ETHICS & CORPORATE

GOVERNANCE
BM055-3-2

The Objectives of Corporate

Governance

Learning Outcomes
1. Appreciate the relevance and practical
application of business and professional
ethics in the working world;
2. Explain how corporate social
responsibility and corporate governance
relate to ethics;
3. Highlight the main ethical issues
relating to the natural environment.
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 4. Recognise ethical issues and propose

solutions to these issues.
5. Convey an enhanced awareness of the
role of business and professional ethics in
financial reporting;

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Contents

The Principal-Agent Problem

Lob-sided Decision-making powers
Excessive Business Risk Taking
The Extent of Corporate Governance
Ethical Issues and corporate governance

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The principal-agent problem

The principal-agent problem has been a
well known issue in corporate structures.
The problem lies in the interests of those
who have effective control over a firm that
differs from the interests of those who
supply the firm with external finance.
an agent is supposed to take instruction
from the principal, who must accept the
consequences of the agents actions.
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 This problem is comparable to the

relationship between the equity
shareholders and directors of a company.
This grows out of the separation of
ownership and the control, and of corporate
outsiders and insiders

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 What make corporate governance necessary is

that the interests of those who have effective
control over a firm can differ from the interests of
those who supply the firm with external finance.
In the absence of the protections that good
governance supplies, asmectries of information
and difficulties of monitoring mean that capital
providers who lack control over the corporation
will find it risky and costly to protect themselves
from the opportunistic behaviour of manager and
controlling shareholders.
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Lob-Sided Decision Making

Powers
Key issues about balancing the board is about
structuring the board of directors with a variety
of other directors, such as non-executive
directors and independent directors. This is
important to ensure some for of objectivity and
independent views given in decision making.
There are also debate on the separation of
powers by splitting the position of the chief
executive directors and the chairman of the
company, due to enormous power that could be
centred in a single person having the two
positions.
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Excessive business risk taking

and lack of risk control
Investors expect higher rewards to compensate them
for taking higher business risks. If a company makes
decisions that increase the scale of the risks it faces,
profits and dividends should be expected to go up.
Another issue in corporate governance is that the
directors of companies might take decisions intended
to increase profits, without giving due regard to the
risks. In some cases, companies may continue to
operate without regard to the changing risk profile of
their existing businesses.
As a general rule, investors expect higher rewards to
compensate them for taking higher business risks.

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 If a company makes decisions that increase the

scale of the risks it faces, profits and dividends
should be expected to go up. Another issue in
corporate governance is that the directors of
companies might take decisions intended to
increase profits, without giving due regard to the
risks. In some cases, companies may continue
to operate without regard to the changing risk
profile of their existing businesses.

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Ethical issues and corporate

governance
Ethical considerations are at the root of many
perceived problems with corporate governance
in actual practice by members of the board.
Individuals are expected to behave in an ethical
way, and ethical issues are more difficult to be
regulated.
Corporate governance can only provide a
system and a procedure that is seen to
beethical and fair to shareholders.

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 It is therefore important that companies should

be aware of the need to maintain a culture of
good corporate ethics, providing a code of
conduct that all directors and employees are
expected to follow in all aspects of their work
and responsibilities to the company.
In addition, the perception of ethical issues
by external pressure groups may affect the
reputation of a company, or the way it is run.

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 An activist external group may regard itself as

having a vested interest in the activities and
operations of a company, particularly those
involved in areas of advanced scientific
research.

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