Corporate Governance Systems across the World and Issues in Corporate Governance - Case Study Example

Strategy and Governance Contents Strategy and Governance Contents 2 Concept of corporate governance 3 Different corporate governance systems acrossworld 3 Corporate governance and market mechanism 4 Issues in corporate governance 5 Empirical examples of corporate governance failure 7 Case Study 8 Company History 8 Corporate governance of GSK 9 Conflicts of GSK 11 Recommendations 12 Reference List 15 Concept of corporate governance Corporate governance is one of the concepts that have received huge attention from a large number of academicians and marketers alike. Transnational corporations like World Bank, describe corporate governance from two perspectives. The first one describes corporate governance as the organizational relationship between management, owners, board and other stakeholders. The second perspective describes it from the point of view of society as a whole; the view focuses on the responsibility that a company has towards the society and the ways in which business practices subsequently become sustainable in long run (Friedman and Miles, 2006). The definition provided by OECD also reflects the idea propagated by World Bank and stresses upon the distribution of rights and responsibilities among key organisational players, besides providing the basic guideline for making organizational decisions (Rossouw, 2009). It can be argued that corporate governance also relates to both public and private institutions and includes regulations, legislations and business practices. Corporate governance dictates relationship in market economy, between the managers and corporate insiders on one hand and the investors on the other hand (Barclay and Holderness, 1989). Different corporate governance systems across world Corporate governance across different countries appears to be dissimilar. The standards set for corporate governance is largely dependent on nature of the ownership and control of firms in the nations wherein they operate. There are two basic parameters that mark the difference between corporate governance among firms in separate countries, namely degree of ownership and power of the controlling shareholders (Becht and Roell, 1999). The nature of ownership can either be dispersed or concentrated. Dispersed ownership is characterized by outsiders in the core management of an organization and concentrated ownership involves insider systems. Countries such as, the U.S.A. and the U.K., have outsider system of corporate governance and those such as, Germany and Japan, have insider system of corporate governance (Blair, 1995). According to researchers, the conflict in case of outsider system of corporate governance arises between strong senior managers and weak shareholders in the system; whereas in case of insider systems, the source of conflict lies in between controlling shareholders and minority shareholders. These basic differences have a profound impact on corporate governance practices that are followed by organizations across the world. The first codes of corporate governance were created in the U.S.A. in 1978. A major development in the corporate code of governance was made by the Cadbury Committee. Several amendments have been made in corporate governance codes across countries to keep them updated (Mayer, 1996). Though there are differences in the basic implementation of corporate governance, yet there is a commonality in the goals to be achieved. For instance, effective corporate governance defines strategic aims of a company and implements best business practices that can facilitate sustainable development in business by reporting transparently to the shareholders. Corporate governance and market mechanism Market mechanisms have an important role to play in guiding corporate governance. The role of capital markets in controlling behaviour of the agents in respect to corporate governance is profound. In most cases, if corporate governance of a system is weak, then the organization is exposed to threats of takeover where the initial board of directors is removed from its position. Mergers and acquisitions appear to closely follow, if the management is unable to build robust corporate governance. Another market mechanism with a strong impact on corporate governance is the aspect of product competition. However, this mechanism is relatively slow and not quite effective in creating efficient system of corporate governance (Mehran, 1995). Researchers have claimed that although the role of product market competition in often ignored, it has the capability to create an effective system of corporate governance. This situation intensifies further when the capital markets are not perfectly competitive. Works of Petersen and Rajan (1995) have pointed out that degree of product market competition can also influence efficiency in corporate governance. The overall aspects of an economy like, labour market, capital market and product market, also influence effectiveness of corporate governance. If there are deficiencies in the market structure, then it will result in poor corporate governance in countries (Tuan, 2012). The specific codes of conduct in corporate governance are heavily affected by labour market conditions of a country. The importance of markets in corporate governance arises from the fact that every organization tries to maximize its market value through effective corporate governance. Markets for corporate control have resulted in a large number of mergers and acquisitions in the U.S.A. and the U.K. Then again, frequency of these mergers is considerably low in other countries like, Germany, Japan and France. Issues in corporate governance There are various challenges or issues that can arise