UAE Corporate Governance Policies Assignment

UAE Corporate Governance Policies Assignment

Corporate governance policies assignment describes corporate government law and its impact on firms performance ‘evidences in Saudi Arabia

Introduction

This concept of governing business can be simply considered  as the set of rules’ regulations’ ’ law  which direct a company on its processes of administration’ direction and control and decision-making system it follows. It basically defines the  corporate accountability of each individual person who is an internal stakeholder in company ( that is employees’ directors’ executives’ managers’ and the governing body) towards the external stakeholders like suppliers’ buyers’ government’ public at large’ customers’ creditors and debtors.  The importance of a good corporate governance was felt during the last decade when a lot of big corporation were found to be involved in scams’ public cheating and falsification of profit statements’. The shock wave produced by this collapse of huge and well respected corporation sent shock waves all over the corporate world and economies and then governments of various countries came up with guideline’ code of conduct and compulsory declaration and auditing by multiple agencies for a clean and clear corporate structure where accountability is clearly defined. A well know example of collapse of corporation is ENRON and WorldCom Corporation (then). This forced the US government to take an initiative as the confidence of general public was losing in government and its policies. They passed Sarbanes-Oxley Act in 2002, intending to keep and maintain the faith of public in corporate governance and government policies in USA. The principal beneficiary of good corporate governance is small and medium investors in publicly listed companies who do not have the means and access to right information most of the time. This government initiative will bring them much needed information at right time.

In Saudi Arabia the corporate governance code is issued by board of capital structure  market authority. It was passed in year 2006 and then later some amendments were done in it. It is divided into five major parts namely preliminary provisions’ right of shareholder and general assembly’ disclosure and transparency’ board of directors’ and lastly closing provisions. In total this code of corporate governance issued on the basis of royal decree of kingdom of Saudi Arabia have 19 articles. The study which we are conducting is aimed to find out the impact this new resolutions are making on firm’s or company’s performance in any way. (Gompers, 2003,)

Literature review - Legal

Corporations all over the world are subject to various laws and regulations. One important among them is statutory corporate law. Initially granting of corporate arises from statute to create Specific Corporation later on it come from general purpose regulation. Corporation are given the status of legal person by laws. This status is fundamental to all jurisdictions.  For governance and authorization of corporation various rules are set by the constitution of corporation. The capacity of shareholders to modify the constitution varies from country to country and even state to states. (Bhagat, S., & Black, B. 2002),

Codes and guidelines

Stock exchanges, corporations, institutional investors, or associations (institutes) issue the codes and principal for governance of corporate. Companies quoted on stock exchange need not follow the recommendation of respective codes. A disclosure is required, companies have to disclose where they are following the recommendations and where not.

The OECD guidelines 1999, revised in 2004 act as reference for countries developing guidelines. United Nations Intergovernmental Working Group of Experts on International Standards of Accounting and Reporting (ISAR) has produced their Guidance on Good Practices in Corporate Governance Disclosure. (Koh, P.S., 2007),

The disclosure item can be categorised in five broad categories:

  • Auditing
  • Board and management structure and process
  • Corporate responsibility and compliance
  • Financial transparency and information disclosure
  • Ownership structure and exercise of control rights

The World Business Council for Sustainable Development (WBCSD) has done work on accountability and reporting part of corporate governance and in 2004 released Issue Management Tool.

There are a lot of experts and academician all over the globe who questions the viability and usage of corporate governance law in its current form as there are various examples of frauds which were not being punished properly even after the implementation of corporate governance law. In many cases the upper management left unharmed and escape goats were made form lower and middle management employees. This has raised a lot of controversy over the corporate governance laws itself. (Xie, B., 2003,)

Different countries all over the globe follow different pattern of forming’ implementing and enforcement of law. This difference among various countries and lack of a common code of conduct all over the globe gives the multinational corporations to use different offices spread all over the globe to do the fraud or hide the complete information. It is also claimed that in corporate governance law minorities are neglected and there welfare and interest is not taken care of properly. The critics or opposer of current form of corporate governance policies gives various facts in support of their protest. They argue that even today there is not fixed polices in corporate governance law when it comes to the differential treatment provided to different share holders. No fixed measurement criteria s established to evaluate efficiency of a firm or its effectiveness in terms of financial system they follow.  There are many examples where the board members are related to the ownership of a company either by themselves or through some relatives. There is not sufficient law in code to stop it completely. There are other issues like no fixed determination of role and responsibility of a top management executive in many companies’ executives are holding dual chairs and sometimes they have a clear conflict of interest in their job description. There are issues like labour policies and proper and transparent financial statement which are neglected or not given due consideration while framing the corporate governance code. (DeAngelo, H. 1981),

Corporate governance system is also classified into two parallel systems namely

  1. Market-oriented system

In this kind of system there is an active external capital involvement and different markets from all over the world and domestic are used to serve as an external mechanism of corporate control. This provides the opportunity to independent stakeholders (employee’ investors’ suppliers’ debtors’ creditors’ customers etc.) to change decision-making of the managers. Examples of such markets are hostile takeover markets’ stock market and labour markets.

