Financial Risk Manager Part 1
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Muhammad Ismail, a research analyst, has recently learned in a seminar on the quality of research report writing that the firm's corporate governance is as important as the valuation of the firm's assets. He has noted the following points regarding the implication of good corporate governance. Which of them are not considered best practices of corporate governance?
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A
The board of directors being comprised of a majority of independent members is indeed a best practice in corporate governance. Independent directors are not involved in the day-to-day operations of the company and can therefore provide unbiased oversight and decision-making.
B
Providing training to a director from outside the industry before they join the board aligns with good corporate governance practices. This ensures that all board members have an understanding of the industry, which enables them to make informed decisions for the company.
C
Considering the interests of all stakeholders, including debtholders, while making decisions is also a best practice in corporate governance. This approach ensures that decisions are made with consideration for their impact on all parties involved with or affected by the company's operations.
D
The CEO of the firm must also be the chairman of the board of directors in order to bring consistency in the board decisions.
Explanation:
The correct answer is D.
The CEO of the firm must not also be the chairman of the board of directors. This is because having the same person occupy both positions can lead to a lack of objectivity and independence in decision-making. The roles of the CEO and the chairman of the board are distinct and should be occupied by different individuals to ensure checks and balances.
- The CEO is responsible for the day-to-day management of the company.
- The Chairman of the board is responsible for overseeing the company's overall strategy and ensuring that the interests of shareholders are protected.
If the same person holds both positions, it can lead to a concentration of power and a potential conflict of interest, as the person may prioritize their own interests over those of the shareholders. Therefore, it is not considered a best practice in corporate governance for the CEO to also be the chairman of the board of directors.
Why the other options are incorrect:
- Choice A is incorrect. The board of directors being comprised of a majority of independent members is indeed a best practice in corporate governance. Independent directors are not involved in the day-to-day operations of the company and can therefore provide unbiased oversight and decision-making.
- Choice B is incorrect. Providing training to a director from outside the industry before they join the board aligns with good corporate governance practices. This ensures that all board members have an understanding of the industry, which enables them to make informed decisions for the company.
- Choice C is incorrect. Considering the interests of all stakeholders, including debtholders, while making decisions is also a best practice in corporate governance. This approach ensures that decisions are made with consideration for their impact on all parties involved with or affected by the company's operations.
Things to Remember
- D. The CEO of the firm must also be the chairman of the board of directors in order to bring consistency in the board decisions. → False.
- Separating the roles of CEO and Chairman of the board is a practice designed to prevent conflicts of interest and promote independent board oversight.
- The division ensures checks and balances within the company's governance structure, enhancing impartial decision-making.
- This separation is considered a best practice in corporate governance, particularly in large, publicly-traded companies.
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