in respect to effective implementation of corporate governance. The existing literature points out that there is no singular definition of corporate governance that is adopted by organizations. For instance, main challenge in the managerial capitalism model of corporate governance states that organisational managers are stronger relative to the owners (Kaptein and Tulder, 2003). This is a classic case of the principal agent problem. In this case, the primary challenge is to control the power of managers and ensure that they work in the company’s interest. Similarly, in respect to the reference shareholder model, the main issue surfaces from protecting the interest of minority shareholders during a conflict with the majority shareholders (Wood and Lodgson, 2002). Issues in corporate governance arise from the asymmetry of power and information between shareholders and managers and the separation of power. It has been observed that if the board is heavily dominated by only one executive, then there are possibilities that the individual may malign the interest of the organization in favour of his own. In a study conducted by UNCTAD (2003), it was revealed that investors often claim transparency and disclosure as well as clear auditing practices from an organization, which they fail to receive at times. It has been argued that boards are often in dilemma regarding the conflict of interest between ultimate beneficiaries and investment managers. Conflicts of interest in corporate governance are the main reason, which creates challenges in its implementation. Broadly speaking, there are two types of conflicts of interest, namely transactional conflict of interest and situational conflict of interest (UNCTAD, 2003). The boardroom conflict occurs mainly because of the relationship between independent directors and the CEO, the need of information by directors and the non-cooperation on part of the management to provide required information, balancing long-term and short-term organisational interest and so on and so forth. In case of any corporate governance disputes, the negative impacts are manifested in a company’s performance and tarnished public image (Runesson and Guy, 2007). The failure of several organizations in the contemporary world can be attributed to the inability to build a strong culture of corporate governance. Researchers have suggested that the role of managers in building a strong culture of corporate governance is vital. Performing extensive fiduciary duty and clearly specifying internal and external code of conducts are integral for developing an effective infrastructure of corporate governance (Fernando, 2009). The increasing instances of corporate scandals in the new millennium bears testimony to the fact that the management in leading institutions are failing to incorporate appropriate standards for securing the investments made by shareholders. Empirical examples of corporate governance failure For instance, the case of Worldcom scandal is a classic case of unethical business practices that had surfaced from ineffective corporate governance. Worldcom had an otherwise aggressive journey in the 90s marked by extensive mergers and acquisitions. The main problem for the company had begun when it had announced a merger with Sprint. The government authority blocked this merger by way of raising an issue that such a merger could result in monopoly in the telecommunication sector. This news had resulted in plummeting stock prices of Worldcom. The company’s CEO had wrongly influenced the board of directors to pay money to him so as to salvage the remaining stock. Instead of using the money for productive purposes, it was put into fraudulent accounts by making false entries. This fraud was soon discovered by the internal audit department and the SEC was involved in the investigation, thereby leading to jail of the CEO. The fraud had mainly occurred because the corporate culture was not transparent and was maligned with excessive corporate greed. The pressure from the top managers had increased the level of stress for subordinates. As the result, there was no honesty in the organization, creating an environment for fraudulent activities. The case of Enron is another major sandal pertaining to corporate governance, which had led to its bankruptcy in 2001 (Sidak, 2003). The CEO was charged guilty of fake transactions, insider trading and conspiracy of fraud that had ultimately resulted in his arrest. Failed corporate governance was the chief cause behind the demise of Enron. Munzig (2003) had indicated that principle-agent problem, self-dealing of the management and illegal transferring of costs to shareholders were primary reasons that had culminated into failure of the corporate governance structure. The role of the board was constrained resulting in extraction of rents by the management. Case Study Company History GlaxoSmithKline plc (GSK) is a British multinational company that has its headquarters in Brentford, United Kingdom. The company was set up in 1935 and has come a long way since its initial days. The company owns multiple subsidiaries and its business portfolio includes production, manufacturing and development of pharmaceutical products, health products and medicines. Pharmaceutical products of the company cover a wide range of medicines for the purpose of treating critical disease areas such as, dermatology, neurology and cardiology. Healthcare products offered includes over-the-counter medicine, nutritional healthcare and oral healthcare. The company has been ranked 46th in Fortune’s list of 500 most powerful companies, in terms of market capitalization. In the past two decades, the company had taken up aggressive international expansion and presently has operations in more than 99 cities across