  1. Network-oriented system

In this type of system there are different groups of stake holders or may be a single group with different needs and personalities. They use their influence to alter or change the management decision-making especially in network-oriented systems; a targeted and focused influence is more used. Both above systems have their own pros and cons entirely depending on the situation one type of system have edge over other. So it’s difficult to make a common policy and implement it by saying one particular system is better than other. Certain researchers are trying to focus their research on the assumption that none of the systems is perfect in its present form, they are trying to understand the salient features of each system and evaluating them on various criteria’s to decide which system is better than other. Depending upon the requirement and implementation policy of one country a particular type of system is followed to achieve the best possible results. It is also seen that various similar group of countries or countries in a particular region tend to follow the same type of code of conduct when it comes to corporate governance. (Denis, D. 2001),

Since last few years Saudi Arabia has been trying to develop and establish a legal frame work with the help of CMA (capital market authority) which will fabricate and enforce the legal rules and formulate regulatory framework for the corporate sector to ensure a better governed and a world class level of governance policy in its country.

Basic principles of corporate governance:-

There are 5 basic principles of corporate governance on which the whole corporate governance system has been established and developed. They are as follows

  1. Right and equitable treatment of share holders
  2. Interest of other stake holders
  3. Role and responsibility of board
  4. Integrity and ethical behaviour
  5. Disclosure and transparency

As per the first principle the share holders will be treated as equally irrespective of the number of shares they are holding in a company. Even if a share holder is holding only one share he is still a part of company’s ownership and he has every right to get all the information which is available to the highest share holder. The information which is given should be easy to understand and relevant for the share holder at all levels.

Interest of other stake holders like employees’ partners’ bankers’ customers’ government and public at large should always be kept in mind and they should also have access to some basic information about the workings of the company and its governance procedure. There are certain legal obligations also like compulsory disclosure’ annual reports and quarterly statements of profit and loss which are made available to everybody in public. The governance should take care that these legalities are followed properly. (Aljifri, K, 2007),

Role and responsibility of board should be so wide spread that they should not take decision in a biased manner and they should be able to challenge the management of company also on behalf of share holders and stake holders. They should have the skills and power to question the company executives and they should have the will to exercise it. To ensure this every board should have independent directors and non executive board members. One member in each big company should be a government employee to keep an eye on the happenings of company. (Goyal, V. K. 2002),

Integrity and ethical behaviour is another aspect of corporate governance which should be taken care of while framing the corporate governance policies. Making ethical decision should not be considered as a purview of company and at their disposal only. Following the highest ethical standards in decision making helps a company in avoiding various law suits and public interest litigations. Each corporation these days is forming a official code of conduct and expects its each employee including the top most executives and directors to follow this code of conduct. Many firms have developed their internal programs and rewards system to promote and ethical conduct and decision making process.

Disclosure and transparency is another pillar of corporate governance development and implementation. Organizations need to publicly disclose the identity and role of each of its board members’ executives and top management people. Their responsibilities are also made publicly available for the reference of anybody who wants to know. They are also trying to make and apply procedures which can identify and confirm its validity before the financial auditing of a company is declared or disclosed publicly. Disclosure of material matters concerning the organization should be timely and balanced to ensure that all investors have access to clear, factual information. (Cadbury, Sir Adrian,1992)

Mechanism and control systems in corporate governance

Various academician and industry experts have come up with different types of classification for the mechanism of control in corporate governance. They can be classified as (1) internal mechanisms of governance such as firms’ ownership structure and presence of boards of directors and (2) external mechanisms of governance such as the threat of takeover by competitors and the legal and the regulatory requirements.

