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ETHICS & GOVERNANCE ASSESSMENT TASK 3

GOVERNANCE RESEARCH ESSAY

Student: Nguyen Bui Linh Chi Student ID: s3752682 Course Name: Ethics and Governance Course code: BUSM4403 Lecturer: Do Thi Huong Nhu Campus: RMIT University Hanoi Word count: 1650 (Contents only)

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TABLE OF CONTENTS

INTRODUCTION..............................................................................2

DISCUSSION......................................................................................2 THE BOARD OF DIRECTORS....................................................................................................2 REMUNERATION......................................................................................................................3 OWNERSHIP STRUCTURE.........................................................................................................4

RECOMMENDATIONS....................................................................4 THE BOARD OF DIRECTORS.....................................................................................................5 REMUNERATION......................................................................................................................5 OWNERSHIP STRUCTURE.........................................................................................................5

CONCLUSION...................................................................................6

REFERENCES...................................................................................6

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INTRODUCTION Turnbull (1997) has stated that corporate governance represents all the factors that can potentially influence the institutional system of a company, these included the process of organizing, governing and controlling the operation of that firm. As good corporate governance can produce a lower capital cost, higher returns on equity, the firm’s operational efficacy and overall a more positive stakeholders management (Claessens 2006), businesses considered it a substantial contributor to the financial growth of their organizations. As of recently, several companies have been caught in accounting scandals, leading to them losing the credibility of corporate financial reports and the trust of both their stakeholders and shareholders and in terms of this, corporate governance mechanisms are becoming essential as a solution that all firms can make use of, regardless of their industries (Wu et al. 2009). The objective of this paper is Electromagnetic Geoservices ASA (EMGS), a Norwegian-registered geophysical company that provides electromagnetic surveying services for clients to update and improve their geological understanding and assessment (EMGS n.d.). In the following, the strengths and weaknesses of EMGS’s governance mechanisms will be discussed and some possible changes to the company’s corporate structure will also be given. Since corporate governance comprises several different concepts and are altogether hard to combine (Huse 2007), this paper will only examine some relevant theories learnt in the Ethics and Governance course in accordance with what the company actually presented.

DISCUSSION The Board of Directors Huse (2007) disclosed that the board of directors of a firm provides governance and ethics guiding for their subordinates and theoretically speaking, the Board is one of the most crucial corporate governance mechanisms assuring that managers are repressed from self-serving behaviors ( Agency Theory), engaging company’s managers to act in the best interests of their shareholders ( Stewardship Theory) and accommodate the interests of all stakeholders ( Stakeholders Theory ). In EMGS’s financial report (EMGS 2019), they disclosed the main responsibilities of their board is to appoint a CEO and to supervise said CEO ensuring the organization’s code of conduct is followed. However, it is important to mention that they do not have a corporate assembly which may not considerably affect their institution but should still be considered a flaw in EMGS’s governance system. Following Norway regulations for board of directors, the company has a short board tenure of only two years consecutively (DSW 2008), which has been proven to be a strong feature of board effectiveness in a company with dispersed ownership like EMGS (Desender 2009). Aspects such as board

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independence, board composition and board structure are also becoming increasingly important in enhancing the performance of the Board (Beiner et al. 2004).

Regarding board structure, EMGS utilizes a unitary board system, also known as one-tier board, which is common among listed companies (Nguyen 2020). Belcher (2003) implied that a one-tier board is responsible for both the corporate strategic decision-making and overseeing all corporate activities of the company; moreover, the board structure strengthens information-sharing flow among directors and enhances their ability to structure the compensation package as members of a one-tier board have a better understanding of their executives’ duties (Aluchna 2013). A less discussed aspect is the size of the board, which has been proven to correlate with the firm’s value creation (Beiner et al. 2004). EMGS has a total of six members in their board of governors consisting of three women directors (EMGS n.d.), complying Norwegian government regulations for public limited liability companies to have forty percent female committees in their board of directors (Nygaard 2011). Though a board of directors can compose up to eleven committees, a study by Jensen (1993) suggested that small boards are often more efficient in performing their management duties and preventing agency problems in public corporations i.e. directors being free riders, consequently, EMGS’s board having only six members strengthen the execution of their supervision responsibilities.

Information on board independence and composition were also disclosed by EMGS, stating that the board does not consist of any executive managers plus there are four shareholder-elected and two employee-elected directors in the board with two members elected by shareholders are independent. Additionally, no shareholder-elected directors will engage in any other role in the firm, e.g. consultant. This board composition works well as it ensures the dependence of the board in exercising their power, however, OECD (2019) recommended that at least half of the board should be independent directors as a prevalent standard.

