CORPORATE GOVERNANCE MODEL IN UKRAINE AFTER THE GLOBAL FINANCIAL CRISIS

Page created by Francisco Powell
 
CONTINUE READING
CORPORATE GOVERNANCE MODEL IN UKRAINE AFTER THE
                   GLOBAL FINANCIAL CRISIS
                                                                                          Olga NOSOVA

   The consequences of global financial crisis are resulting in some financial institutions
   bankruptcy, the bailout of banks by national governments, and downturns in stock markets
   around the world. The corporate governance analysis of various theories suggests two
   main approaches: the definition through the companies’ governance system, and the
   determination of the allocation of value added among stockholders. The rest includes the
   adoption of the international standards of corporate governance system all over the world.

   The article attempts to establish a conceptual framework for the study of corporate
   governance by employing the agency theory, the rational choice institutionalism, and
   enforcement theory. One group of scientists emphasizes the regulatory role of corporations
   and governance system, and defines corporate governance system as the whole set of
   regulatory, market stakeholder and internal governance. Another group of scientists
   studies the degree to which shareholders influence and share in short- and long-term
   corporate value creation, and defines the goal of economic reform in transition and,
   largely, its pace.

   The purpose of the article is to examine whether there is a corporate governance model
   that could minimize the negative effects of conflicts, align of managers’ behavior with
   stockholders, and provide stock markets development. The analysis of numerous studies
   helps to clarify the basic issues including objectives, interests, methods of achievement,
   and benefits of managerial and stockholder conflicts. The corporate sector development
   demonstrates the use of mixed model in Ukraine, based partly on the application of the
   principals of American, and German models of corporate governance.

   The causes of corporate governance conflicts consider in Ukraine. The application of the
   economic and legal mechanisms for corporate conflicts elimination is proposed. Specific
   policy proposals designed to achieve the goal to separate regulators from company
   management and owners. Governance must clearly define the functions and relationships
   of the various parties, and separate oversight from operational and financial management.
   The public accountant’s objectivity can be introduced in Ukraine through creation of
   institutional structures that define and require regulation, records, and audit. In the new
   context, auditors will be private contractors serving as regulators, and they will work for
   boards of directors. Management is not involved.

   The article analyses the measures that have been taken to create an effective corporate
   governance model in Ukraine. The international accounting standards application, based
   on American and European accounting standards in corporate governance, will be directed
   to create mechanism for disclosures and frauds preventing in all companies. The national
   accounting agencies foundation in East European countries, including Ukraine will
   provide the adoption of international accounting
   standards at the country’s level.                        OLGA NOSOVA*
                                                                   Email: nosovaov@yahoo.com
                                                                   *Department of Economics and
   Keywords: Corporate governance, corporate conflicts,            Finance, Kharkov National University
   managers, stockholders, international accounting                of Internal Affairs, Ukraine.
   standards.
                                      INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                  Vol. 03/July 2015
1. Introduction                                     the dependence with the large size of the
                                                    country’s stock market. The weak corporate
The global financial and economic crisis in         governance leads to higher costs of capital. In
Eastern Europe is resulting in some financial       case of better corporate governance there is
institutions bankruptcy, the bailout of banks by    higher returns on assets.
national governments, and downturns in stock
markets around the world. The corporate             American and Western European corporate
governance analysis of various theories suggests    governance systems create sound information
two main approaches: the definition through the     and focus executive and managerial attention on
companies’ governance system, and the               corporate performance. After the high-profile
determination of the allocation of value added      collapse of a number of large corporations in the
among stockholders. The rest includes the           past two decades, several of which involved
adoption of the international standards of          accounting fraud, there has been a renewed
corporate governance system all over the world.     public interest in how modern corporations
                                                    practice governance, particularly regarding
Scientists focus their attention to shareholders    accounting. The positive features of these
(owners) and stockholders’ interests, models of     models implementation to East European
inside and outside board committee, and a           countries would reduce the insider effect and
relationship between governance practices, and      increase      the     fairness,    transparency,
corporate or organizational performance. Some       accountability of value distribution, and raise
authors emphasize the discussed issue which is      corporate control in the company. The scientists
related to the interdependence of global            propose to learn how to respect shareholders
financial crisis and efficiency of corporate        rights and exercise those rights in the
governance system. The basic approaches deal        corporation.
with an absence of correlation between
corporate governance and financial crisis, an
effective implementation of existing corporate
governance arrangements and principles.             2. Literature Review