the world. It operates in 39 countries (GSK, 2014). The vast geographical scale of operation implies that GSK has to comply with different corporate governance regulations while crossing international borders. Over past few years, GSK has been involved in a number of ethical issues pertaining to poor corporate governance. These issues have maligned image of the company and triggered issues in effectiveness of the corporate governance. The purpose of this case study is to highlight on ethical issues of GSK in details and recommend ways in which the corporate governance loopholes can be eliminated and future market challenges can be encountered. Corporate governance of GSK Governance structure: The present structure of governance in GlaxoSmithKline Plc ensures that the management is efficient in meeting objectives of the stakeholders by maintaining transparency and integrity in the business practices. The company is presently governed by codified Corporate Governance Charter, which is in line with corporate governance legislations of the U.K. The Board of Directors and employees are bound by the coded legislations while conducting the business practices. There are multiple boards in the organization in charge of separate duties, namely the audit and risk committee, remuneration committee, finance committee, corporate responsibility committee and corporate administration committee. Compliance with correct fiduciary activities, accurate accounting practices and mitigation of risks are the primary functions of these boards. Apart from these basic committees, there are additional ones that are put in place to ensure that basic codes are met. For instance, risk oversight and compliance council and disclosure committee make sure that specific responsibilities towards the shareholders are carried out in a proper manner (GSK, 2013). Though the company is based in the U.K. yet it has operations in other countries, including the U.S. The Sarbanes Oxley Act passed by the U.S. in 2002 had certain implications on the corporate governance practices of GSK. GSK had to modify its code of conduct related to company assets and proprietary information, external communication, standards of documentation and share dealing. The role of the Chief Executive Officer and Chief Financial Officer was strengthened after passing of the SOX Act (GSK, 2014). Besides the country specific requirements, there are also global compliance standards focusing on employees’ compliance with the company laws. Global compliance standards were incorporated in the company code of corporate governance so as to assure that all business practices are ethical and there is no violation of any global legislation. Audit and Assurance: The audit teams acts in an independent manner to access the risks that are present in the management of the organization. The findings of the audit committee are reported to the Audit and Risk Committee and the committee ensures that all the regulations are met. The audit committee ensures that all the gaps and lapses in the management practices are highlighted and also points out the reasons of non-compliance with the internal controls. The audit reports forms the background to improve the compliance standard in the following financial year (GSK, 2013). Stakeholder’s engagement: Presently, the company is engaged in dialogue with its stakeholders in respect to the decision-making process. Stakeholders like, suppliers, employees, partners and suppliers, are involved in the daily decision-making process by way of direct interaction. Formal communication strategies such as, meetings, consultation, conferences and debates, are also arranged to involve stakeholders in the critical decision making practices. In 2012, the company had formed collaborations with non-governmental organizations, health groups and think tanks in order to improve social responsibility goals. GSK has also joined hands with the government to understand future policies that will impact its profitability. GSK has collaborated with transnational corporations such as, WHO, while participating in world health events. The company also performs employee surveys to obtain views of the employees regarding organisational strength and weakness perceived (GSK, 2014). Reporting: In order to ensure that the stakeholders enjoy complete right to information, the company publishes its annual report. Global Reporting Index is followed to frame reports by adhering to the standard of global compact expectations. The current report contains sections on the corporate governance structure and the CSR practices followed by GSK. The latest report of the company was published in 2012. The annual report is rated every year by third parties to secure validity of the findings. For instance, the data provided on environmental and health standards were verified by Bureau Veritas. According to the ratings provided by GMI, GSK received C grade on corporate governance and the financial statements had an AGR score of 52 (GSK, 2014). Conflicts of GSK Issues of Bribery in China: GSK was charged with the allegations of bribing Chinese government officials, doctors and key members of the pharmaceutical industry in order to raise drug prices in three of the largest Chinese cities, namely in Changsha, Shanghai and Zhengzhou. GSK was accused of being the ringleader of a bribery scandal involving more than 700 small companies and imposed a cost of half a billion on the economy. Fake VAT receipts and travel agents were used to bribe the officials. GSK was blamed of using grants for promoting illegal drugs. Massive corporate greed can be attributed to deterioration of the company’s product quality. Human lives were endangered as the primary objective was to raise profits at the cost of compromising on product