Internal corporate control can be classified into

  1. Monitoring by board of directors
  2. Internal control procedures and internal auditors
  3. Balance of power
  4. Remuneration

External corporate control can be classified as

  1. Competition
  2. Takeovers
  3. Media pressure
  4. Public awareness
  5. Government regulations
  6. Managerial labour market
  7. Demand for financial statement in stock markets and investment agencies like mutual funds or institutional investors.
  8. External debts (Denis and McConnell 2003)

Various performance measures in corporate governance

  1. Tobin’s q ratio is used in measuring the performance of a company or corporation. This ratio uses and reflects the overall performance of a company rather than just reporting its accounting performance which is easy to manipulate to misguide people. This ratio is used more often than other measures because it is one the important proxies which help us in determining the future growth trend of a firm. It gives a rough idea and estimate of the firm also along with tangible assets. This intangible asset could be anything from good will of company to the quality of processes followed by its management. It also includes the influence company have on market. It and the quality of its management. It is generally considered that the lower the Tobin’ q ratio is the better a firm is doing performance wise.
  2. Return on equity is another measure which is used by various firms to evaluate their performance. This is a conventional method of assessing a firm’s performance and in broader terms it is a general trend and it gives an accurate approximation of performance but if in depth analysis is done there are various parameters which are not used or considered while calculating the return on equity of a firm.
  3. Debt to asset ratio is another factor to be considered while evaluating a firm’s performance. This ratio gives an idea to the market about the total debt a firm have on itself and what is the size of that debt in comparison to the total assets value of that firm. There is a dual school of thought on the debt ratio of a company. One school of thought think that having a higher debt to asset ratio is a positive indicator of performance because it shows that there is a decline in agency problem of company which could be logically deduced that is because of the controlled cash flow in company also it is believed that if there is a higher debt and multiple debtors the company is more liable to answer them and they keep a better watch on company’s activities thus improving the performance of company in turn. On the down side of this assumption is the argument that increased debt increases the cost of bankruptcy as well as agency cost of a company. These costs affect the performance negatively and they grow exponentially with increasing amount of debt and this school of thoughts also have its merits in it. According to the concept of conventional capital budgeting it is accepted that leverage  bought by higher debt asset ratio and tax saved by the interest cost has a positive impact on firms’ performance.(Eisenberg, T. 1998),
  1. Board size is another factor which is considered to be an indicator of a firm’s performance. Earlier studies have been more focused on finding out the specific characteristics and there importance in corporate governance such as different kind of people on the board and the dual chair concept. The linkage between board size and a company’s overall performance is still not have a fixed direction.
  1. Dual chair is also one of the factors which are considered as a measure of good corporate governance. It is generally accepted norm that only one person should be holding an important position and both chairman and CEO should be two separate persons. This way there accountability and role are clearer. . CEO presents written declaration to the board of directors regarding the firms’ financial performance over a period and also confirms that numbers presented in the reports are a fair representation of firms’ operating performance so the person who should be finally accepting these result is chairman on board and if both are same individual then the whole exercise will be a waste and fruitless. (Becht, 2002)
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Summary (overview) of literature review

The overview of literature review can be summarized as that increasing corporate frauds and loopholes in existing laws made governments to think and promote them to formulate frame work for corporate governance in a better way. The history of corporate governance goes way back to USA where the great recession of 1929 and corporate frauds following it made the governments to take initiative in this area. The Oxley act acted as a boon in developing a better regulatory system. There are five basic principles on which the corporate governance rules and regulations developed all over world and mostly the CG rules are similar in a particular area’ region or similar economic status countries. There are certain measures like Tobin’s q ratio’ different investment and debt related ratio’s board size etc which act as an indicator or measurement tool to determine the success of corporate governance rules. Mechanism for control system in corporate governance is divided into internal and external mechanism. The system is also divided into two parallel systems as market oriented system and network oriented systems. Saudi Arabia is one of the major and a rapidly developing

Economy in Middle East region. They have recently developed a corporate governance system in their country to protect interest of all stake holders.

Research aim: -

The research is aimed to find out what does it mean by corporate governance what are the impact new corporate governance policies are making on performance of firms in Saudi Arabia. It is also aimed to find out what could be the possible solutions for any negative effect created by new governance policies.

Research objective:-

  1. The objective of this research is to find out the rules or regulations in corporate governance policy which might be impacting the firm’s performance in Saudi Arabia.
  2. What are the various criteria on which this performance of firms is evaluated against corporate governance
  3. To find out the common prevailing corporate governance structure in Saudi Arabia?
  4. What are the measuring tools or measurement guide for calculating the impact of corporate governance on firm’s performance?

Research question:-

  1. What are the new corporate governance policies being implemented in Saudi Arabia and there implementation status?
  2. How effective these policies are in getting better governance?
  3. How is performance of companies affected in context of latest corporate governance measures prevailing in Saudi Arabia??
  4. Is there any supporting evidence or case studies supporting the fact that corporate governance measures are affecting the performance of companies?