In a broad sense, “corporate governance system”     The formation of corporate governance system
refers to the whole set of regulatory, market       is the crucial question for all governments in
stakeholder and internal governance. There has      transition. The privatization of large and small
been estimated no significant correlation           enterprises was typical feature of command
between corporate governance and financial          system transformation. The problem of
infrastructure.                                     redistribution of property rights between insiders
                                                    and outsiders, and external investors’ access to
The spread of globalization raises the issue for    privatized company’s shares is vital item of
good corporate governance performance. It set       reforms. The chief goal of current corporate
the number of questions towards global and          governance is to eliminate contradictions among
country system of monitoring, accountability        shareholders and management.
improvement, and new system establishment.
Good corporate governance is associated with        One group of scientists emphasizes the
reduced risk for financial crises. The better       regulatory role of corporations and governance
quality of shareholder protection demonstrates      system. R. Monks, N. Minow (2011) define

                                            INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                        Vol. 03/July 2015
corporate governance system as the whole set of       stakeholders.”    The authors prove content
regulatory, market stakeholder and internal           emphasizes the social, legal, political, and
governance. Following this approach scientists        ethical responsibilities of a business to both
Z. Bodie, A. Kane, A. Marcus (2011) consider          external and internal stakeholder groups, and
that the corporate governance is “the set of rules    balance strong coverage of ethics and the
and procedures that ensure that managers do           stakeholder model with a new focus on one of
indeed employ the principles of value-based           business’ most recent, urgent mandates:
management, to make sure that the key                 sustainability.
shareholder objective (wealth maximization) is
implemented.” The agency cost approach refers         Another group of scientists studies the degree to
to instances when an agent’s behavior has             which shareholders influence and share in short-
deviated from principal’s interest. There are         and long-term corporate value creation, and
various conflicts of interests that can impact        defines the goal of economic reform in transition
manager’s decision making process to act in           and, largely, its pace. Shareholder access to such
shareholder’s interests. Management can buy           created value is determined by the degree to
other companies to expand power. They can             which key corporate “insiders”, especially
manipulate financial figures to optimize bonuses      executives and management, can claim a
and stock-price-related options.                      disproportionate share of corporate value (the
                                                      “insider effect).”
M. Ehrhardt and E. Brigham (2011) point out
the interdependence of the sub-prime mortgage         L. Bebchuk, A. Cohen & A. Ferrell (2009)
market to the financial and global economic           investigate which provisions, among a set of
crisis, and analyze the effect of profit              twenty-four governance provisions followed by
maximization mechanism for a firm's value.            the Investor Responsibility Research Center
From the financial point of view the authors          (IRRC), are correlated with firm value and
point out the basic features of corporate             stockholder returns. The authors put forward an
governance that include the set of laws, rules,       entrenchment index based on six provisions -
and procedures that influence a company’s             four constitutional provisions that prevent a
operations, and the decisions made by its             majority of shareholders from having their way
managers. A. Carroll and A. Buchholtz (2009)          (staggered boards, limits to shareholder bylaw
give the overview how effective business              amendments, supermajority requirements for
decision makers balance, and protect the              mergers, and supermajority requirements for
interests of various stakeholders, including          charter amendments), and two takeover
investors, employees, the community, and the          readiness provisions that boards put in place to
environment - particularly as business recovers       be ready for a hostile takeover (poison pills and
from a perilous financial period. They give a         golden parachutes). Bebchuk, L., Cohen, A. &
broad definition of corporate governance              A. Ferrell find that increases in the level of this
including “…the method by which a firm is             index are monotonically associated with
being governed, directed, administered, or            economically significant reductions in firm
controlled … is concerned with the relative           valuation, as measured by Tobin's Q, and
roles, rights, and accountability of such             present suggestive evidence that the entrenching
stakeholder groups as owners, boards of               provisions cause lower firm valuation.
directors, managers, employees, and other

