and
  equitable treatment
• Typically high degree of concentrated ownership,
  with control through pyramids and cross-holdings,
  combined with weak shareholder protection and
  insufficient disclosure equitable treatment of
  shareholders is a pivotal issue.
• Need to facilitate the exercise of shareholder
  rights.
• Minority shareholder rights in relation to
  changes in capital structure, in corporate
  control and delisting a concern (lack of
  pre-emptive or tag-along rights, etc.)
• Voting of depository receipts.
• Frequent abuse of related party transactions
  improved disclosure needed.

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• Improving and facilitating the exercise of
  voting rights
• Exercise of voting rights varies widely
• VOTES CAST BY INVESTORS AS A OF TOTAL
• U.S. Japan
  U.K.
• 83 71-80
  50
• Greater use of electronic communications?
• Institutional investors that act as fiduciaries
  being pressed to be more active.
• Legal and practical problems to cross-border
  voting widespread among the OECD countries.

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The rights and responsibilities of institutional
investors.

• While institutional ownership is growing in size
  and importance, institutional investors typically
  play a limited role in corporate governance.
• The issue is not always to add to their already
  established rights as shareholders. The problem
  is that they do not make use of them.
• This is partly due to a lack of proper incentives
  and sometimes due to restrictions on their
  ability to set aside sufficient resources to
  carry out key ownership functions in an informed
  way.
• Should those who act as fiduciaries disclose
  their voting policies. If they do, it would also
  be natural to ask that they disclose how they, in
  practice, will implement these policies for
  example what resources will they set aside to
  carry out their ownership functions.

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III. The role of stakeholders in corporate
governance

• Stakeholders include creditors, depositors and
  employees
• Encourage active co-operation between between
  company and stakeholders
• Performance enhancing mechanisms should be
  available
• Redress for violation of legal rights
• Access to relevant information

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Stakeholders Issues are complex and difficult.
Best to consider two major groups- creditors and
employees separately

• Creditor rights are important for the terms and
  conditions of finance
• These rights arise from bankruptcy and other
  laws, but in some countries these rights are
  deficient and/or the courts are poorly structured
  to enforce them.
• Recent reforms in Germany, Japan and Italy.
• Reorganization procedures and the rights of
  creditors to remove management vary widely.
• World Bank and UNCITRAL developing principles.

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• Regional Roundtables have stressed their concerns
  about corporate practices that impede the
  opportunity for stakeholders
• to seek redress for violation of their rights.
• To communicate their concerns about illegal or
  unethical transactions they have observed or
  asked to undertake.
• Such complaints can provide important information
  to shareholders.
• In response to such concerns, in a number of
  countries, boards are encouraged to
• Protect whistle blowers
• Give them confidential access to someone on the
  board
• Establish an ombudsman to deal with complaints

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IV Disclosure and transparency

• Objective is to ensure meaningful and reliable
  disclosure, which allows markets to judge the
  fair value of a company.

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Key elements of disclosure and transparency

• Major share ownership and voting rights
• Material foreseeable risk factors
• Full financial disclosure
• Governance structure and policies
• Information should be prepared audited and
  disclosed in accordance with high standards of
  accounting, audit and non-financial disclosure
• Regular disclosure

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The integrity of the disclosure process and of
transparency have been called into question

• Rules based accounting lead to show me I cant do
  it mentality.
• Holes such as derivative, pension and options
  accounting too wide.
• Audit independence called into question. They
  think they are employed by management.
• Standards of the big 4 not what they were
  expected. Peer review failed.

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Reactions

• Auditor independence strengthened both
  structurally and by rules.
• Move effective responsibility to another organ
  than management
• Convergence of accounting standards -- but
  implementation an issue.
• Greater consideration of disclosure of material
  information and conficts of interest
• More calls for non-financial disclosure

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• IOSCO released (Oct. 2002) principles for
  national standards covering auditor independence
  and auditor oversight.
• Reflect a growing international consensus.
• Many in OECD consider these principles to be
  minimum requirements.
• Importance of audit firms establishing internal
  monitoring and control systems.
• Auditors should be subject to an independent
  auditor oversight body, or if a professional body
  plays that role, it should be overseen by an
  independent body.

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The Financial Stability Forum has underscored
the importance of progress towards a single set
of high quality principles-based accounting
standards, with due regard to financial stability
concerns.

