close
Business
close
Investor's Psychology

Corporate Governance: Rules, Repercussions and Resolutions

Created on 29 Oct 2023

Wraps up in 7 Min

Read by 2.6k people

Updated on 31 Oct 2023

Corporate Governance: Rules, Repercussions and Resolutions

We all find formal talks like laws and regulations difficult to grasp; these concepts can even be boring sometimes. Reading about corporate governance in the business world could sound similar to that, but don't worry, as I will help you amusingly understand this bookish topic. You will find my amusing approach to explaining corporate governance more engaging than a bookish style.

Let me explain it to you with one of the most famous dialogues of Bollywood's Shahenshah, Amitabh Bachchan. 😃

Ahh yes!! I can still clearly hear the bold sound of Amitabh Bachchan's voice and the quiet of Gurukul's hall. 🤓

Like me, if you also remember this scene from the movie “Mohabbatein” then you would be able to understand what corporate governance is about.

  • The unique culture (parampara); 🙏
  • Esteemed reputation (pratishtha); 👍 and
  • Regulations (anushashan) ✍️ of a company make up corporate governance.

Corporate governance is about creating a system where all stakeholders can work together to achieve their common goals. It's about ensuring that the company is run fairly & transparently and that the interests of the stakeholders are protected.

Heed reader, because when I say stakeholders, I mean shareholders, board members, and the management team. It's a complete package, as each personality's role affects others precisely.

To contribute towards the smooth running of the company, all the stakeholders need to work in conjunction. They must follow a set list of rules & regulations and avoid making major mistakes. Emphasis on major as minor errors are prone to occur; stakeholders are also human, you know 😉.

When one or more of the rules get messed up, it can lead to the birth of a myriad of issues for a company. Take ESG for example. Analysing the Environmental, Social and Governance components of a company is a new addition to the board of director's responsibilities. An ESG Score of a company highly depends on how the corporate governance rules are followed.

This non-financial parameter is the newest addition to the pointers one should look at while analysing a company. Refer to the article ESG Excellence in India: A Deep Dive into Top Performing Companies for a better understanding.

Now, before we jump on to seeing the main principles and their repercussions, let's understand what is…

Particulars of Corporate Governance

The rules, structural procedures, and compulsory practices followed and controlled for the smooth running of a company are what sums up corporate governance. These sets of principles are corporate laws and regulations to provide maximum benefit for all kinds of stakeholders, such as shareholders, customers, the company's board, senior management, suppliers, and lenders.

In simple words, you can say that corporate governance is a set of rules devised to manage and direct a company properly. Good corporate governance ensures the company is well-run, transparent, and accountable. On the other hand, bad governance results in scandals, falling share price of the company, and other repercussions.

The image below notes the major consequences of good and bad governance for easy understanding.

The image below notes the major consequences of good and bad governance for easy understanding.

Now, let's head on to the parampara and pratishtha portion of the article. It's time to learn what are the main…

Principles of Corporate Governance

Like movies, the principles discussed below also play an essential role in one's life. In short, you can think of a company as an entity that requires the balance of laws, structure, and values for a streamlined run.

A company as an entity that requires the balance of laws, structure, and values for a streamlined run.

Accountability:

Shareholders, vendors, board of directors, and other stakeholders have contributed their time, money, and efforts towards the company, and thus it should be accountable to them. The company should disclose financial information and other relevant information to its stakeholders, and it should be subject to independent oversight.

The reasons behind selecting a new project or decision and what could be the result should be explained to stakeholders briefly. Leaving out details may cause losses to the company. 📉

Transparency:

The company should be transparent in its dealings with its stakeholders. It should disclose information like financial data, risk details, and conflicts of interest in a timely and accurate manner. Plus, it should be responsive to inquiries from its stakeholders.

Activities opposing transparency, such as hiding facts and book cooking, often lead to enormous issues for the company. 😟 In short, honesty is the best policy when it comes to dealing with stakeholders.

Fairness:

The company should treat all of its shareholders and other stakeholders fairly. This signifies that the company should not give preferential treatment to any one group of stakeholders and ensure that all have an equal opportunity to participate in the company's decision-making process.

Not only will playing favourite to one group or individual be unfair to another, but it can also cause an imbalance in the company's structural operations. ⚖️

Responsibility:

One of the most significant responsibilities of board members of a company is to hire an efficient Chief Executive Officer (CEO). The CEO is not only the face of a company, but they also contribute to making strategic decisions. 🤵

The company's directors should act responsibly in the best interests of the company and its shareholders. Directors should exercise due care in making decisions, and they should avoid conflicts of interest. Choosing a good CEO could be solved by this.