                                              INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                          Vol. 03/July 2015
D. Lacoste, S. Lavigne, E. Rigamonti (2010)           Swedish counterparts is limited to 1 % of
consider the relationship between ownership           company value.
structure and corporate diversification strategy.
Their research shows an increase in managerial        The managers and stockholders interests conflict
ownership, far from leading to alignment, leads       is based on the differences of objectives,
to managerial behaviour that goes against the         interests, methods of achievement, and benefits.
interests of shareholders and more precisely to       Managers are concentrated on personal
unrelated diversification strategies.                 compensation, their own stability and stability of
                                                      employment. They try to minimize their own
The analysis of the publications confirms that        risk, to expand their personal power, to receive
the definition, value creation, and stock             potential and financial advancement, to compete
distribution create incentives for company            between managers, and to separate between
development. It is important to point out the         managers personal, professional. Stockholders
basic elements of corporate governance system         are oriented on stable return, profit
which include Board of directors, charter             maximization, share price appreciation, and
provisions affecting takeovers, compensation          company stability. They wish to reduce risk, to
plans, capital structure choices, and internal        provide consistency policy of the flow of
accounting control systems. The function of           benefits in the firm, to increase share
Board of Directors is directed to provide control     appropriation and dividends. In order to
of management.                                        minimize or to avoid the managers and
                                                      shareholders interests conflict there is a need to
Profit sharing is considered one of the important     create management criteria which effect
formal measure of income increase. The profit         stockholders.
share is distributed to managers and employees
which provide incentives to shareholders. In          The      quality assessment      of    corporate
case of shares distribution within the company        management could be provided from the side of
shareholders get benefits to ensure the company       requirements and objectives for work of
development. The forms of stock distribution          management institutions of the company,
and stock options could be applied for                procedures of decision making or reporting
enhancing of profit increase. In case of using        system. The effective corporate management
stock options shareholder can buy stocks in           supposes instrument of trust creation. It helps
some day on specified date. Profitability             company to get resources for sucessful strategy
increase is the key issue for shareholders. It        implementation, to provide a stable long-term
makes it applicable for company workers               business development, and reduce risks
interests. Stock value is connected with resouces     connected with conflicts of interests or external
belonging to shareholders. The higher rate of         threats.
return of the company is, the more it will have a
stock. Empirical studies found that countries
with controlling shareholder systems cause
                                                      3. Hypothesis and Research Design
different levels of private benefit extraction. As
instance, Mexican controlling shareholders are        The corporate sector development demonstrates
said to expropriate more than a third of the value    the use of mixed model in Ukraine, based partly
of the company, while expropriation by their          on the principals of American and German