quality. The bribery scandal in China was aggravated by the release of a sex tape, thereby further damaging organisational reputation. Loss of reputation was immediately followed by drying up of revenue streams in China because doctors refused to prescribe drugs of the company (Holland, 2013). Case of Fraud: The company had to pay a penalty of 3 billion dollars in face of the criminal liability. Unlawful promotion and failure to comply with safety data were main reasons to malign GSK’s public image. The company was accused of selling Paxil, Wellbutrin and Avandia for unapproved reasons and not adhering to safety standards related to diabetic drugs (Thomas and Schmidt, 2012). Issues of Bribery to competitors: A recent allegation has revealed that the company was paying money to competitors and pursuing them to slow down the production pace of cheaper version of drugs produced by GSK. The company was accused of paying money to Genetics UK, Alpharma and Norton Healthcare. Office of Fair Trading had launched a case against GSK based on their “pay for delay” agreements so as to maintain market position. If GSK is proved guilty in this allegation, then it can be held responsible for inflating the drug prices of taxpayers by £2.3bn each year (Neville and Rankin, 2013). Hiding of relevant reports: It has been alleged that GSK had hidden reports regarding quality of drugs and its impact on the patients’ health. In 2002, the company had sent one of its officers to Puerto Rico to check whether or not the plants’ manufacturing process was in line with the code of ethical conduct set. The reports presented were appalling, which stated that the drugs did not meet the basic safety requirements. The drugs were not manufactured according to the U.S. FDA approved process. In 2009, the company was charged guilty and the Puerto Rican plant was shut down. Consequently, GSK had to pay a fine of $750 dollars (Harris and Wilson, 2010). Recommendations The cases pertaining to breach of ethical standards bear testimony to the fact that despite best practices adopted by the company, issues still exist in proper execution of corporate governance practices. Violations in the code of ethics have resulted in financial and reputation loss for GSK. In the competitive business era, it is quite difficult for organizations to compete, if they lose the investors’ trust and support of the shareholders. Good corporate governance improves the competitive edge of an organization, whereas the reverse scenario results in failure of organizations as evidenced in the case of Enron and WorldCom. The corporate governance practices of GSK can be improved in following manners: 1. It is mandatory for GSK to closely monitor practices mentioned in the code of conduct. The company already has a proper documented code of conduct. Close monitoring of the practices by the employees and the board is crucial in order to ensure incorporation of ethical practices. The same can be achieved by appointing independent directors on the board who would be responsible for evaluating performance of the board members, committees and individual directors. This measure can improve transparency in business operations. Additionally, the Chair of the board and the senior executive must be separate. Separation of the roles of the Chair and the senior executive will help to restrict an individual from acting for own selfish interests. 2. Considering ethics in the decision making process is of ultimate importance for GSK. It is observed that most cases of corruption against the company had occurred on grounds of excessive corporate greed to maximize profit. Strictly adhering to the code of ethics is necessary for GSK. Any event similar to that of Puerto Rican factory plant in 2002 should be strictly avoided in future. The same can be secured with inclusion of a distress desk for the employees, allowing them to report any discrepancy anonymously and directly to the independent board members for proper evaluation of the matter. 3. GSK must realize that blindly following profit motives will not help in achieving the goal of long-term sustainability. Greater attention must be given to the issues of broader social responsibility. For instance, compromising on the quality of drugs for maintaining company profitability is an unlikely way to sustain in long run. It is crucial for GSK to ensure that health of the society is enhanced and not deteriorated through consumption of its products. Independent quality control teams should be hired to test the drug quality and its adverse impacts on human lives. The reports from the independent quality control teams should be sent to the audit committee for further approval. GSK should deal with any compromise on quality of the medicine very strictly. Laws and legislations regarding clinical governance must be followed so as to make sure that cases of quality issues are resolved. 4. Measuring the organisational performance is very important as shareholders expect to maximize the return on investments made. The governing body should take up measures not only to provide strategic directions, but also to invest resources for conforming to the guidelines. Furthermore, periodical actions for measuring the progress made should be studied in details. Measurement of performance should include the profit aspect as well as embrace broader performance standards such as, ensuring best quality products. Any deviation from the strategic goals must be worked upon by the governance. Reference List Barclay, M. and Holderness, C. 1989. Private benefits from control of public corporations. Journal of Financial Economics, 25, pp. 371-395. Becht, M. and Roell, A. 1999. Blockholdings in Europe: an international comparison. 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