AN OVERVIEW OF CORPORATE GOVERNANCE (STUDY OBJECTIVE 1)

Corporate governance is a concept that has recently received increased attention and is evolving. The purpose of corporate governance is to encourage the efficient use of resources and to require accountability for those resources. The aim is to balance the interests of individuals, corporations, and the community. Individuals such as shareholders desire high return on their investment, while the community desires responsible corporate behavior that benefits the community. At the same time, the corporation and those within it desire long-term preservation of the corporation. Often, the needs of these various groups conflict with each other. Good corporate governance properly balances the needs and desires of these groups.

Corporate governance is generally recognized as involving many diverse aspects of business. Thus, a different definition of corporate governance exists to cover each different aspect of interest. For instance, when economists define corporate governance, they recognize factors affecting the supply and demand of corporate leaders and tend to emphasize the importance of motivating leaders through the use of incentive programs. On the other hand, financiers tend to emphasize the role of corporate leaders to provide a good rate of return, while accountants focus on the responsibility of corporate leaders to provide effective internal controls, accurate records, and required disclosures. If forced to provide a single definition, accountants would characterize corporate governance as an elaborate system of checks and balances whereby a company's leadership is held accountable for building shareholder value and creating confidence in the financial reporting processes.

Although there are diverse definitions for corporate governance and multiple connected functions within the company, overall corporate governance is a system with many components working together for a common cause. In summary, corporate governance involves the manner in which companies manage and conduct themselves to achieve financial discipline. In order to be effective, governance should be engaged, ongoing, and diligent.

Building value and creating confidence are key ingredients in the preceding definitions; a related concept that is an integral part of corporate governance is “tone at the top.” Tone at the top refers to the set of values and behaviors in place for the corporate leaders. It must be reinforced through each function of corporate governance, not only through written policies, but through the actions and attitudes of the company's leadership. Tone at the top must be established over time by the building of trust through integrity, consistency, and clarity, and by the diligent involvement of corporate leaders with various groups of people and organizations connected to the company.

In order to explain corporate governance in more detail, it is first necessary to introduce the participants in the governance process and the related functions that are performed. The next two sections focus on these topics.