                                              INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                          Vol. 03/July 2015
models of corporate governance on the                 causes the appearance of the informal forms of
application. The corporate governance model is        relations among companies, banks, and
based on the diverse capital structure in Ukraine.    representatives of the state authorities. The
It defines the large variety of shareholders,         dissemination of the informal rules for
including state, institutional investors and          companies’ behavior results in the disclosures
individual     stockholders.     The     corporate    and frauds appearance in corporate sector in
governance structure specifies the distribution of    Ukraine. The absence of the long-term corporate
rights and responsibilities among in the              control policy summons an ineffective system of
corporation. The board of directors, managers,        corporate governance formation. The existence
shareholders and other stockholders take part in      of weak-enforcement of company’s law gives an
the elaboration rules and procedures for making       opportunity for managers to manipulate the
decisions. Good corporate governance is               insider information for personal interests, and as
associated with sustainable company’s value           a result of it to gain an additional profit.
creation in a global scale. Where some of which       Managers block the access of domestic and
will flow to investors with reduced risk of global    foreign investors to companies’ shareholding
financial crises. The better the quality of           process. The weak enforcement mechanism in
shareholder protection means the larger the           Ukraine enhances the legal use of corporate
country’s stock market. Weak corporate                rules, and new laws on bankruptcy and foreign
governance leads to higher costs of capital and       investment.
in case of better corporate governance is higher
returns on assets.                                    The motivation mechanism for shareholders
                                                      dividends is not created in Ukraine. An absence
The panel data model from 2003 to 2005 on             of dividends return mechanism and an
ownership change and privatization for 27             undeveloped stock market do not stimulate
Ukrainian regions, including 24 oblasts, the          shareholders and managers interests for profit
Autonomous Republic of Crimea and the two             maximization. Managers do not have incentives
cities Kyiv and Sevastopol demonstrates that the      to take care for the dispersed shareholders’
pace of privatization in the industrial regions       interests. The significant role belongs to
with high urbanization is higher in comparison        supervisors who set targets for the risk exposure
to agrarian regions in Ukraine model (Nosova,         of public funds, explain any deviations from the
Bartels, 2006). For example, the share of             targets, and give a corrective actions plan.
privatized state property is correlated with the
size of the regions, measured by urban                An absence of legal mechanism for bank access
population. Wages are estimated higher in             to company’s shareholding, weak stock market
regions where more public companies were              development,         undeveloped          financial
privatized. It confirms that the privatization of     infrastructure, the lack of transparency, low
public owned companies may have a positive            control level of managers are considered the
effect on wages.                                      typical features of modern corporate governance
                                                      model in Ukraine. The short-term shareholders’
The definition of value added through the             interests predominate in decision making
companies’ governance system and allocation of        process for company development. The analysis
value added among stockholders influence value        of data of the table 1 depicts that oligarchs have
creation within the company and their                 the biggest number of majority controlled stocks
disposable. The lack of the formal institutions       and the lowest average corporate governance

                                              INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                          Vol. 03/July 2015
score of any majority group. They control             Group’s IPO of Ferrexpo on the main market of
supervisory boards & audit commissions,               the London Stock Exchange in June 2007
executive   management        and    corporate        remains the largest placement by a Ukrainian
communications professionals. Finance & Credit        company.
                  Table 1: Majority ownership structure of Ukrainian equity market
  Ownership        Number       of   majority % majority controlled Average             corporate
  type             controlled stocks             of total              governance rating
  Management       24                            21,1 %                6,7
  TNC              9                             7,9 %                 6,4
  Other            11                            9,6 %                 5,5
  State            19                            16,7 %                4,7
  Oligarch         51                            44,7 %                4,2
  All              114                           100 %                 5,2
  Note: This chat covers the 114 stocks that received corporate governance ratings in this report.
   Source: Corporate Governance in Ukraine. Concorde Capital research. USAID, October 2011.

The concentration of ownership in the hands of        during the period from 2005 to 2013. There are
financial industrial groups, diffusion of             registered 12965 joint stock companies of
ownership among shareholders, the prevalence          different ownership forms in 2013 in Ukraine.
of closed joint-stock companies, and the              They include 2366 opened joint stock
removal of the company control to management          companies, 5433 closed joint stock companies.
are the distinctive features of the corporate         There are 3067 joint stock companies which do
governance model in Ukraine. The data from the        not conclude the procedure of re-registering the
table 1 show the tendency of predominance of          ownership form after adoption the new Joint
closed joint-stock companies in comparison with       Stock Companies Law of 2008.
the opened joint-stock companies in Ukraine

                  Table 2: The dynamics of joint-stock companies in the Ukraine
    Types of joint -stock companies 2005        2006    2007     2008     2009 2010 2013
    Joint-stock company               35 215 34 942 35 134 35 016 31100 30169 12965
    Opened joint -stock company       12 045 12 089 12 171 12 137 10058 9769 2366
    Closed joint- stock companies     22 228 22 100 22 255 22 194 20052 20400 5433
Source: Unified state register of enterprises and organizations of Ukraine: Statistical Bulletin. – К.:
State Statistics Committee of Ukraine, 2013.

