A public corporation typically has multiple owners who often play little or no role in business decisions.

Instead, decisions are delegated to professional managers who determine how assets are used and how the business is run.

This separation between business owners and management creates the potential for conflicts where management may put their own interests ahead of those of shareholders.

Other potential conflicts of interest in a corporation may involve directors, creditors and other stakeholders, such as employees and customers.

The goal of corporate governance is to minimise these conflicts of interest through the application of practical measures and policies.

A company that does not have a sound system of corporate governance in place is taking on a major risk.

Well known examples include:

• Enron (bankruptcy filing in 2001)
• Adelphia (bankruptcy filing in 2002)

The lack of an effective corporate governance system can threaten a company’s very existence.

Corporate governance has two major objectives:

1. Eliminate or reduce conflicts of interest – Although many conflicts of interest exist in a corporation, most corporate governance systems focus on the conflict between management and shareholders.
2. Use of the company’s assets in a manner consistent with the best interests of investors and other stakeholders.

An effective corporate governance system will:

• Define the rights of shareholders and other important stakeholders
• Define and communicate to stakeholders the oversight responsibilities of managers and directors
• Provide for fair and equitable treatment in all deals between managers, directors and shareholders
• Have complete transparency and accuracy in disclosures regarding operations, performance, risk and financial position

Conclusion

It is important that the companies you invest in have a strong corporate governance system. The strength and effectiveness of a corporate governance system has a direct and significant impact on the value of the company.

Disclaimer:  This article was issued by Kristian Camenzuli, Investment Manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt. The information, view and opinions provided in this article is being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice. Calamatta Cuschieri Investment Services Ltd has not verified and consequently neither warrants the accuracy nor the veracity of any information, views or opinions appearing on this website.