• US moving closer to a principles-based system.
• Process in place to work towards convergence of
  IAS and US GAP.
• EU (including its candidate states), Australia,
  NZ, Hong Kong, Russia, Singapore to adopt IAS.
• Indeed, GAAP Convergence 2002 survey of 59
  countries indicated that all but three ( Japan,
  Saudi Arabia and Iceland) intend to converge
  with IAS.

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• Ensuring that corporate service providers work
  in the interests of shareholders
• In exercising ownership rights, shareholders have
  to rely on agents (brokers, investment advisors,
  analysts, rating agencies) for information.
• Recently a number of cases of serious conflicts
  of interest and inappropriate incentives have
  come to light.
• Responses include changes in stock exchange rules
  and professional codes of conduct, structural
  changes such as firewalls, and increased
  disclosure, e.g., of material conflicts of
  interest.

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• V. Towards independent and more effective boards
• Moves towards increasing not only the number of
  non-executive directors but also ensuring they
  are independent
• 1. UK - Higgs Report
• 2. Japan new company law
• 3. US
• Commission on Public Trust and Private
  Enterprise NYSE
• Sarbanes-Oxley
• Independence of judgement and independence from
  management.

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Board Integrity Issues

• Responsibility to Whom? Is it Clear?
• Duty of Loyalty / Duty of Care
• Status of Independent Directors
• Legal Status of Committees
• Alternate / Supplementary Directors

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Typology of Directors
Executive Directors Knowledge of Day-To Day Operations Communicate Implement Decisions Management Nexus-Focused
Non-Executive (Outside) Directors Strategy Continuity Expertise Long-Term Planning Oversight of Key Risk Areas
Independent Directors Perspective Objectivity Conflict-Sensitive Functions
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• Separation of Chairman and Chief Executive
  Officer?
• UK view Separation (with the Chairman also
  independent) would help ensure an appropriate
  balance of power, increase accountability and
  enhance capacity of the board for independent
  decision making.
• Many in US and France disagree. In US, while
  Commission on Public Trust proposed a separation,
  other US codes and principles do not. NYSE
  reforms may set precedent.
• But there is recognition that the board should be
  given more structure.
• For example, independent or non-executive
  directors should be able to meet separately under
  some lead director who can the channel opinions
  to the Chairman/CEO.

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• A number of countries have moved to require
  better disclosure of board and executive
  compensation
• Nomination and appointment of the board is a key
  corporate governance decision transparent and
  even-handed nomination and recruitment process is
  needed.
• Remuneration including information on the
  structure of compensation schemes and termination
  conditions relevant not only for financial
  implications but also for assessing incentives
  and performance.
• Some countries call for disclosure of individual
  remuneration others ask for only aggregate board
  compensation.
• NYSE and NASDAQ have proposed independent
  compensation committees codes and principles in
  other countries go in same direction.

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The use of special purpose committees

• The use of board committees for such tasks as
  audit, remuneration, nomination, etc. has spread
  rapidly around the globe in the last five years.
• However, it has become quite evident that the
  underlying concepts are not always well
  understood and that such committees serve quite
  different roles in different countries. In the
  worst case they have become nothing but
  window-dressing.
• In order to avoid confusion and inform investors
  about the added value of board committees, it
  has, therefore, been suggested that the
  composition, mandate and remit of committees must
  be well defined and disclosed, even if they are
  established on a voluntary basis.

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Implementation and enforcement of laws,
regulations and codes

• Enacting laws, regulations and codes that meet
  international standards is the easy step
  effective implementation and enforcement is much
  more difficult.
• Scope and content of self regulation is under
  scrutiny incentives facing the professions may
  conflict with their integrity and credibility to
  uphold and enforce expected standards.
• Capacity and independence of regulatory and
  enforcement authorities are a serious concern,
  especially in emerging market and transition
  countries.
• Legal and regulatory framework should provide
  shareholders opportunity for effective legal
  redress.

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Steps toward implementing a more robust corporate
governance regime

• Review regulatory costs of any proposed measure
  and whether there are any more effective
  instruments at hand.
• Strengthen market disciplines as they are the
  most effective continuing discipline on
  management. Give emphasis to getting incentives
  aligned properly.
• Strengthen the ownership function of
  shareholders.
• Monitor the governance system particularly the
  effects of new measures.