Ethics and

Corporate Governance

Dian Kartika Rahajeng, M.Sc., Ph.D.

dkrahajeng@ugm.ac.id
 Background
• Financial crisis in 1997/1998
– one of the causes of the crisis is the weak implementation of corporate
governance
• Corporation Fraud
– To name a few WorldCom, Tyco, Enron, Parmalat
– Auditing firms’ incidents (Arthur Andersen)
• Sarbanes Oxley Acts (SOX) 2002
– Ban non-audit services, director’s code of ethics, strengthen the power of audit
committees (internal audit control)
– Good Corporate Governance
– Internal Control Report
 Corporate Governance
• Definition
– UK CG Codes
– The Indonesia Corporate Governance Manual (CG Manual)
• The Organization for Economic Cooperation and Development
(OECD):
“The internal means by which corporations are operated and controlled […], which involve a
set of relationships between a company’s management, its board, its shareholders and
other stakeholders. Corporate governance also provides the structure through which the
objectives of the company are set, and the means of attaining those objectives and
monitoring performance are determined. Good corporate governance should provide proper
incentives for the board and management to pursue objectives that are in the interests of
the company and shareholders, and should facilitate effective monitoring, thereby
encouraging firms to use resources more efficiently.
 Corporate Governance
• Principles
– Transparency, Independency, Accountability, Responsibility, Fairness
• Codes, Guidelines, Regulations
– In Indonesia
– Other countries (the U.K. and U.S)
• CG Compliance
– Comply or explain
•
 Corporate Governance
• Models
– One tier system (The “Anglo-American” model)
• How?
– managerial and supervisory responsibilities in one unified board of directors
– traditionally divided between the (1) Chief Executive Officer (“CEO”) and executives directors,
(2) a Chairman or Lead Director (often times the CEO) and (3) Independent Directors
• Which country?
– The United States

– Two tier system (The “Anglo-Saxon” model)

• How?
– the non-executive directors in the supervisory board
• Which country?
– Germany, France, Italy

• Consequences: Shareholders vs Stakeholders

 Corporate Governance
• Theories
– Agency Theory
– Stakeholder Theory
– Shareholder Theory
– Stewardship Theory
– Resource Dependency Theory
– Rubber-stamp Theory
– Managerial Hegemony Theory
– Etc.
 Corporate Governance
• Implementation:
– Business Ethics and Good Governance
• Institutional Level
– Ethical Code of Conduct
– Ethics Committee
– Rules and Policies
– Penalties
• Governmental Level
– Regulations
– Laws
– Supervision and Monitoring
• Individual Level
– Values (i.e. social, religious, cultural)
 Ethical Issues
• CG only focus on legal process – structure – compliance ➔moral
aspects are limited
• Agency Problems
• Moral Hazard
• Fraudulent activities
– Organisation
– Individual
• Unfair treatment
– Coercion
– Job Discrimination (i.e. women representatives on boards)
 Ethics and
Internal Control

Dian Kartika Rahajeng, M.Sc., Ph.D.

dkrahajeng@ugm.ac.id
Internal Control
• In COSO, internal control is seen to apply to
three aspects of the business:
– Effectiveness and efficiency of operations - that
is the basic business objectives including
performance goals and safe guarding resources.
– Reliability of financial reporting - including the
preparation of any published financial
information.
– Compliance with applicable laws and regulations
to which the company is subject.
 Keys in Internal Control
• Control Activities (SAPID)
– Separation of Duties
– Authorizations
– Physical Controls
– Independent Checks
– Documents and Records
• Fraud Prevention Mechanisms
– Effective Internal Control
• Ethical Issues
 Limitations of Internal Control Systems
• Warnings should be given regarding over-reliance on any system,
noting in particular that:
– A good internal control system cannot turn a poor manager into a good one.
– The system can only provide reasonable assurance regarding the achievement
of objectives - all internal control systems are at risk from mistakes or errors.
– Internal control systems can be by-passed by collusion and management
override.
– Controls are only designed to cope with routine transactions and events.
– There are resource constraints in provision of internal control systems, limiting
their effectiveness.