Corporate governance is the system of behavior        managerial and owners functions. They obtain
rules used to direct and control stock company.       free access to internal company’s information
The dispersed property disposable model is one        and maximize benefits. Managers succeed to set
of the typical forms of corporate governance          the inside control over company, manage the
system in Ukraine. Management provides                company and withdraw some part of company’s
opportunistic behavior towards shareholders.          assets. The contrary of short-term managerial
Managers combine at the simultaneously                interests and long-term company’ performance

                                              INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                          Vol. 03/July 2015
causes the conflict among the insiders and          availability or unreliability of relevant data is the
outside company’s owners. It results in the         most key question of creation transparency.
destruction of company’s balance structure and
bankruptcy (Nosova, Bartels, 2006). The typical     The degree of management autonomy depends
features of corporate governance model in           on their role in decision making process, and
Ukraine are the following.                          manager’s responsibilities within the company.
                                                    Better operational performance leads to better
The absence of shares’ income return does not       allocation of resources and better management
stimulate shareholders and managers interests to    in the company. The good corporate governance
increase profit. Managers do not have incentives    would lead to the wealth creation, and results in
to take care for the dispersed shareholders’        profit maximization generated by the company.
interests. The concentration of ownership in the    The comparison of managers and shareholders
hands of financial industrial groups, the           objectives, interests, benefits could be seen in
prevalence of closed joint-stock companies, and     the table 2. Shareholders usually concede most
the removal of the company control to               of their control rights to managers.
management, the absence of dividend payments        Asymmetrical access to company information
are the characteristics of “insider corporate       enforces management to use its monopoly - the
governance model” in Ukraine. The active            owner of the company's internal information,
monitoring of executive performance is              and manipulate it for getting profit.

       Table 3: The comparison of managers and shareholders objectives, interests, benefits
   № Features                    Managers                             Stockholders
                                                                      Stable return, share price
                                 Personal compensation,
   1     Objective                                                    appreciation, company
                                 stability of employment.
                                                                      stability
                              Company stability, personal             Profit maximization,
   2     Interests
                              stability.                              dividends.
   3     Benefits             Wage.                                   Share price appreciation.
                              Management focuses its                  Owners invest part of capital
   4     Management decisions activities in one company.              in the company. Diversify
                              Minimize risks.                         risks.
                                                                      Control of the company is
                                 Partial control of the company
                                                                      small, do not take
   5     Company control         and participation in profit
                                                                      responsibility for results of
                                 distribution.
                                                                      management.

