Why Corporate Governance Is Important to Investors

Nicholas J Price
5 min read
Corporations in the United States have a lot of latitude to create their own policies and to govern themselves, but all public corporations must understand that corporate governance is something important to investors. Strong governance gets noticed by shareholders, stakeholders, employees and customers alike and has a strong bearing on a company's reputation. The strength of a company's corporate governance principles can lead to either a higher or a lower valuation of a company.

Good corporate governance ensures transparency and accountability, and can prevent corporate scandals, fraud and issues pertaining to corporate liability. An effectively run company that bases its structure and corporate culture on good corporate governance principles prevents major disasters like the fall of Enron.

Corporate governance is important to investors, and shareholders have rights and expectations under good corporate governance principles and practices. Their stake in corporate ownership makes their investments less susceptible to system risks.

While good corporate principles are a staple of the industry, they continue to evolve with the times. Modern governance accounts for using digital technology to give boards the right information at the right time. By having this information at their fingertips, boards can start asking the right questions and incorporate the best answers into their decision-making process.

Understanding the Balance of Power in Corporate Structure

In the United States, ownership is separate from control, so there must be safeguards in place to protect the owners. The securities laws of the 1930s and 1940s were supposed to be the vehicle that required adequate controls for corporations, but they haven't been as effective as they have been in years past.

Good corporate governance principles provide a system of checks and balances that helps to balance the power and ensure that there are benefits for everyone involved. In essence, corporate governance is a structure whereby the shareholders own the operation, managers run the operation and board directors oversee the operation as agents of the shareholders.

Good corporate governance ensures that the company has the proper rules, policies and practices to create long-term shareholder value. When the company's performance is down, shareholders have every right to begin asking questions. Usually, they start asking questions from the start to ensure that the company is practicing good governance. Getting the right answers to these questions means that their investments are in good hands.

While shareholders have limited power to intervene, they have a lot of power as owners in the company. Shareholders elect the board of directors with the expectation that the board will fulfill their fiduciary duties and keep the best interests of the shareholders at the forefront of their decision-making.

Shareholders expect boards to run as efficiently as possible. Shareholders can also reasonably expect that the board will perform strong oversight to ensure that the performance by officers and managers is ethical and strong. When the company's performance begins to slide in a negative direction, shareholders have the right to question whether board directors are truly independent. The original intent of good corporate governance principles gives shareholders the right to ask questions to affirm that the board and management are doing their best to increase shareholder value and to ensure that the board will be accountable to them.

What Are the Principles of Corporate Governance?

One of the main principles of corporate governance is to equally recognize all shareholders regardless of how big or small their ownership is. All shareholders should have a voice at the annual general meeting. Board directors should be on the same page as shareholders with regard to the company's mission, vision, values and culture.

All boards are required to have a code of conduct and to ensure that there are no conflicts of interest. Boards should regularly practice good ethical behavior and display a high level of integrity at all times. Board directors should be responsible to model the company's values as part of the corporate culture. Practicing good governance keeps companies honest, compliant and out of trouble.

Good governance requires boards to consider the input, concerns and interests of all stakeholders. A good and honest relationship with stakeholders will improve the company's reputation, better its relationship with the community, and enable it to be accurate and responsible in handling requests by the media.

There can't be enough said when it comes to the transparency of financial records and earnings reports. All financial documents should be clearly and accurately stated and should be accessible and available for review.

Why Corporate Governance is Important to Shareholders

Boards should be prepared to answer the many questions that shareholders might present. Shareholders expect the chairman of the board to be a different individual than the CEO. Shareholders may also inquire how many other boards their board directors are serving on, so they know that each board director has adequate time to devote to their duties. At this time, shareholders can reasonably expect that most, if not all, board directors will be independent.

Shareholders may ask questions about how much ownership each board director has in the company and whether there are any conflicts of interest or interpersonal relationships between the board and management. It's common for shareholders to want information about how boards structure management's pay and how they disclose it, as well as how much the board pays itself. Shareholders will also want assurance that the board didn't approve overly generous stock options that could dilute their investment later.

They may also ask questions about the independence of the audit committee and whether any audits have been challenged.

Modern Governance Addresses Shareholder Concerns About Responsible Governance

Modern governance accounts for a governance deficit. A governance deficit means that boards lack the information they need to ask the right questions at the right time. Today's leaders need the ability to engage in the industry at the company level, across the industry, and to gain insight into whatever the future brings.

Security is a major issue and will continue to be for the foreseeable future. Corporate board directors and senior leaders need digital tools that allow them to communicate, collaborate and share sensitive data without fear of any of it being compromised.

Diligent Corporation developed a host of digital governance tools, including Diligent Boards, Governance Cloud and tools for Nominations and Governance, to provide today's boards with the right tools to support good governance and to maximize shareholder value.