Governance in business organisations: formula sheet

Key formulas

Definition of corporate governance

Corporate governance = the system by which a company is directed and controlled

Use this wording first in any definition question, then add the purpose: balancing the interests of shareholders and other stakeholders.

Five core principles

Fairness, Accountability, Transparency, Responsibility, Integrity

A memory aid is to remember the five as FATRI. Other sources may list additional or differently named principles, such as independence or openness.

Governance versus management

Governance = direct, oversee and hold to account; Management = run day to day operations

Governance is about the framework of control and accountability. Management is about carrying out strategy.

Mendelow: high power, high interest

Key players → manage closely

Involve them in decisions. Example: major shareholders, key lenders.

Mendelow: high power, low interest

Keep satisfied

Do not overload them, but do not upset them. Example: a regulator in normal times.

Mendelow: low power, high interest

Keep informed

Communicate regularly. Example: local community groups, a small pressure group.

Mendelow: low power, low interest

Minimal effort → monitor

Watch for change in their position. Example: a small remote supplier.

Stakeholder classification

Internal | Connected | External

Internal: inside. Connected: direct contractual or financial link. External: no direct link.

Role of NEDs (four parts)

Strategy + Scrutiny + Risk + People

A memory aid for what NEDs contribute. Use it to structure written or multi-task answers.

Chairman versus CEO

Chairman = leads the board; CEO = leads management

Separation avoids one person holding unchecked power. Good practice, not a legal rule everywhere.

Audit committee

Reporting + Internal control + Risk + Internal audit + External auditor

Usually independent NEDs. It reviews and oversees; it does not prepare the accounts.

Remuneration committee

Sets executive director pay; no director sets their own

Aims to link reward to performance and avoid conflicts of interest.

Nomination committee

Board balance + Appointments + Succession

Proposes candidates for the board for approval.

Agency relationship

Principal (owner) appoints Agent (manager) to act on their behalf

In a company the shareholders are the principals and the directors are the agents.

Agency problem

Agent's own interests ≠ Principal's interests, plus information asymmetry

The conflict arises because managers control the business but do not bear the full cost of their decisions.

Agency costs

Agency costs = monitoring costs + bonding costs + residual loss

Monitoring: audits, reports, boards. Bonding: incentives and contracts. Residual loss: value still lost despite both.

Comply or explain

Comply with the provision OR explain the departure and why

Principles-based. Not legally forced, but departures must be disclosed and justified to shareholders.

Rules-based approach

Legal requirement + enforcement + penalty for breach

Compliance is mandatory. Sarbanes-Oxley is the standard example.

Typical code provisions

Separate chair and CEO; balanced board with independent NEDs; audit, remuneration and nomination committees; risk and control review

Learn these as a checklist for 'outline the main provisions' questions.

OECD Principles

International, non-binding benchmark for national laws and codes

Not a company-level code. Do not say companies must comply with it.

Carroll's pyramid (base to top)

Economic → Legal → Ethical → Philanthropic

Economic and legal are required, ethical is expected, philanthropic is desired. Learn the order and the meaning of each layer.

Law versus ethics

Legal minimum ≠ ethical standard

Following the law does not by itself make behaviour ethical. Ethics can demand more than the law.

CSR cost-benefit test

Benefits (reputation, loyalty, staff, lower risk) vs Costs (money, time, lower short-term profit)

Use this to structure a balanced answer. Benefits are often long-term and hard to measure.

Sustainable development

Meeting present needs without compromising the ability of future generations to meet their own needs

Learn this wording. Questions often test it directly.

Triple bottom line

People (social) + Planet (environmental) + Profit (economic)

Also called the 3Ps. It is a way of measuring performance, not a formula that gives a number.

ESG

Environmental + Social + Governance

Mainly used by investors to assess risk and long-term performance.

Greenwashing

Claims of environmental benefit that are misleading or not supported by actions

A key risk in voluntary sustainability reporting.

Quick revision

• Corporate governance is the system by which a company is directed and controlled.
• Core principles include accountability, transparency, fairness and responsibility.
• Stakeholders are groups affected by or able to affect the organisation, and they differ in power and interest.
• Shareholders (owners) appoint directors, and directors act as their agents.
• The agency problem arises when managers' interests differ from owners' interests.
• Non-executive directors bring independent judgement and can challenge executives.
• Separating the roles of chair and chief executive limits concentration of power in one person.
• Common board committees are audit, remuneration and nomination, each with a distinct purpose.
• Rules-based codes require strict compliance; principles-based codes let you comply or explain departures.
• CSR means an organisation accepts responsibility for its impact on society and the environment beyond legal minimums.
• Sustainability reporting discloses environmental and social impact as well as financial results.
• In scenario questions, name the problem first, then match the control or principle that addresses it.

Common mistakes

• Treating corporate governance and management as the same thing. Fix: Remember that governance directs and oversees the company, while management runs day to day operations and reports to the board.
• Confusing transparency with accountability. Fix: Transparency is about disclosing clear and accurate information. Accountability is about answering for decisions and facing consequences.
• Treating shareholder and stakeholder as the same word. Fix: Remember shareholders are one subset. Stakeholders include employees, customers, government and the community.
• Classifying customers or suppliers as external. Fix: They have a direct contractual link, so they are connected.
• Saying NEDs manage the business day to day. Fix: Remember NEDs are not employees. They scrutinise and advise; executives manage.
• Mixing up the roles of chairman and CEO. Fix: Chairman leads the board; CEO leads management. Link each to its group.
• Reversing principal and agent. Fix: Owners appoint managers. The one who appoints is the principal; the one who acts is the agent.
• Saying agency problems exist in every business. Fix: The problem needs separation of ownership and control. A sole trader who runs their own business has little or none.
• Saying comply or explain means companies may ignore the code. Fix: State that departures must be disclosed and justified, and shareholders can act on weak explanations.
• Saying rules-based systems are always better because they are enforced. Fix: Give both sides: rules are clear and enforceable but costly, rigid and can be met in form while avoiding the spirit.

Exam tips

• Learn the five principles with a one-line meaning and a one-line example each, so you can match a scenario in seconds.
• In objective tests, the scenario usually describes one clear behaviour. Match that behaviour to a single principle rather than overthinking.
• Watch for options that describe management tasks. These are usually distractors in governance questions.
• In multiple response questions, select exactly the number asked for and test each option against the definition.
• Use the word 'stakeholders' as well as 'shareholders' when a question asks why governance matters.
• Learn the three categories with one example each, then check each scenario word against them.
• In matrix questions, read the power and interest clues first, then pick the strategy. Do not guess from the stakeholder's name.
• For multiple response questions, select exactly the stated number and check each option separately.