Corporate Governance The relationship among various participants in determining the direction and performance of the company Mechanisms to ensure that management fulfills its basic purpose: to promote the long-term interests of the shareholders Primary Participants: Shareholders Board of Directors Senior Management

Agency Problem Arises because of separation of ownership (principals) and management (agents) Management may act to promote their own interests at the expense of the interests of stockholders (opportunism) Agency Problem arises from two sources Goals of principals and agents may conflict Principals and agents may have different attitudes and preferences toward risk

Corporate Governance Management – “Agents” Shareholders – “Principals” Board of Directors

Internal Control Mechanisms Responsible BOD active critical independent Active shareholders individual investors institutional investors Management Compensation align managers’ interests with shareholders’ interests performance-based compensation

External Control Mechanisms Takeover constraint Auditors Banks and investment analysts Regulations Media and public activists

Corporate Governance Board of Directors Management Share Holders Stakeholders

Stakeholders Firm Owners/Investors Employees Customers Suppliers Community

Types of Stakeholders Stakeholder – any individual or group who can influence or is influenced by the operations of a firm Primary – participation and support required for survival of the firm Secondary – not directly involved in the activities of the firm but can have influence over its operations

Types of Stakeholders Organizational: Capital Market: Product Market: unions, employees, managers, … Capital Market: shareholders, banks, brokers, rating services, …. Product Market: customers, suppliers, franchises, distributors, … Environmental: government, special interests, media, …

Stakeholder Analysis Identify Specific Stakeholders Organizational: unions, employee categories, managers, … Capital Market: shareholders, banks, brokers, rating services, …. Product Market: customers, suppliers, franchises, distributors, … Environmental: government, media, activist groups, … Identify Stakeholder Interests Potential impact of the firm on the stakeholder Identify Stakeholder Power and Influence Potential impact of the stakeholder on the firm Identify Stakeholder Management Actions taken to satisfy stakeholder needs

Stakeholder Analysis Stakeholder Interest Power Actions Satisfied Organizational …… Capital- market …….. Product-Market ……. Environmental