INDEPENDENCE IN CORPORATE
INTRODUCTION
In recent years, corporate governance has become the ‘‘ethical response’’ to accounting scandals. Following a period of high-profile corporate failures and financial statement restatements, we are witnessing a renewed concern with business ethics and governance practices. The most frequent response is encompassed by the term corporate governance. Presumably, the assump- tion is that better corporate governance would have prevented these problems.
Although many of the failures were due to poor accounting or managerial fraud, the predominant response has been to focus on corporate governance rather than changes to accounting standards or audit procedures. Many of the proposed corporate governance changes involve improving board practices which provide us with the incentive to examine the disclosures in annual reports relating to the Board of Directors. Considerable at- tention has been paid to the issue of corporate governance1in the popu- lar business press. Cover stories and feature articles have often focused on the roles and responsibilities of boards of directors (e.g. Reingold, 1999;
Brooker, 2002; Useem, 2002). For example, on April 1, 2003, Toronto’s Globe and Mail newspaper devoted a full section to the topic, filled with pronouncements from high-profile corporate directors and quotes from would-be governance gurus. The section was sponsored by large advertise- ments from consulting firms hoping to cash in on the ‘‘corporate governance crisis.’’
In addition to such press coverage, corporate governance issues have received attention from several high-profile commissions, in- cluding the Treadway Commission of 1987 in the U.S., the Macdonald Commission of 1988 in Canada, and the Cadbury Commission of 1992 in the U.K. These reports, following earlier scandals, focused on the finan- cial reporting and internal controls aspects of corporate governance more than the practices of the Board of Directors. In Canada, the Toronto Stock Exchange (TSE – now known as TSX) has joined the debate by striking its own commissions, resulting in the Dey report of 1994, entitled Where were the directors?, and a follow-up report in 1999,Five Years to the Dey.
These TSE reports have recommended against the regulation of corporate governance practices, and suggest instead that governance is best improved through voluntary adherence to ‘‘guidelines.’’ At least one academic study (Bujaki & McConomy, 2002) has looked directly at the TSE guidelines and measured the rate of compliance.
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In Canada, the issue of corporate governance has crystallized around the TSE guidelines that were approved in 1994, and whether or not they are sufficient to correct perceived corporate governance problems and avoid the imposition of strict government regulations. A TSX-appointed committee subsequently recommended updates to these guidelines in 2001. However, these were not officially implemented because the Ontario Securities Com- mission (OSC) began a broader review of governance standards. In January 2004, the OSC announced 18 new corporate governance standards for the boards of publicly traded companies to replace the TSE guidelines. These guidelines are influenced by the Sarbanes–Oxley Act (SOX), enacted in the U.S. in July 2002, and incorporate a number of the rules introduced by the New York Stock Exchange. Such regulatory changes in the U.S. are of great interest to Canadian companies. Canadian regulatory policies in accounting and corporate governance often closely follow U.S. policies, at least in the popular mind (e.g. Kazanjian, 2002). In addition, U.S. regulations directly affect Canadian public companies that are cross-listed on U.S. exchanges.
Despite these new legislative initiatives, most aspects of corporate gov- ernance remain free from strict regulation in Canada. The existing TSX guidelines and the proposed OSC guidelines remain voluntary, meaning companies can choose whether or not to comply. As one lawyer and cor- porate governance expert says: this is the ‘‘Canadian wayyto move forward with recommended best practices coupled with a disclosure requirement’’
(Hansell, 2004). However, in the absence of formal regulatory and mon- itoring mechanisms for corporate governance, neither the TSX nor any other audience can really know the extent of a company’s compliance with voluntary guidelines. The problem stems from the unobservability of board practices and the problems of interpreting the board disclosures. Corporate boards of directors meet behind closed doors. Therefore, it is usually im- possible to observe board behaviours and practices directly (Leblanc, 2001).
As Leighton and Thain (1997, p. xv) state, ‘‘ythe board of directors re- mains a kind of ‘black box,’ whose internal workings can only be surmised from public information about decisions announced and actions taken.’’
While we agree that it would be useful to be able to ‘‘surmise’’ the internal workings of a board from public information sources, we suggest that such sources are not unproblematic. Most information about what goes on inside the boards of public companies comes from the disclosures made by those companies.2While the 1999 TSE report says that ‘‘the TSE intends to pre- scribe a standard table format for annual corporate governance reporting’’
(p. b) to facilitate comparing company compliance with the guidelines, to date such a table has not consistently been included in Canadian annual
reports. And even with the availability of standard reporting formats, the choice to disclose compliance would remain as voluntary as the compliance itself.
We attempt to assess and understand the relationship between corporate governance disclosures and corporate governance regulations. Looking at disclosures contained in the annual reports and management proxy circulars of Canada’s largest public companies, we seek to develop a descriptive the- ory of how boards of directors come to disclose their corporate governance practices. We also ask whether written disclosures can really help a financial statement user (such as a shareholder) assess the quality of corporate gov- ernance practices of that particular company. Our analysis focuses on two key coordinates of corporate governance,accountability, andindependence.
By these terms, we mean the accountability of the board of directors to shareholders and the independence of the board from management. We develop our rationale for selecting these coordinates in our theoretical framing section.
Our analysis draws upon both disclosure theory and discourse analysis.
Disclosure theory suggests that statements by companies result from com- plex processes that mask the actual corporate attributes or actions being disclosed (Gibbins, Richardson, & Waterhouse, 1990). Discourse analysis recognizes that textual sources, such as annual reports, buffer the author from the reader, and in the context of disclosure serve to decouple a cor- poration’s actions from its public image (Neu, Warsame, & Pedwell, 1998).
We find that voluntary disclosures about compliance with voluntary guidelines are weak mechanisms for ensuring good corporate governance.
Our results highlight the sometimes tenuous connection between disclosure statements and the actual responsibilities and roles and practices that the statements purport to represent. We are hopeful that by helping to analyse corporate governance disclosure, we contribute toward the ultimate goal of understanding and improving corporate governance itself. Our results help to understand how corporate governance disclosure arises and changes, how it is related to underlying governance practices, and how it is related to the emergence of related regulations. Without such an understanding, one can- not evaluate the claim made by the TSX that guidelines and voluntary disclosure will not only lead to better corporate governance, but will do so more effectively than regulations.
In the next section of the paper, we explain our theoretical framework and show how it links with prior research. We then introduce our coor- dinates of analysis – accountability to shareholders and independence from management. This is followed by a description of our data sources and DUNCAN GREEN AND CAMERON GRAHAM 170
methodology, and then by our analysis of the corporate governance dis- closures for fiscal years 2000 and 2002. In the penultimate section we discuss the implications of our analysis and consider possible directions for future research. Finally, we offer some conclusions to our research.