Corporate Governance

Corporate governance denotes a system of procedures, rules, and practices a company uses in safeguarding equality, clarity, and its responsibilities with the stakeholders. Corporate governance is a framework that is intended to professionally steer the company in a way that all of its values would be upheld in all of its undertakings. It is these principles that the company uses to ensure that it is transparent, accountable, responsible, independent, and fair while undertaking its work. Good corporate governance works within the rules and procedures that are contained in the contract document that is signed between the company and its stakeholders. The contract may include but not limited to duties, practices, remunerations, procedures for the settlement of conflicts, channels for information and communication, and checks and balances among others. This paper aims to conduct an analysis of the past literature on the part that corporate governance contributes in the improvement of companies. The paper would mainly focus on three internal mechanisms and their effects on corporate improvement in its performance. These mechanisms are; the board independence, size of the board, and internal auditing.

There are different definitions for corporate governance. Some scholars such as (Cornett et al., 2008) have defined it as a mixture of varying mechanisms for directing and controlling a company while the 1992 Cadbury Report defined it as a system for directing or controlling companies (Cadbury, 1992). Essentially, corporate governance has two primary sides. According to (Kamal Hassan, 2008), the first one is conformance which is denoted by monitoring,  supervision, and accountability to stakeholders. The second one is the performance which can be denoted by corporate improvement through the contribution of the leaders. In a corporation, the board of directors (BoD) is given the responsibility for implementing corporate governance. Similarly, the shareholders are given the responsibility of appointing the auditors, directors and ensuring that these persons undertake their responsibilities in corporate governance. According to (Cornett et al., 2008), the corporate governance instruments involve institutional ownership within the company, ownership of the stock by the executive and directors, BoD of characteristics, the CEOs’ tenure together with their sensitivity on compensation for performance.

The number of outsiders within the board determine the board’s independence (BI). A large number of strangers or outsiders in the board the greater the level of independence.  Different scholars have found contrasting results on while analyzing the influence of BI and with a corporate improvement on its performance. For instance, while undertaking their study on the impacts of board independence on firms performance, the authors in  (Fuzi et al., 2016) found no positive impact on the improvement of the firm performance

The Role of Board Independence and Corporate Improvement

Another study for analyzing the impacts of board independence was conducted in (Ponnu and Karthigeyan, 2010). The Malaysian law regulating Corporate Governance has provisions for addition of independent board directors. The empirical research in  (Ponnu and Karthigeyan, 2010) comprising of firms that were listed on Bursa Malaysia showed that there is no substantial evidence supporting the positive impacts of board independence on the improvement of the corporate performance. In addition, (Rashid, 2018) examined whether there is any influence of board independence into firms’ economic performance.  After analyzing data from 135 firms that were in the Dhaka Stock Exchange register, and while utilizing accounting and market performance procedures, the authors discovered that there was no positive influence between BI and firms’ economic performance.

On the contrary, the work of (Altuwaijri and Kalyanaraman, 2016) investigated the correlation between firm performance and board independence.  While analyzing gathered from non-financial institutions that were on the Saudi Arabian stock exchange register, the report showed a positive correlation in the improvement of the firm, but excess independence would lead to no significant improvement. Agreeing on the same, the study of (Veklenko, 2016) meant to explore the overall effects of board composition on a company performance. This study went further to reveal that a higher level of autonomous in the board will lead to an improved level of return of equity (ROE), but a lower effect on return on assets (ROA).  Another study that showed a positive impact of board independence was the study of (Müller, 2014). Unlike the study of (Veklenko, 2016), this study found that a higher level of autonomous in the board had a substantial positive impact.

In overall, it can be concluded that the independence of the members may have a substantial positive influence on the company improvement. However, if this number of foreign members increase to a higher in the overall board proportion, their effect would slow down as it would influence the decision-making process. Probably, the decrease in their impact may be due to lack of information and competency in the firm.

