Good Corporate Governance

Chapter V CONCLUSIONS AND RECOMMENDATIONS

C. Good Corporate Governance

Good Corporate Governance (GCG) is a concept that is based on the agency theory, which expected to serve as a tool to give confidence to investors that they will receive a return on the funds they had invested. GCG deals with how investors are confident that managers will give you an advantage for them, convinced that the manager will not be stolen or invest in projects which are not related to the funds or capital which has been invested by investors and is concerned with how the investors control the managers (Shleifer & Vishny, 1997 cited in Yasser, 2011). In other words, corporate governance is expected to work to suppress or reduce the cost of an agency.

15 To understand the basic use of Good Corporate Governance (GCG) perspective the agency relationship. Agency theory explains the relationship between they is the agency and the principals, including with regard to problems incurred as a result of these relationships. Jensen and Meckling (1976) states the agency relationship is a contract between a manager (agent) and investors (principal). The occurrence of conflicts of interest between the owner and the agent because the agent is probably not acting in accordance with the interests of the principal, so the cause the agency cost.

When compared to publicly traded firms, small businesses come closest to the type of firms depicted in the stylized theoretical model of agency costs developed by Jensen & Meckling (1976). Agency costs arise when the interests of the firm's managers are not aligned with those of the firm's owner(s), and take the form of preference for on the-job perks, shirking, and making self-interested and entrenched decisions that reduce shareholder wealth. The magnitude of these costs is limited by how well the owners and delegated third parties, such as banks, monitor the actions of the outside managers. (James et al. 2000)

Jensen and Meckling (1976) states that if the two groups (agents and principals) are the ones who attempt to maximize utilities, then there is a strong reason to believe that the agent will not always act in the best interest of the principal. Principals can limit it by setting the right incentives for agents and monitors that are designed to limit the activity of the agent diverge.

16 1. Good Corporate Governance on indonesia

a. The Definition Good Corporate Governance

Indonesian State owned Enterprises Ministerial Decree No. 117M- MBU/2002 defines Corporate Governance as follow:

“Corporate governance is a process and structure that stated owned enterprises used for increasing organization efficiency and accountability in order to achieve all stakeholders’ values for long term prospect, accordance with government regulation and ethic principle”

According Sidharta and Cynthia (in Oktapiyani, 2009) the term Good Corporate Governance is generally known as a system and structure Good to manage the company with the aim of increasing value shareholders as well as to accommodate various interested parties with the company (stakeholders), such as creditors, suppliers, business associations, consumers, workers, government, and society at large. Principles of good corporate This governance can be used to protect the minority of the parties take control conducted by managers and shareholders with legal mechanisms. The Organization for Economic Corporation and Development (1999) in defining corporate governance as follows: The system by the which business corporations are directed and control. The corporate governance structure specifies the distribution of rights and Among different responsibilities participant in the corporation, such as the board, the managers, shareholders and other stakeholders, and spells out the rule and procedure for making decision on corporate affairs. By doing this, It also Provides the structure

17 through the which the company objectives are set and the means of Attaining Reviews those objectives and monitoring performance.

b. The Purpose and Benefits of GCG

Shleifer and Vishny (1997) explain that governance mechanisms used as important part in corporate governance framework. Because it can ensure that investors will gain the return of their investment. Governance mechanism can be broadly characterized as being internal or external to the firm. The internal mechanism of primary interest are the Board of Directors and the managerial incentive schemes, while the external mechanism rely on the effectiveness of the market in providing discipline over a company and the legal or regulatory system. Based on such disciplinary mechanisms, one could expect different corporate governance system to arise as result of varied financial systems, legal and regulatory framework (Lukviarman, 2004).

Whereas the purpose of good corporate governance is as follows:

1. Protecting the rights and interests of the shareholders.

2. Protecting the rights and interests of the members of stakeholders.

3. Increase the value of the company and its shareholders.

4. Improve the efficiency and effectiveness of work of the Board of Directors and management of the company.

5. Improve the quality of the relationship the Board of Directors with senior management of the company.

18

c

. The Principles of Good Corporate Governance

Good corporate governance has some principles, the principles of good corporate governance can certainly be applied to every aspect of business and in all ranks of the company. The main principles of Good Corporate Governance designed by the Organization for Economic Cooperation and Development (OECD, 2004) and the Indonesian Institute of Corporate Governance (IICG, 2009) are transparency, accountability, responsibility, independence and equality and fairness is necessary to achieve continuous performance by taking into account the interests of stakeholders.

