Obstacles to Good Corporate Governance

By Hayat, Usman | Economic Review, July 2003 | Go to article overview

Obstacles to Good Corporate Governance


Hayat, Usman, Economic Review


Corporates are essential to economic development in a market-based economy. They make a significant contribution to the GDP and employment. Their governance has a direct affect on their performance and the sustainable growth of the economy. Good corporate governance means that companies are run in the best interest of the shareholders and the other stakeholders. The principles underlying good corporate governance practices are transparency, accountability, and control system. Where these principles are not employed, investor confidence and investments are affected, which affects economic growth, which in turn affects everyone. Internationally, it has been seen that weak corporate governance has either contributed to an economic crisis or exacerbated its affects.

The theory says that shareholders would hold the management accountable by selling the shares of poorly performing companies, which are eventually picked-up by those who would takeover the company and straighten things out. This only happens when the overall market mechanism is working. Some of the listed companies at the Karachi Stock Exchange have so little turnover that even selling off their shares is a problem for the investors!

Our economy has suffered at the hands of poor corporate governance. Massive bad debts and large number of sick enterprises are mainly due to governance failure. This has created suffering for the shareholders, creditors, employees, suppliers, customers, consumers and most of all ordinary tax-payers.

So far the focus of the corporate governance initiative is listed companies, which is a logical starting point. These include some of the largest taxpayers and producers in the country. Since the arrival of a code of Corporate Governance for the listed companies, a healthy debate has started on improving governance practices.

The objective here is to identify some of the main obstacles in path to good corporate governance.

Listed for the Wrong Reasons

Many public companies are not listed to raise capital from the capital markets. They are listed for other reasons, such as lower tax rates applicable to the listed companies. Not having to raise capital from shareholders reduces the pressure on a company to take its shareholders and capital markets seriously.

Creditors Rewarded Bad Governance

Traditionally, companies have obtained financing through banks and developing 5-national institutions. These institutions often extended loans on unsound criteria. Instead of enforcing good governance as powerful creditors, they have encouraged and rewarded bad governance. Due to the externalities associated with lending decisions, the need for better governance is paramount in the banking sector.

Too Many Public Sector Companies

Government remains the majority shareholder in some of the largest listed companies, such as PSO, PIA, PNSC, NBP etc. and many unlisted ones. Government ownership and control are not known for promoting competence, transparency and accountability. Some of the most horrific and costly corporate governance failures are in the public sector, such as KESC. While their privatization is likely to improve governance in these companies, it would take a long time before the overall corporate governance in the country can recover from the horrors of the nationalization,

Tightly Held Companies

There are many listed companies in which a family or associated companies hold the dominant majority of shares. Corporate checks and balances do not work when power is so concentrated. Unless the directors blatantly usurp the rights of minority shareholders in violation of law, there is little that the minority shareholders can do. Currently, the listing regulations require a company to offer of least 25 per cent of its shares or Rs.100 million; whichever is higher, in the initial public offer. …

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