Striking the Right Balance: Prescriptive v. Enabling Strategies Said Business School

1. Restructuring Corporate Governance: The New European Agenda Striking the Right Balance: Prescriptive v. Enabling Strategies Said Business School Oxford University George Dallas Managing Director and Global Practice Leader Governance Services Standard & Poor’s March 2005

2. Assessing Corporate Governance: Why and How 1. “Man's capacity for justice makes democracy possible, but man's inclination to injustice makes democracy necessary.” Reinhold Niebuhr Substitute “corporate governance” for “democracy”: eg, we cannot simply assume management’s integrity– we do need corporate governance systems and structures 2. “I cannot define pornography, but I know it when I see it.” Potter Stewart, US Supreme Court Justice Substitute “corporate governance” for “pornography”: eg, true corporate governance is hard to define in a prescriptive context, but easier to know when you “don’t see it” 3. “It’s about TRUST, stupid” (to paraphrase the Clinton 1992 campaign slogan) eg, behind the hard façade of law and economics, governance is ultimately about “soft”– but real-- issues

3. Corporate Governance: Governance as a Risk Factor Governance as a Risk Factor: • Does good governance create value? Unclear. • Can bad governance destroy value? Yes! • “Enhanced Analytics” • Scope for better understanding of qualitative factors and how these affect interests of financial and non-financial stakeholders • How “soft” factors can be assessed and factored into a risk based investment process: • Equity: Premium or discount rate • Debt: Credit rating or lending decisions • D&O Insurance: fees, terms & conditions

4. What Standard & Poor’s is doing Standard & Poor’s has established a capability to benchmark and compare a company’s corporate governance practices including: • Stand alone Corporate Governance Scores and Evaluations • Emerging markets focus to date • Interactive/clinical analytical process: not “tick the box” • Done with consent of company: self selecting • Credit ratings: Enhanced Analytics Initiative • Focus on North America and Western Europe • Creditor focus: does governance affect the credit rating positively or negatively? • Equity research • Addressing governance as an aspect of management analysis

5. Law, Regulation and Market Forces: “Top down” versus “bottom up” initiatives • Legislation and codes of best practice: instruments of policy and reform • Laws, codes are listing rules have their place– and their limits • Cannot assume that compliance with Sarbanes Oxley, Combined Code or other codes of practice means good governance • Compliance is baseline– not an end unto itself • Market based solutions: systematic evaluation of governance risks in individual firms • Complements top down efforts by regulators and exchanges • Process of evaluating corporate governance provides greater transparency for investors and a positive incentive for companies to improve their governance standards But how rigid should codes, regulations and analytical criteria be?

6. Balancing Structural and Human Factors: How prescriptive should governance structures be? Quality of Governance Architecture Good Architecture, Bad People Good People, Good Architecture Good People, Bad Architecture Bad People, Bad Architecture Integrity of executive managers and directors

7. Standard & Poor’s Corporate Governance Criteria Framework Ownership Structure & External Influences • Transparency of Ownership • Concentration and influence of ownership • Influence of external stakeholders Shareholder Rights and Stakeholder Relations • Voting and shareholder meeting procedures • Ownership rights and takeover defenses • Stakeholder Relations Transparency, Disclosure and Audit • Content of public disclosure • Timing of, and access to, public disclosure • The audit process Board Structure & Effectiveness • Board structure and independence • Role and effectiveness of board • Board/executive compensation

8. Corporate Governance Criteria:Is there a global standard? • Governance structures and philosophies differ from company to company • Concentrated ownership versus widely held ownership • Shareholder versus broader stakeholder focus • One versus two tiered boards • Combined or split CEO/Chair • Legitimate differences can exist: be wary of “rule driven” systems • Box ticking can be “gamed” or can lead to false positives and negatives • Need to understand companies on an individual basis: especially the “or explain” part • Principles- based analytical approach: trumps rules • Fairness, Transparency, Accountability, Responsibility Need to interpret individual structures through lens of overarching principles that should be relevant in a global context

9. Key conclusions • Corporate governance as a risk factor • Linkage of governance risk and investor/D&O insurer expectations • Need to understand qualitative risk factors more systematically • More than compliance to laws or a code of conduct • Governance is not a “one size fits all” concept • Must assess companies on a case by case basis • Interactive approach provides best exposure to “tone” and “culture” • Principles ultimately prevail over rules • Governance is not and end unto itself • Key is how it helps– or inhibits– a company to oversee risks and build sustainable competitive advantage • Not a single factor or set of rules in isolation • “It’s about TRUST, stupid”: this cannot be legislated

10. Contacts George Dallas Managing Director and Global Practice Leader Standard & Poor’s Governance Services 20 Canada Square, Canary Wharf London E14 5LH UK Tel +44 207 176 3505 mailto:george_dallas@standardandpoors.com Detailed expositions of our criteria & methodology, examples, and a wide discussion of corporate governance issues are available in Governance & Risk (McGraw-Hill) written by members of the S&P Governance Services group and distinguished guest contributors. Our criteria and published scores are also available on our website: www.governance.standardandpoors.com