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Thursday, 25 August 2011






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Government Gazette

Corporate governance challenges

Often the success of a company Board and a company is directly connected to the character and the relationship of the directors and senior management of the company.

Good governance in general gives the company the protection to operate effectively, the ability to do what's right for the company and for the shareholders.

That in our view is what ultimately separates good performing from poor-performing companies.

In Sri Lanka, attempts to improve corporate governance in the past have been through the adoption of voluntary codes.

We have generally followed the British methodology of enunciating principles rather than rules. The issue of governance has much to do with a value system and unless the values are clearly accepted, perhaps the only other way in which the end could be achieved is through imposition, although this is distasteful.

Some of our companies have chosen to interpret these principles in a manner that gives them the flexibility to ignore the principles when it suits them, especially when they look around and see others in other institutions not respecting the principles of good governance.

Several years ago the Central Bank published a voluntary code for banks to adopt. The Code outlined principles. Positive results were not visible although there were many inspiring essays, albeit theoretical in nature, on the subject in the Annual Reports.

Thus, in the context of Sri Lanka, the introduction of a mandatory code, which incorporates Principles and Rules to be followed, was timely, desirable and commendable because financial institutions occupy a special position of trust in the national economy.

It is emphasized that they have broader responsibilities that go beyond their shareholders and employees by virtue of the role they play, as the dominant financial intermediaries in Sri Lanka. The Code sets out in detail the responsibilities of the Board. It is abundantly clear that a board is not intended to merely rubber stamp the proposals of management. If the responsibilities are to be effectively discharged, it is important that persons of the right calibre are appointed to boards.

While high integrity is an essential pre-requisite, this alone is not sufficient and directors must be people who are alert and have the capacity to understand the inherent risks assumed by an institution and objectively analyze the proposals submitted by management on various aspects of a firm's operations.

However, it is equally important that the board has competence within it which embraces other disciplines such as law, economics, marketing, human resource management and technology, so that a multidisciplinary approach is taken to managing risks and growing the business.

Independent directors is one of the key factors on which the regulator has sought to build a better governance framework is by having a number of "independent" directors on boards. While this is commendable in theory, it needs to be borne in mind that mere "independence" as defined in the code will not ensure that the director concerned will or can make the required contribution.

In fact, given the incestuous corporate relationships prevalent in our small country, the Chairman's school buddy who fits the code's definition of "independence" may in reality be less independent than someone who is "not independent" in terms of the code.

It is also a matter for debate whether so-called "independent" directors who receive fixed and rather nominal fees for their services and have no real stake in the business are sufficiently motivated to enhance enterprise value.

However, true independence and effectiveness of an "independent" director can only be measured by the director's actions in the boardroom a and the freedom and willingness to leave the board if he is forced to compromise on the principles of good governance and not merely through the application of rules.

In summary one could say that our experience is that Rules could make the difference in terms of bringing about the required standards, but the mental attitude towards implementation in a manner, which enhances values, is what is most needed. Therefore responsible self-regulation is required to counteract moves towards more intrusive rules, to enhance the competitive advantage in identifying and managing corporate governance risk at firm level and to overcome the systemic risk across the industry through shared standards of corporate governance practices.



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