Research design and methodology

The research is a secondary data research which is designed in such a fashion that we will be exploring data on the subject from various resources.  Once the data is explored it will be collected and sorted. The data majorly collected will be articles’ journals’ company annual reports’ there balance sheet and compulsory declaration documents. There will be usage of academic journals as well as literature available on the subject both offline and online. The sample size for annual report and company data is kept at (3-15) companies each category and they are broadly divided into 4 industrial category. These companies are listed in Saudi Arabia stock exchange. The industries are petroleum and oil product industries’ constructions and building industries’ industrial investments’ and agriculture and food industry. These industries are chosen keeping the industrial environment of Saudi Arabia in mind where these 4 sectors are very well developed or rapidly developing and considered as major industrial sector. Saudi Arabia is one of the big and rapidly developing economies in Arab countries and there are approximately 175-180 companies listed in Saudi Arabia stock exchange. All these companies with a growing economy need a well formed and proper corporate governance system.  The current corporate governance policy was made keeping that factor in mind by kingdom of Saudi Arabia.  The subject is of very high importance if the corporate world and industries of Saudi Arabia wants to be at par with its counter parts in western and developed economies. (May, T. 2001).

Primary research:-

 Even though it is not indicated for this research if need arises the primary research can be conducted to find out the impact of corporate governance on performance of firms. The sample could be the managers of different firms who are following the corporate governance regulations religiously. The sample size could be 10-15 and equally divided among 4 different sectors. The research methodology could be questionnaire fill up and personal interview focused on comparison of performance before and after the following up of corporate governance laws. Rest data collection and sorting will be done in similar way.

Time line

 Timeline for Corporate governance policies assignment

Data collection:-

The research is secondary in nature. The secondary research will be done by accessing various journals’ books and literature available both online and offline on the topic of corporate governance in general and specifically in Middle East area. We will also be accessing Saudi stock exchange databases to get information on various companies regarding their auditing type, company size, d/pt ratio, number of board members, duality of chair, and institutional investment ratio to see the effect of Corporate Governance on firm performance. We can also access various companies’ annual reports and financial statements to get details. Performance can be measured by Tobin q proxy measure. This will help us find out the financial health and performance of a company. This study is using this approach to understand the linkage between firm’s performance and corporate governance measures. (Saunders, m. 2007),

Data analysis: -

The data will be sorted and a trend analysis can be done to find out the general trend prevailing in corporate governance sector. The secondary data will also be analysed for finding any evidences and facts which will be providing information on the subject and providing any conclusive concepts or information.

Inferences: -

 In this section we will be studying the data which is collected’ sorted and analysed. After the analysis all salient features will be reviewed and there essence will be inferred for the understanding and conceptualization of researcher. These inferences are the basis on which our conclusion and recommendations will be based.  (Creswell, J., W. 2003),

Conclusion and recommendation

Conclusion and recommendation will be based on analysis of data by various techniques and methods like trend analysis’ regression analysis’ ANOVA etc and then inferences derived from this analysis. After the derivation of inferences some conclusion can be formed by combining them with literature review and previous facts about the subject. Based on the conclusion drawn from analysis and inferences we can make some recommendations which can provide possible and probable solutions for the issue. (Frankfort-Nachmias, 1996),

Probable problems associated with research:-

  1. It is a current topic in corporate world so not much of literature will be available on this topic.
  2. The case studies on this topics are also very less and mostly are still in progress without final decision.
  3. The research is slightly subjective in nature.
  4. The view point and personal experience of each person could be different making it a perception difference
  5. The topic could be sensitive in nature and in detail information analysis will be a problem.

References:-

  • Arcot, Sridhar, Bruno, Valentina and Antoine Faure-Grimaud, (2005). "Corporate Governance in the U.K.: is the comply-or-explain working?" FMG CG Working Paper 001.
  • Becht, Marco, Patrick Bolton, Ailsa Röell, (2002) "Corporate Governance and Control" (. ECGI - Finance Working Paper No. 02/2002.
  • Aljifri, K, and Moustafa, M. (2007), “The Impact of Corporate Governance Mechanisms on the Performance of UAE Firms: An Empirical Analysis”, Journal of Economic & Administrative Sciences, 23, 2, pp71-93
  • Cadbury, Sir Adrian, (1992) "The Code of Best Practice", Report of the Committee on the Financial Aspects of Corporate Governance, Gee and Co Ltd,
  • Xie, B., Davidson, W. N. III., & DaDalt, P. J., 2003, “Earnings management and corporate governance: the role of the board and audit committee”, Journal of Corporate Finance, 9, pp295–316
  • DeAngelo, H. (1981), “Auditor size and audit quality”, Journal of Accounting and Economics, 3, pp45- 98.
  • Denis, D. (2001), Twenty–five years of corporate governance research and counting, Review of Financial Economics, 10,
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