Risk Management:

Berkshire Hathaway, the multinational conglomerate headed by Warren Buffett, is popular for its risk analysis structure. The many companies under the group have separate risk management systems. This decentralised structure makes the group a solid fort resistant to several upcoming troubles. 

Similarly, companies should have a system in place to identify and manage risks. Creating an accurate charting of risk analysis should be a big priority for every company. Before deciding, its shortcomings should be identified and discussed with the stakeholders to avoid being blindsided. 🧐

The five principles of corporate governance are the bedrock of a well-run company. The companies should follow them as if lives depend on them because the livelihoods of thousands do.

Repercussions of Bad Corporate Governance

Every action has an equal and opposite reaction. It's the law of nature, the most absolute one. So, let’s see what happens when companies don't follow the anushashan portion of this article.

Financial Losses:

Let's understand this with an example. One of the biggest accounting frauds, the Satyam Scandal, led to the reformation of several laws in the corporate governance system. Satyam Computer Services was an Indian IT company that collapsed in 2009 after it was revealed that the company's founder had been inflating the company's earnings.

Hence, poor corporate governance can lead to financial losses for the company, such as fraud or embezzlement.

Damage to Reputation:

In 2015, Volkswagen was caught cheating on emissions tests. The company had installed software in its cars that allowed them to pass these tests in the lab but then emit much higher pollution levels on the road.
This scandal caused significant damage to Volkswagen's reputation. The company's stock price plummeted, and it faced billions of dollars in fines and lawsuits. Volkswagen also had to recall millions of cars to fix the emissions problem.

Hence, such lousy corporate governance can damage the company's reputation, making it more challenging to attract investors and customers.

Regulatory Penalties:

Businesses that violate corporate governance rules can be fined or even shut down by regulators. The delay in the Zee-Sony merger, one of the most awaited mergers of modern times, is a result of the lowering reputation of the founders. Subhash Chandra and his son Puneet Goenka have been banned by SEBI regulators from holding any key managerial positions in the company due to their failure in being an upstanding manager.

Hence, a good opportunity for not only the companies but the nation as a whole is on hold because of the shortcomings of a few stakeholders.

Intensified Government Scrutiny

As soon as a company's bad practices see the light of day, other companies' matters are peeked at by the authorities. A fresh example of this incident is the reformation of the GST Tax on gaming platforms. After companies like Delta Corp were sent big GST notices, the government reformed the whole system by charging 24% face on GST to all gaming companies.
Read the article Is Online Gaming Industry in India on the Brink of Extinction to learn what happened in detail.

Therefore, the government often starts overseeing every portion of the sector after one bad fish starts dirtying the water.

Author's Word of Advice

Just like a ship's rudder, companies should follow a well-organised direction. When held steady, the ship's rudder helps navigate any storm that comes its way. But when the rudder is loose, it can easily veer off course and crash into the rocks. So, whenever you hear about a company's scandal, just know that one or more corporate governance principles must have been broken.

To prevent your company from being dragged through the mud, take note of these factors:

  • Avoid using company assets for personal gain.
  • Promote a culture of ethics and compliance.
  • Implement sound corporate policies and procedures in stakeholders' interest.

The Bottom Line

And that's what corporate governance is all about. Being in line with the rules, making decisions by considering everyone's benefits, and devising strategies for the company's growth are essential. Told you the concept can be learned easily. 🤗 For more such conceptual understanding, visit Insider.

comment on this article
share this article
Photo of Preeti Gupta

An Article By -

Preeti Gupta

122 Posts

4.9m Views

577 Post Likes

A book-lover who adores everything fictional, Preeti has undertaken the life mission of tasting every flavour available in the pantry. A science student with a Master's in Mass Communication, she now wishes to conquer the Finance world as a writer. With the power invested by the randomly chosen music, she is here to make Finance fun for you.

Share your thoughts

We showed you ours, now you show us yours (opinions 😉)

no comments on this article yet

Why not start a conversation?

Looks like nobody has said anything yet. Would you take this as an opportunity to start a discussion or a chat fight may be.

Under Investor's Psychology

"A few" articles ain't enough! Explore more under this category.

close
Share this post
share on facebook

Facebook

share on twitter

Twitter

share on whatsapp

Whatsapp

share on linkedin

Linkedin

Or copy the link to this post -

https://insider.finology.in/behavioral-finance/corporate-governance

copy url to this post
Copied