Being good helps business prosper

How the Corporate Governance Code had some positive results

IF YOU’RE prepared to spend up to £5,000, there’s still time to get front row seats to a celebration of 50 years of “the greatest rock and roll band in the world” – the Rolling Stones are playing at the O2 at the end of November. But you may be unaware of an arguably more significant anniversary that has already been celebrated in the City this month.

KEY TO THE CODE
While “comply or explain” might not be as catchy as “Brown Sugar” or “Satisfaction”, these three words are the principle on which the Corporate Governance Code – which was first issued in 1992 and turned 20 years old this month – operates. They have had a significant impact on the way in which UK listed companies have functioned during their lifetime.

The Code – the result of pioneering work by a committee chaired by Sir Adrian Cadbury in 1992 – came about as a response to the major corporate scandals of Polly Peck and the Bank of Credit and Commerce International, along with the Robert Maxwell fraud case.

ESSENTIAL RECOMMENDATIONS
The final report, which covered financial, auditing and corporate governance matters, made three key recommendations: that the role of the chief executive and chairman of companies should be separated; that boards should have at least three non-executive directors, two of whom should have no financial or personal ties to executives; and finally that each board should have an audit committee composed of non-executive directors.

While the recommendations were initially controversial, the principles were appended to the Stock Exchange’s listing rules in 1994. It was stipulated that companies need not comply with the principles, but had to explain to the stock market why not if they did not.

Two decades on, the Association of Chartered Certified Accountants (ACCA) views the voluntary code as, by and large, a success.

IMPROVEMENTS IN THE BOARDROOM
But there is scope for progress. One of the key areas of development is on the issue of diversity on company boards. ACCA supports greater diversity in the composition of company boards, not exclusively in terms of gender but also in terms of background and experience.

On the issue of gender, the proof may be in the pudding. There is now a considerable body of evidence to suggest that the presence of women on company boards actively promotes the cause of good governance and sound management. There is also evidence to suggest that companies with a high number of women on their boards benefitted from enhanced business performance. Indeed, a major report by Lord Davies for the UK Government referenced research that indicated high stock market growth in companies where there was a preponderance of female executives.

Companies should also seek to pursue diversity in the boardroom because it discourages “groupthink”, whereby the decision-making process is led by a desire for agreement rather than the pursuit of alternatives. For this reason, diversity has the potential to create more productive boards. ACCA is not a supporter of boardroom quotas, although we do appreciate that they may be the only route to desirable change if some companies fail to achieve greater levels of diversity of their own accord.

TRANSPARENCY MATTERS
And while “comply or explain” – known as “if not, why not” by Australian regulators – has improved transparency, investors are still calling for more information. Their need for more integrated information creates its own challenges for business.

Clearly, while the Corporate Governance Code is established in the UK, there are different approaches elsewhere and there is a need for an improvement in standards in some markets. Indeed there may even be a case for a minimum global standard on corporate governance to reinforce comparability and market confidence.

ONE SIZE DOESN’T FIT ALL
We firmly agree with the Cadbury Committee’s 1992 statement that there cannot have one solution to fit all companies.

For example, there should be differentiation between large financial institutions and other listed companies. There is a need for specific legislation for large institutions due to the potential risk they pose to other businesses and to society. On the other hand, some companies are so diverse that it would be difficult to find rules that would apply to all.

There also needs to be a recognition of the value that strong corporate governance can bring in other sectors, such as the public sector. But while much effort has been focussed on action by business, there are two sides to corporate governance.

INVESTOR CONTRIBUTION
It is equally important that investors take an active role in making governance work in practice.

We relished the development of the Shareholder Code in 2010, which encourages institutional shareholders to appreciate their responsibilities to their own stakeholders. To do this, shareholders were encouraged to monitor risky corporate behaviour, disclose how they vote and press for management or strategic change, and think seriously about using the voting muscle that they have to influence investee companies. There is still too little direct involvement by shareholders – and it shouldn’t be left to fund managers to hold businesses to account over governance.

THE NEED FOR COOPERATION
But the key to any code is to ensure that it does not become a box-ticking charter. Organisations cannot be satisfied simply by issuing carefully crafted, self-congratulatory spin on how they meet all criteria, but must instil real change and activity within the company. Organisations should be compelled to improve performance, rather than complying with codes.

While compliance with Cadbury does not give immunity from problems, there is evidence to show that being good is good for business.

The challenge now is to ensure the shareholders follow their own code and spend an more than one hour each year holding management to account.

Sue Almond is technical director at the Association of Chartered Certified Accountants (ACCA).