Managers act through limiting interests of          provided for bonuses optimization and stock-
shareholders. Management can engage in self-        price benefits accumulation. The use of shadow
dealing, entering transactions for personal         schemes of formation and removal of funds
enrichment. They can purchase other companies       from the investment process help to raise
to expand individual power instead of               significant funds from the turnover. The
maximization of value of company stock. The         managerial property concentration results in the
manipulation of financial indices can be            conflict of proprietors’ interests. It leads to
                                            INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                        Vol. 03/July 2015
property    redistribution  among      various        Companies, and the State Securities and Stock
companies’ participants. There is a lack of           Market Commission (SSMC). These institutions
enforcement mechanism for boosting efficiency         with the authority provide development of the
through     management     incentives.    The         Corporate Governance Code. The Civil Code
government influences managers’ and directors’        introduces a rule targeting a conflict of interest
appointment. Empirical surveys of companies           transaction between the company and
suggest that chief executives do not have             shareholder in 2004. The shareholder does not
stimulus to maximize long-term wealth of the          have a right to vote at the general meeting on
company.                                              decisions regarding a transaction or dispute
                                                      between the company and shareholder. In the
Uncertainty and high investment risk                  Commercial Code there are introduced special
demonstrate the choice of western companies to        rules governing liability of controlling
list their shares on a stock market with strict       shareholders to the company and its creditors. In
corporate governance rules. Decrease and              case the company the company enters into a
elimination of managers impact on decision            transaction on unfavorable terms through the
making process of shareholders’ are considered        fault of its controlling shareholder, such
an important issue in creating good corporate         shareholder may be liable for the resulting
governance system. The corporate governance           losses. A new the JSC Law (The JSC Law)
structure is divided on three stages: Supervision     came into force in October 2008 and fully
Council, general meeting of stockholders,             applies starting May 2011. The adoption of the
auditing committee in Ukraine. The corporate          JSC Law is a significant step towards the
governance mechanism is based on the election         establishment of a comprehensive corporate
and the appointment of all bodies, achieving the      governance regime. Joint Stock Companies Act,
managers’ and stockholders’ interests balance,        2008 Chapters VII-X define the feature of
community interests’ satisfaction. The concept        corporate governance in Ukraine. Section
of corporate governance is proposed in the            “General Meeting of JSC” defines the
Decree “On the Measures to Corporate                  competence, procedure of general shareholder’s
Governance Development in Joint Stock                 meeting, voting procedure, etc. The section
Companies” in Ukraine in 2002. The Decree             Company’s Executive Body includes the basic
provides on mandatory notification of an              principles of the executive body activities.
intention to acquire a majority shareholding, a       Evolution from formal supervisory board in
special procedure for a company to enter into         Ukraine to a new tool for internal management
contracts that may significantly affect its           of the company. JSC Law enhances protection
financial performance, administrative liability of    of rights and interests of shareholders, creating
a company’s officers for violation of                 new impediments to raider attacks, and solving
shareholder rights, and participation of              problems and curing irregularities arising in the
shareholders in bankruptcy proceedings.               corporate governance area upon implementation
Shareholder rights violations are most frequently     of the JSC Law. The Law “On Accounting and
connected with insufficient access to corporate       Financial Reporting in Ukraine” (1999)
information by investors. The Decree                  amended in 2011.The basic principle -
specifically addresses to disclosure and              prevalence of substance over form.
transparency issues. The Decree envisages the
establishment of a Coordination Council on            Shareholders delegate administrative rights and
Corporate Governance Issues in Joint Stock            responsibilities to managers for organizing intra-
                                              INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                          Vol. 03/July 2015
corporate activity. The ownership concentrates         constraints. It leads to the manipulation of
in the closed joint-stock companies. The state         companies’ assets through self-enrichment of
retains a controlling stake for most of the large      intermediary structures. Poor development of
companies. The transition to the "insider"             the stock market limits and prevents the normal
management model is accompanied with a                 organization of corporate governance system in
concentration of ownership in the hands of             Ukraine.
managers. There is an absence of institutional

                           Table 4: The biggest investors in the Ukraine
№ Investor                                Mln. USD The investment sphere
1 Maculan         International    Gmb 260            Production of housing
  (Austria)
2 Pepsi Co (USA)                          250              Production of soft drinks
3 Country     Squire    International     220              Construction of hotels
  (Canada)
4 Daewoo Monor                            150              DAEWOO AUTO-ZAS
6                                         35               Modernization of cigarette production
  BAT Industries Ltd (Great Britain)
7 Tambrans Inc. (USA)                     20               Production hygiene
8 Otis Elevator Inc. (USA)                17               The production and maintenance of elevators

Ease of doing business ranking in 2015                ease of doing business in 2014 and 2015
demonstrates that Ukraine gets 96 place with          demonstrates the improvement in starting
score 61.52 in comparison with Poland which is        business, registering property, and paying taxes
ranked 32 with score 73.56. The data analysis of      in Ukraine (Table 5).

                       Table 5: The ease of doing business in the Ukraine
  Rank                                Doing      Business- Doing Business- Change                              in
                                      2015 Ranks             2014 Ranks    Ranks
  Ease of doing business                       76                   69          -7

  Dealing with construction permits                 70                         68                        -2
  Getting electricity                              185                        182                        -3
  Registering property                              59                         88                        29

  Getting credit                                17                 14         -3
  Protecting minority investors                109                107         -2
  Paying taxes                                 108                157         49
  Trading across borders                        43                 44          1
  Enforcing contracts                           70                           - 29
  Resolving insolvency                         142                141          1
Source: Doing Business 2015. Going Beyond Efficiency. Economy Profile 2015. Ukraine. The
International Bank for Reconstruction and Development/ The World Bank.

