Congress passed the Sarbanes-Oxley Act in 2002 in response to a rash of corporate scandals in the early part of the century. The goal of the act is to provide greater oversight of a corporation by the board of directors and to help eliminate conflicts of interest between boards and top-level management. The act includes measures to protect whistleblowers, independent auditors and transparency in financial reporting (Wheelen, p. 55). Companies are required to state their code of ethics and have a governance committee staffed by outside directors only (Wheelen, p. 55).
As companies join the trend of globalization, it is not surprising that improvement in corporate governance has globalized as well. Countries like Japan, France, China, and Canada have adopted similar practices in order to increase transparency in financial reporting and protect citizens from corrupt business practices. In the US, agencies like S&P, Moody’s, Morningstar and Institutional Shareholders Services provide independent standards to rate companies based on selected metrics (Wheelen, p. 56). For example, S&P reviews four critical areas for its rating system. These areas include “ownership structure and influence, financial stakeholder rights and relations, financial transparency and information disclosure, and board structure and processes” (Wheelen, p. 57). Strong ratings with the S&P lead to higher credit ratings by other companies.
Some companies attempt to avoid corporate governance by taking the company private or by structuring elaborate stock ownership to weight the voting in favor of the company. Shareholders are more interested in investing in companies with strong corporate governance because it reduces the risk they take with the investment and returns higher profits over time. Several trends in corporate governance include greater involvement by board members, greater diversity on the board and mandatory retirement ages for board members (Wheelen, p.58). Overall, increased corporate governance leads to less risk for investors.
Marchetti, A. M. (2007). Sarbanes-Oxley ongoing compliance guide: Key processes and summary checklists. Hoboken, NJ: John Wiley & Sons.
Wheelen, T. L., & Hunger, J. D. (2012). Strategic management and business policy: toward global sustainability (13th ed.). Upper Saddle River, N.J.: Pearson Prentice Hall.