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2.2 The Principles of Corporate Governance
Developments in the Private Sector
In the private sector, a number of financial reporting irregularities (Maxwell, Polly Peck etc.) led to the setting up of the 'Financial Aspects of Corporate Governance Committee' chaired by Sir Adrian Cadbury. The Cadbury Report, published in 1992, made a number of recommendations on the roles and responsibilities of the Chair and Chief Executive, transparency of financial reporting and the need for good internal controls.
In particular, the Cadbury Report identified the need for non-executive Directors to have a clearly defined role in determining how an organisation is directed and controlled. They should 'bring an independent judgment to bear on issues of strategy, performance, resources, including key appointments, and standards of conduct'. Non-executives are expected to act as a counterbalance to executive Directors and senior staff and to challenge them where necessary.
In 1995, following concerns about Directors' pay and share options, the Greenbury Report recommended that there should be extensive disclosure of remuneration in annual reports and that companies should establish a remuneration committee made up exclusively of non-executive Directors.
In 1996, the Hampel Committee was established to review the extent to which the recommendations of Cadbury and Greenbury had been implemented and the resulting Hampel Report led to the pulling together of all the key recommendations from Cadbury, etc. into a Combined Code of Corporate Governance published in 1998.
Guidance on how to apply aspects of the Combined Code has since been included in a number of reports, including the Turnbull Committee Report (on systems of internal control). In January 2003, the Higgs Report was published and set out a number of key recommendations to enhance the role and effectiveness of non-executive Directors. These included:
Independence
Non-executive Directors must be "independent". Higgs set out strict tests of independence, particularly around the length of tenure of the role.
Performance Review
The performance of the Board and each individual Director should be formally assessed at least annually and the details of the assessment published.
Majority
At least half the members of the Board, excluding the Chair, should be non-executive Directors, who pass the test of independence.
Attendance
The Annual Report should state the number of times that the Board and its committees met. It should also set out the attendance record of each Director.
Multiple Directorships
Non-executives must be able to give fully the time that is required to each Board upon which they sit. Being on several Boards is therefore unlikely to be tenable. No-one should be the Chair of more than one company.
Director Development
Arrangements for the induction of new non-executive Directors, and the development of all non-executive Directors, should be substantially improved and accorded a high priority.
The Combined Code was updated in July 2003 to reflect the recommendations from the Higgs Report. Although there are elements of the Combined Code which are relevant to Board members of public bodies, the Code only applies to companies listed on the primary market of the London Stock Exchange.
While there are a number of similarities between the public and private sectors in terms of corporate governance principles, Board members should be aware that it may not always be possible to draw a direct parallel between the two. Being on the Board of a public body will call for a wider appreciation of how the principles of corporate governance are mediated by the codes of conduct that apply to those who serve in public life.
Developments in the Public Sector
Nolan Principles
In 1995, the Committee on Standards in Public Life (the Nolan Committee) identified seven principles of conduct underpinning public life "for the benefit of those who serve the public in any way" and recommended that public bodies should draw up Codes of Conduct incorporating these principles. The seven Nolan Principles are as follows:
Selflessness
Holders of public office should take decisions solely in terms of the public interest. They should not do so in order to gain financial or other material benefits for themselves, their family, or other friends.
Integrity
Holders of public office should not place themselves under any financial or other obligation to outside individuals or organisations that might influence them in the performance of their official duties.
Objectivity
In carrying out public business, including making public appointments, awarding contracts, or recommending individuals for rewards and benefits, holders of public office should make choices on merit.
Accountability
Holders of public office are accountable for their decisions and actions to the public and must submit themselves to whatever scrutiny is appropriate to their office.
Openness
Holders of public office should be as open as possible about all the decisions and actions that they take. They should give reasons for their decisions and restrict information only when the wider public interest clearly demands.
Honesty
Holders of public office have a duty to declare any private interests relating to their public duties and to take steps to resolve any conflicts arising in a way that protects the public interest.
Leadership
Holders of public office should promote and support these principles by leadership and example.
The Scottish Executive took the Nolan Committee recommendations one step further with the introduction of the Ethical Standards in Public Life etc. (Scotland) Act 2000 which brought in a statutory Code of Conduct for Board Members of Devolved Public Bodies and set up a Standards Commission for Scotland to oversee the ethical standards framework.
The Scottish Executive also identified nine key principles underpinning public life in Scotland, which incorporated the seven Nolan Principles and introduced two further principles.
Public Service
Holders of public office have a duty to act in the interests of the public body of which they are a Board member and to act in accordance with the core tasks of the body.
Respect
Holders of public office must respect fellow members of their public body and employees of the body and the role they play, treating them with courtesy at all times.
These nine principles and their practical implications for Boards and Board members are explored in Section 5.
Good Governance Standard for Public Services
In 2004, the Chartered Institute of Public Finance and Accountancy ( CIPFA) and the Office for Public Management established an Independent Commission on Good Governance in Public Services under the Chairmanship of Sir Alan Langlands. The role of the Commission was to develop a common code and a common set of principles for good governance across the public services.
In January 2005, the Commission published its Good Governance Standard for Public Services which builds on the Nolan Principles by setting out six core principles of good governance for public bodies. These six core principles also have their own supporting principles as described overleaf.
Figure 2.1 Good Governance Standard for Public Services: Principles of Good Governance
1. Good governance means focusing on the organisation's purpose and on outcomes for citizens and service users
- Being clear about the organisation's purpose and its intended outcomes for
- citizens and service users;
- Making sure that users receive a high quality service; and
- Making sure that taxpayers receive value for money.
2. Good governance means performing effectively in clearly defined functions and roles
- Being clear about the functions of the governing body;
- Being clear about the responsibilities of non-executives and the executive and making sure that those responsibilities are carried out; and
- Being clear about relationships between Board members and the public.
3. Good governance means promoting values for the whole organisation and demonstrating the values of good governance through behaviour
- Putting organisational values into practice; and
- Individual governors behaving in ways that uphold and exemplify effective governance.
4. Good governance means taking informed, transparent decisions and managing risk
- Being rigorous and transparent about how decisions are taken;
- Having and using good quality information, advice and support; and
- Making sure that an effective risk management system is in operation.
5. Good governance means developing the capacity and capability of the governing body to be effective
- Making sure that appointed and elected governors have the skills, knowledge and experience they need to perform well;
- Developing the capability of people with governance responsibilities and evaluating their performance, as individuals and as a group; and
- Striking a balance, in the membership of the governing body, between continuity and renewal.
6. Good governance means engaging stakeholders and making accountability real
- Understanding formal and informal accountability relationships;
- Taking an active and planned approach to dialogue with, and accountability, to the public;
- Taking an active and planned approach to responsibility to staff; and
- Engaging effectively with institutional stakeholders.
The Good Governance Standard also shows how these principles should be applied if organisations are to live up to the Standard and provides checklists for Board members (and the Board) and the public to challenge sub-standard performance of public bodies.
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