Different corporate governance theories concepts have shown a close relationship between board size (B-Size) and company’s improvements. According to (Badu and Appiah, 2017) the agency and resource dependency theory favours a larger B-Size while the stewardship theory supports a smaller B-Size. Different authors have assessed the impact of B-Size on the improvement of the performance of a company. The study of (Ponnu and Karthigeyan, 2010) found that B-Size had a substantial positive outcome on both corporate performances together with its independence.   

Impacts of The Size of The Board on Firm’s Improvement

To understand the connection between B-Size and the improvement in company performance, (Kalsie and Shrivastav, 2016) analyzed data from 145 non-financial corporations that were listed on the NSE CNX 200 Index in India.  The authors measured the firm’s market performance using market-to-book value ratio (MBVR) and Tobin’s Q. The accounting performance was measured using ROA and return on capital employed (ROCE). On analysis, these results showed that B-Size and Tobin’s Q had a significant positive. B-Size also had a positive relation to ROA and ROCE.

In (Kaur and Vu, 2017), studying the connection between an institution’s internal governance and its operations,  the analysis investigated the impact of the overall board characteristics on the institution’s performance. Focusing on the banks, the authors used data from 28 banks that were listed banks at Stock Exchange between 2008-2014. Factors such as ROA, ROE, Net Interest Income (NII), and Tobin’s Q were used as performance indicators. The result of this study showed that banks that had small-sized boards with female members and met regularly were more efficient had improved performance.

In a study to investigate whether there is a connection between the improvement of financial performance and internal governance structures, (Rodriguez-Fernandez et al., 2014), analyzed companies that were listed in Spain. The authors analyzed board effectiveness through different variable such as the size, duality, composition, number of meetings taken annually and how busy the directors were. The performance was measured in ROA, ROE and Tobin’s Q. While some of the other variable such as the number of meetings had a negative impact, B-Size showed positive results.

Despite being an area that is always forgotten, internal auditing (IA) still remains as a major corporate governance mechanism. According to (Mihret and Grant, 2017), AI got its focus from the firms as a method for enhancing audit committee efficacy and degree of financial reportage after the fall of many corporations between the 1990s- 2000s. It is in the same period that the summarized report in (Blue Ribbon Committee, 1999)  regarded audit committee (AC) committees, AI, and external auditing (EI) as “three-legged-stool” of corporate governance which boosts dependability on financial reports.

There is a ream of research that has provided evidence that internal audit improves company functioning. For instance, the study of (Awdat, 2015) analyzed the impact of IA functions for the improvement of the financial performance of the financial banks in  Jordan. The results of this study showed that there were positive effects of the IA in the improvement of the financial performance. Another study by (Abdali, 2012) showed analyzing the impacts of quality IA in industrial companies that were listed in Alardnellorac financial market. The results of this study demonstrated that quality IA had a significant impact on the industrial companies.  Consistent with studies stated above, the work of  (Hutchinson and Zain, 2009) aimed to understand the connection between IA quality and firm performance in Malaysia. After analyzing data from the questionnaires that were collected via emails, the results revealed that there is a positive connection between IA quality and company’s performance with IA providing opportunities for improvement and growth. However, the study showed that the growth curve tended to decrease with an increase in AC independence.

Role of Internal Auditing on Corporate Improvement

Conclusion

Corporate Governance is one of the fundamental elements that have a greater impact on company values. Corporate Governance is everything about a company’s rules, practices, and procedures that the BoD can use to preserve a firm’s accountability, transparency, and responsibility while dealing with all of its stakeholders. This paper aimed to discuss the role of corporate governance in the improvement of a company. To certify this objective, the paper focused on discussing the different impacts of different mechanisms of corporate governance on the improvement of a company on its performances. The three mechanisms that this paper covered were the board independence, board size, and internal auditing. In overall, all these mechanisms were seen to affect company improvement in varying degrees.

References

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