Remuneration Executive remuneration schemes are being closely investigated around the world due to the public complaints of excessive corporate executive compensation ( Mihret et al. 2019). Understanding this concern, EMGS detailed the board compensation in their financial report and stated that none of the representatives receive any compensation for being a board member, moreover, board remuneration will not be based on the company’s financial performance. In terms of executives’ salary, the board agrees that it should be competitive and performance-related remuneration is considered as bonuses for these employees, however, the performance bonus is linked to value creation for shareholders, and it is subjected to up to forty percent of their base salary. These practices carried out by EMGS can be seen as a competent and active effort to secure the productivity of both the board and their

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subordinates by structuring appropriate compensation packages for everyone, eliminating the notions of unfair treatment to employees and favoritism to their seniors.

Ownership structure

Figure 1. ‘EMGS’s Ownership Breakdown’. Reproduced from: Simply Wall St 2019. Since EMGS is a public listed company, they followed a dispersed ownership system. The firm also emphasizes that they have only one class of shares and can be purchased over stock exchange which is to ensure equal treatment for all shareholders. As can be seen in Figure 1, institutional investors have bought into the company, owning a total of twenty-three percent, indicating EMGS has a positive status in the investment community in terms of their credibility. According to Davis and Steil (2004), institutional investors are defined as specialized financial institutions handling investments from minor investors to minimize risks and maximize return for the participants; overall, the system runs in efficient capital markets. Additionally, the structure provides access to industry experts and good proxies for public interest (Nguyen 2020). However, from a corporate governance perspective, too many institutions owning a stock leads to high risk of a “crowded” trading position and when this trade goes wrong, these investors will partake in selloffs in an attempt to pull out which causes disruption for the firm (Rocker 1999). Moreover, institutional stakeholders vary greatly regarding their financial capability and incentives to truly execute their shareholders rights (OECD 2019) and the board may face difficulties in monitoring activities of dispersed shareholders (Aguilera 2005).

RECOMMENDATIONS The Board of Directors Asides from the elements of small board size and short board member tenure which EMGS has already obliged to, Desender (2009) has also recommended leadership duality and avoidance of

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directorship in the management of the board to achieve board effectiveness for companies with a onetier board structure that has a dispersed ownership system like EMGS. Currently, the firm has not published their leadership style or any matter related to this yet, nevertheless, this is still a major aspect for the company to look into as the treatment of the firm towards their staffs can influence their work ethics and corporate behaviors, which consequently affect the operation’s overall performance. Furthermore, their employees are also counted as an important shareholder group so protecting their interests will consequently enhance the organization’s corporate governance. As of now, EMGS does not have a corporate assembly but it is advisable that EMGS holds one composed of mostly shareholder-elected members as these representatives will constitute shareholders’ interests in the election of the organization’s board of directors, protecting their shareholders’ rights (NUES 2007). Another benefit of a corporate assembly is that it will reduce the majority of the board’s duties since the assembly will take over the responsibility of monitoring the firm’s senior executives and elect the CEO of the company, but with a more shareholder-centric perspective as they will represent these shareholders’ concerns in all activities of the organization.

Remuneration Although EMGS’s board of directors does not have performance compensation for their roles, a study by Randøy and Nielsen (2002) signals a crucial connection between the firm performance and CEO pay as an incentive mechanism for corporate success. In the same study, the authors recommended organizations to pay their CEO in accordance with their financial profitability in order to avoid public frustration since both the stakeholders and shareholders of the firm will look at this matter to do quality assessment of the organization’s corporate governance practices, adding to this, Mihret et al. (2019) agreed that shareholders often take interest in the alignment of high executive remuneration with their performance.

Ownership structure As EMGS’s ownership possesses an active segment of institutional investors, the company must deal with short-term and fickle shareholder issues. Ireland (1999) implied that stakeholding should not be only examined in the context of maximizing shareholder values but committed shareholders’ ownership is also required since a good governance structure should include shareholder supervision and control. To solve the commitment issue, EMGS can grant compulsory voting for institutional investors at the firm’s general meetings for a more active shareholding. Additionally, Norway regulations also permit shareholders with five percent of the company’s share capital to request convening for a general meeting of that company (DSW 2008).

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CONCLUSION Through closely examining the firm’s corporate governance mechanisms, this paper concluded that EMGS has performed rather well and has successfully published all the required standard information on the matter. Nevertheless, EMGS should constantly assess their corporate governance in order to allocate underperformed aspect in-time and find solutions accordingly, which can be further improved by some recommendations mentioned above in order to retrieve public confidence and assure the accuracy and reliability of that firm's financial information (Wu et al. 2009), consequently, contribute to their financial profitability.

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