1. Archie B. Carroll Ann K. Buchholtz
Business & Society Ethics, Sustainability, and Stakeholder Management Eighth Edition
Archie B. Carroll
Ann K. Buchholtz
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2. Chapter 4 Corporate Governance: Foundational Issues
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Learning Outcomes
Link the issue of legitimacy to corporate governance.
Identify the best practices that boards of directors can follow.
Discuss the problems that have led to the recent spate of corporate scandals and the efforts that are currently underway to keep them from happening again.
Discuss the principle ways in which shareholder activism exerted pressure on corporate management groups to improve governance.
Discuss the ways in which managers relate to shareholders and the issues arising from that relationship.
Discuss the issue of shareholder democracy, its current state, and the trend for the future.
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Chapter Outline
Legitimacy and Corporate Governance
Problems in Corporate Governance
Improving Corporate Governance
The Role of Shareholders
Summary
Key Terms
Discussion Questions
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5. Legitimacy and Corporate Governance
A condition that prevails when there is a congruence between an organization’s activities and society’s expectations.
Legitimation
A dynamic process by which a business seeks to perpetuate its acceptance.
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Corporate Governance
Corporate governance
Refers to the method by which a firm is being governed, directed, administered, or controlled and to the goals for which it is being governed.
Is concerned with the relative roles, rights, and accountability of such stakeholder groups as owners, boards of directors, managers, employees, and other stakeholders.
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7. The Corporation’s Hierarchy of Authority
State Charter
Shareholders
Board of Directors
Management
Employees
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8. Separation of Ownership from Control
Precorporate Period
Corporate Period
Shareholders (ownership)
Board of Directors
Management (control)
Owners (ownership)
Managers (control)
Agency problems develop when managers
pursue self-interest over owner interest
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9. CEO Pay/ Firm Performance Relationship
Stock Options
Allows the recipient to purchase stock in the future at the price it is today.
Backdating
Allows the recipient to purchase stock at yesterday’s price, resulting in immediate wealth increase.
Spring-Loading
Granting of a stock option at today’s price, but with the inside knowledge that stock’s value is improving.
Bullet Dodging
Delaying of a stock option grant until right after bad news.
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Excessive CEO Pay
Say on Pay
Evolved from concerns over excessive executive compensation.
Began in the United Kingdom in 2002 with regulations on pay.
Clawback provisions
Compensation recovery mechanisms that enable a company to recoup compensation funds, typically in the event of a financial restatement or executive’s misbehavior.
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11. Executive Retirement Plans and Exit Packages
Retirement packages have come under scrutiny.
Lavish executive packages contrast to most workers, many of whom to do have a retirement plan.
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12. Outside Director Compensation
Paying board members is a recent concept.
Controversy over whether directors should be paid at all, and whether they are paid enough.
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Transparency
SEC requires disclosure of executive compensations.
Disclosure forms are long and difficult.
Tax Gross-Up
Reimbursement for taxes one would have to pay on medical benefits or other such costs.
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14. Impact of the Market on Corporate Control
Poison pill
Golden parachutes
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Insider Trading
The practice of obtaining critical information from inside a company and using that information for one’s own personal financial gain.
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16. Improving Corporate Governance: Sarbanes-Oxley Act of 2002 (SOX)
Limits the nonauditing services an auditor can provide
Requires auditing firms to rotate the auditors working with a specific company
Makes it unlawful for accounting firms to provide services where conflicts of interests exist
CEOs and CFOs certify and are held responsible for financial representations
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Improving Corporate Governance: Sarbanes-Oxley Act of 2002 (SOX) (continued)
Enhances financial disclosure with requirements, such as:
Reporting off-balance sheet transactions
Prohibiting personal loans to executives and directors
Requiring auditors to assess and report upon internal controls
Audit committees must have at least one financial expert
Whistle-blowers are given protection
Code of ethics disclosure
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18. Improving Corporate Governance
Changes in boards of directors
Board diversity
Outside board directors
Use of board committees for:
Audit
Nominating
Compensation
Public policy
The board should “get tough” with the CEO.
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Board Diversity
Board diversity is lacking
Only around 15% of directors in U.S. are women.
Sixty-six Fortune 500 firms have no female board members.
Hispanics, Asian Americans and African Americans also under-represented.
Diverse boards are also less likely to fall prey to groupthink because they have a range of perspectives.
Is a global problem.
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20. Other Board Committees
Nominating committee
Is composed of outside directors.
Has the responsibility of selecting competent, objective board members.
Compensation committee
Evaluates executive performance and recommending terms and conditions of employment.
Public issues committee (Public policy committee)
Responds to public or social issues.
Deals with areas in which public or ethical issues are present.
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21. Board Member Liability
Business judgment rule
Holds that courts should not challenge board members who act in good faith, making informed decisions that reflect the company’s best interests.
Board members need to be free to take risks without fear of liability.
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22. Board Member Liability (continued)
The “Caremark Standard,” which heightened concerns over personal liability, states that directors can be held personally liable if:
The director utterly failed to implement any reporting or information system or controls, or
Having implemented such a system or controls, consciously failed to monitor or oversee its operations, disabling their ability to be informed of risks or problems requiring their attention.
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23. Shareholder Democracy: Key Issues
Majority Vote
The requirement that board members be elected by a majority of votes cast.
Classified Boards
Boards that elect their members in staggered terms.
Proxy Access
Provides shareholders with the opportunity to propose nominees for the board of directors.
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The Role of the SEC
Is responsible for protecting investor interests.
Critics argue that the SEC is more focused on businesses than on investors.
SEC failed to catch the Bernard Madoff Ponzi scheme before losing investors billions.
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Investor Relations
Full disclosure (Transparency)
Information filed at regular and frequent intervals that contains information that might affect investment decisions.
Management is responsible for communicating with shareholders.
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Key Terms
Accounting Reform and Investor Protection Act of 2002
Agency problems
Audit committee
Backdating
Board of directors
Business judgment rule
Legitimacy
Legitimation
Charter
Classified boards
Clawback provisions
Compensation committee
Corporate gadfly
Corporate governance
Shareholder democracy
Employees
Full disclosure
Inside directors
Insider trading
Golden parachute
Legitimacy
Legitimation
Majority vote
Management
Nominating committee
Out-of-pocket liability
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Key Terms (continued)
Sarbanes-Oxley Act
Separation of ownership from control
Shareholder activism
Shareholder democracy
Shareholder lawsuits
Shareholder resolutions
Shareholders
Spring-loading
Stock options
Tax gross-up
Transparency
Outside directors
Personal liability
Poison pill
Ponzi scheme
Public Securities Litigation Reform Act of 1995
Proxy access
Public issues committee
Public policy committee
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