                                               INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                           Vol. 03/July 2015
In the “Top – 500 best companies» Ukrainian           Ukraine. The typical forms of corporate
companies achieved a total revenue of EUR             conflicts combine the reorganization of washing
87.2 million in 2013. Ukraine ranked second in        up assets by company, and its property
terms of companies’ revenue growth.                   alienation to fictitious proprietors. The
                                                      stockholders rights violation suggests an
Ukrainian companies included in the rating            absence of personal timely information of vote
posted an increase in their revenues, thus            registered shares. The lack of company
demonstrating       higher   growth     dynamics      transparency causes the additional risks. The
compared to the region as a whole. The average        government blocks the decision making process
increase in the income of all included in the Top     of additional shares emission. The problem of
500 at year-end companies amounted 3.26%.             corporate rights determination, corporate
The Ukrainian energy company DTEK entered             governance law adoption, and stable legal
the first time in the Top 10 companies. It had a      system formation are the most discussed
125.3% increase in revenue, which moved the           questions in the national legislation. The precise
company all the way from 32nd to 7th place. 39        definition of the list of companies and
out of 51 Ukrainian companies included in the         transparent auction principals will be directed to
rating posted an increase in their revenues. They     correct the unfair results of mass privatization in
demonstrated       higher    growth     dynamics      the Ukraine. Investment companies experts
compared to the region as a whole. The average        estimate index of mergers and acquisitions
increase in income of all companies included in       (M&A) ranged from $3billion to $7.5 billion in
the Top 500 at year-end amounted to 3.26%.            2008-2010 in Ukraine. According to the "Anti-
                                                      Raider Union of Entrepreneurs of Ukraine”
The corporatization process is characterized by       there are about 40-50 specialized raider groups
excretion of shares of high real value from           in the country. The average profit raider is
financial turnover, and poor dividends’               estimated 1000%.
mechanism. There is absence of shareholders’
confidence in future company development.             The current corporate governance model should
Management experts hire auditors. One person          be based on sufficient conditions of enterprise
(stockholder) combines posts of the company           development, internal governance structures
management and membership on the board of             formation,     and    balance      of    different
directors. This leads to an increase of agency        shareholders’ interests. The effective corporate
costs of corporation. All of the above mentioned      governance model considers the management
forms are the basis for abuses in the corporate       functions division, the independence and
sector, and the excretion of the shares from          responsibilities of the Board of Directors,
turnover of securities.                               defense of shareholders rights and interests.
                                                      Transparency and transferability information,
The corporate governance problem includes the         high corporate culture in the society leads to the
lack of protection mechanism for stockholders         good corporate governance system. The
rights, the insufficient information of stock         effectiveness of corporate governance system
company activity, non-fulfillment stockholders        depends on the formation of strong
general meeting decisions in the Ukraine.             shareholders’ interests in future company’s
Corporate conflicts demonstrate an absence of         performance, and will lead to to company’s
administrative and criminal responsibility. The       profit maximization and in total benefits of
number of corporate conflicts is still high in the    national economy.
                                              INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                          Vol. 03/July 2015
4. Conflict of managerial and stockholder             management that explains their desire to reduce
interests in Ukraine                                  up to minimum a probability of adverse
The corporate conflict of interest may take place     consequences losses due to world market
between the company and its stockholder,              conditions change. They are guided via a choice
between the stockholder and the hired                 of smaller investment horizon of the company’s
management, or between the company’s                  development. It is dealt with the restriction of
shareholders. The objective basis for conflicts       the long-term company’s strategy development
are the contradiction of the definitions of           definition. Managers try to decrease a
ownership as the share, determining ownership         probability of some inefficient decisions
of the company, and share, defining as                implementation. Management activity is
document, settling of stockholder rights. The         directed on reduction of probability risk takers
basic problem deals with contradiction of             strategy. The following policy is directed to
ownership and management functions of the             avoid political, investment, financial, and also
corporation. Passivity of shareholders supposes       random factors: uncertainty and unpredictability
an absence of the management motivation               in the world financial markets. Managers are not
which is explained by the high capital                interested in an effective utilization of the
dispersion among the owners. There is low             company’s assets. An absence of personal
investment attractiveness for small investors.        managers’ activity stimulus is a favorable basis
The contradiction among the different groups of       for agency problems emergence. The
