Disclosure is crucial for the proper functioning of a firm’s corporate governance structure (Vera Cunha and Lúcia Lima Rodrigues ‘Determinants of Structure of Corporate Governance Disclosure in Portugal (https://www.academia.edu, accessed 07-11-2022)). The major source of corporate disclosure is annual reports of the companies, statements in the annual report identifying the fundamental pillars of the corporate governance structure and practices (Shikha Mittal Shrivastav and Anjala Kalsie ‘Corporate Governance Disclosure Index and Firm Performance: Evidence From NSE Companies’ (January 2017) (https://www.researchgate.net, accessed 07-11-2022)). Companies’ annual report serves as a source of information leading to disclosures. Disclosures play a significant role in ensuring integrity, transparency and accountability.
Determinants of the level of corporate governance disclosure are ownership structure, management and supervision structures, and specific company characteristics. The existence of appropriate corporate governance structures minimizes the risk of managerial expropriation generated by information asymmetry. An appropriate governance structure may force managers to increase the level of disclosure. The disclosure of information on governance practices is a good indicator of the quality of the corporate governance structure. The disclosure of corporate governance practices increases corporate transparency. The voluntary disclosure of information plays an important role in the management of relations between the various stakeholders in the company.
Companies with a higher shareholder ownership concentration and unitary leadership structures disclose less information regarding their governance structures. When minority shareholders are in the minority, their sphere of influence in companies tend to contract, therefore slowing down the disclosure of information. In companies where agent and principal roles overlap, there is no moderation of the principal’s actions. A high level of ownership concentration and weak protection of minority shareholders enable a controlling shareholder to extract private benefits more easily (Vera Cunha and Lúcia Lima Rodrigues (op cit)). The concentration of ownership has a strong influence on the level of information dissemination (Tsamanyi, Funiful-Adu and Onuman, 2007, Opong, Daubolt and Thomas, 2012).
‘In concentrated ownership and less efficient systems for protecting minority shareholders, managerial ownership can potentially bring managers and shareholders closer by increasing the level of disclosure of information’ (Vera Cunha and Lúcia Lima Rodrigues (op cit)). Increased disclosure on corporate governance practices can enhance firm performance by aligning the interests between the owners and managers. The higher the participation of managers in the capital, the greater the level of information disclosure. The supervising of management enables incentives to be more aligned, since the management and controlling shareholders are (often) the same person, with only one prevailing aspiration, which is to create value for the company in the medium and long term. Corporate disclosure reduces agency costs arising due to separation of ownership and control information asymmetry.
Companies with a higher percentage of foreign investors, and independent directors on the board, coupled with a quality audit function disclose more information regarding their corporate governance structures. The presence of non-executive directors on a board improves accountability and board transparency. Board independence offers a high level of protection to shareholders. Foreign investor ownership has a better management monitoring ability. Higher disclosures can also enhance firm performance by inducing investors’ confidence resulting from information symmetry. Firms that disclose more are likely to result in higher performance. One way of achieving that objective is by ensuring the timely disclosure of accurate information on important firm-related matters. Information disclosure is crucial in discouraging inappropriate practices.
According to Ho and Wong (2001), the impact of corporate governance on information disclosure may be complementary or it may be substantive (Yau M Damagum and Emmanuel Ib Chima ‘The Impact of Corporate Governance on Voluntary Information Disclosures of Quoted Firms in Nigeria: An Empirical Analysis’ (2013) 4 Research Journal of Finance and Accounting 166 (https://core.ac.uk, accessed 07-11-2022)). Reporting on internal control improves the quality of financial reporting, and ‘[a]ccording to Gale (2003) in Kateba (2010:27), the low quality of financial reporting greatly reduces the quality of the institution itself’ (Aristanti Widyaningsih ‘Internal Control System on the Quality of Financial Statement Information and Financial Accountability in Primary Schools in Bandung, Indonesia’ (2016) 7 Research Journal of Finance and Accounting 10).
Regulatory efforts contribute to an increase in disclosure. One of the important ways for firms to ensure proper compliance is to normalize the disclosure of internal control information to the regulator, namely, ‘disclosure-by-design’, not least because the legislation or regulations demand it. The soft law principle of King IV Code of good practice – “comply and explain” – may be an efficient way of increasing the quality of corporate governance and is a practical way of establishing good corporate governance in law firms (Caspar Rose ‘Firm performance and comply or explain disclosure in corporate governance’ – European Management Journal https://www.academia.edu, accessed 07-11-2022).
The firm’s annual report serves as the source of information leading to disclosures (Shikha Mittal Shrivastav and Anjala Kalsie (op cit)). The quality of audit function can improve the level of corporate governance disclosure (Eng and Mak, 2003). Disclosures such as maintaining a compliance framework, keeping proper books of account, updating of accounting records, and reports of non-compliance, can help practitioners in reducing managerial expropriation and make them accountable for their actions in legal practice. Disclosures play a significant role in ensuring integrity, transparency and accountability.
Legal practice demands financial accountability regarding financial integrity disclosure and compliance with the legislation. ‘The impact of accountability and transparency in financial reporting on the governance of an organisation is usually related to the level of quality of financial reporting (Sanni, 2011)’ (Widyaningsih (op cit)). The disclosure of internal control information in law firms needs to be encouraged. The duties in respect of compliance ultimately lie with the legal practitioner. Corporate governance is essential where there is a separation of ownership and control, especially in firms with dispersed ownership. Reporting on governance codes serves transparency. Increased compliance very often entails higher costs as firms must devote effort to adhere to standards of “best practice”. Compliance with the code may ensure effective machinery which results in more effective monitoring of management.
Without proper risk management as well as internal control processes, there is a risk that the annual report will be manipulated by management. Sufficient internal controls and risk management systems are vital in connection to the financial reporting process. ‘Focusing on efficient financial reporting is essential for monitoring management as well as evaluating the financial consequences of strategic decisions’ (Caspar Rose (op cit)). Irregular or inadequate internal controls in the organisation may also increase the risk of violations of compliance obligations and may have a significant impact on firm performance. A high degree of “comply and explain” disclosure with a set of best practice recommendations in combination with a true desire to improve the firm’s corporate governance structure can add value.
|Please note that our blog posts are informal commentaries on developments in the law at the time of publication and not legal advice.