1. Transparency

To maintain objectivity in running the business, the company must disclose material and relevant information in a way that is easily accessible and understood by stakeholders. Companies must take the initiative to reveal not only the problems implied by legislation, but also it is important for decision-making by shareholders, creditors, and other interest parties.

2. Accountability

Companies must be transparent and accountable for its performance independently. Thus, a company must be properly managed, scalable, and in accordance with the interests of shareholders by considering the interests of other stakeholders. Accountability is a necessary prerequisite for achieving sustainable performance.

19 3. Responsibility

The company has a responsibility towards society and the environment and must obey the laws and regulations applicable to its business continuity can be maintained in the long term.

4. Independence

To enables the implementation of corporate governance principles more transparency, accountability, responsibility, and fairness, the company should be managed independently of each organ so that the company can function without dominating each other and cannot be in the intervention by other parties.

5. Fairness

Companies should always consider the interests of all stakeholders based on the principle of equal treatment and the principle of reasonable benefit.

Benefits provided by the presence of good corporate governance explained by Forum Corporate Governance Indonesia (FCGI), among others:

a. Improving company performance through the creation process of making better decisions, improve the efficiency of the company, and improve the service to stakeholders.

b. Facilitate obtaining financing funds are cheaper because of the trust factor that will ultimately increase the company value.

c. Restoring the confidence of investors to invest in Indonesia.

20 d. Shareholders will be satisfied with the company performance as well

as to increase shareholder's value and dividends.

The conclusion that can be drawn from good corporate governance is improved company profitability through monitoring the management company performance and management accountability to stakeholders and other stakeholders. In this case management is more focused in achieving management objectives and is not occupied for things that are not the goals of performance and reduce the agency problem. Corporate governance mechanisms equal footing with the ownership structure, i.e. an impact on the quality control including the narrow interests of principals and agents difference.

2. The Size of Board Commissioners

Indonesia adopted two-tier system of board. Companies incorporated under the Indonesia Company Law (2007) must have two boards, supervisory board that performs the monitoring role and management board that perform the executive role. The supervisory board is clearly separated from and independent of the executive or management board, consistent with the characteristic of continental European governance model. The two-tier board makes a clear separation between Board of Directors and Board of Commissioners. Board of Directors charged with the management of the company and Board of Commissioners is responsible to supervise the Board of Directors. This system enhances the check and balances required for corporate governance (Tumbuan, 2005).

21 Board of Commissioners has very important roles in the company especially in the implementation of good corporate governance. The Board of Commissioners lies at the core of corporate governance-charged with ensuring strategic guidance mechanism. Since management is responsible for the firm’s efficiency and competitiveness and Board of Commissioners is the proper focal point of the corporation’s perpetuation and success (Indonesian Ministerial Decree No. 117/2002).

Board of Commissioners has responsibility to supervise the quality of information in financial statement. This is important to consider management need on doing earning management which could affect the decreasing of investor belief. In order to overcome this problem, Board of Commissioners has permit to have an access on company information. Board of Commissioners does not have authority in the company, so Board of Director responsible to deliver the information that related to the company.

Additionally, the function of Board of Commissioners is to make sure a company have done social responsibility and consider the stakeholder need as good as monitoring the effectively of corporate governance practice (National Code for Good Corporate Governance, 2001 cited in Igra, 2008).

Yermack (1996), Lorderer and Peyer (2002), and Jensen (1993), which states that the more personnel into the commissioners can result in worse company performance. This contrast might be caused by the different board system that are adopted, where this research is using Indonesian company as sample that adopt two tier board system, while the previous researchers used

22 sample from countries that adopt one tier board system. The different company characteristic, regulation factor, and macroeconomic factor also could be considered as the reasons of this different result.