investors, the executive and supervisory board        management activity does not aspire to achieve
hampers to improve an efficiency of corporate         profit maximization of decision-making process
governance.                                           within the company. Jensen, Mecking (1976)
                                                      conduct the analysis of the U.S. and UK
Shareholder interests are served when                 corporate sector development. They argue that
management is highly motivated to strive for          in case of ownership diffusion, as is typical for
higher productivity and better performance. It        U.S. and UK corporations, agency problems
results in the company’s value added increment.       stem from the conflicts of interests between
Conflicts      between       management        and    outside shareholders and managers who own an
shareholders are arisen and resolved constantly       insignificant amount of equity in the firm. In
in the company. The managers’ withdrawal of a         case of one owner (or a few owners acting
part of company’ resources for own needs is           together) the problem of monitor and discipline
considered one of the most important conflicts.       management shifts to better company’s
It decreases significantly wealth of the              performance under decreasing of information
company. Rydyk (2004) emphasizes, that                asymmetries.
«activity of corporation is the catalyst of agency
conflicts. For example, as soon as in structure of    The state does not play an important role in
the capital of corporation there is a debt loading    company’s monitoring or bank’s reorganization.
then there is an agency conflict between              Uncertainty and high investment risk
shareholders and bond’s holders». The                 demonstrate the choice of western companies to
managers’ activity contains an opportunity of         list their shares on a stock market with strict
agency problems emergence. They are                   corporate governance rules. Legal definition,
connected to a possibility of majority                legality observances are considered to form a
unpredictable situations existence. Managers          guarantee basis for the property rights
make smaller efforts for the company’s                protection,      a    financial    transparency
                                              INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                          Vol. 03/July 2015
maintenance,     stability,    and    economic        The distinctive features of corporate conflicts
development predictability in a society. The          are their subjective components. It grounds for
decrease managers ‘ control in the company,           their appearance as specific settlement
shareholders’ access to decision making process       procedures. The corporate conflicts are the way
relate to an important issue in creating good         to secure the operation of the company in the
corporate governance system.                          interests of all its owners (participants). The aim
                                                      of corporate relations is to ensure a balance of
Classification of conflicts by the objectives         interests. Different factors may serve ground for
pursued by the attacker is divided on the             the corporate conflicts, but for convenience the
following groups:                                     factors in general can be divided into four
1. A controlling share of conflicting investor is     groups: appearance of the interest groups of
    obtained to form horizontally or vertically       owners in the ownership structure of the
    integrated holding company;                       company; related party transactions conducted
2. Consolidation of a large share made for the        by the company; presence of the persons aimed
    purpose of speculative sale of a controlling      at using methods that are traditionally referred
    share to a strategic investor;                    as "raiding" among the owners of the company;
3. Investor takeover to take control of the           corporate restructuring or change of control
    company - the attack object;                      structure in the company.
4. The acquisition of a controlling stake to
    block a competitor (Osipenko, 2004).              The current Ukrainian legislation specifies a
                                                      number of legal mechanisms for corporate
According to the criterion of object-conflict is      conflicts prevention, and their negative effects
divided into significant minority shareholders,       to minimization. In Ukrainian legislation on
the majority shareholder; shareholders against        joint stock companies such mechanisms are
management; the conflict between the general          summarized in the following: 1) internal
meeting and the board of directors;                   corporate mechanisms for conflict resolution; 2)
contradiction between management and the              contract mechanisms; 3) judicial and non-
workforce when the latter holds a significant         judicial (alternative) mechanisms. The first
share.                                                group includes the codes of corporate
                                                      governance, the internal conflict of interest
The concept of conflict of interest is defined in     policies and specific procedures stipulated by
Ukrainian legislation. It is incorporated into the    the Law of Ukraine "On Joint Stock
laws “On the Procedure for Settlement of              Companies" (2008). The Principles of Corporate
Collective Labor Disputes (Conflicts)” and “On        Governance, approved by the decision No 571
the Procedure for Repayment of Taxpayer               of 11.12.2003 of the State Commission for
Liabilities to Budgets and State Target Funds”),      Securities and Stock Market are the basis for its
and the State Commission for Securities and           development. Prevention of corporate conflicts
Stock Market in its Principles of Corporate           is one of the objectives of such code. The code
Governance. In the Ukrainian Principles of            defines the internal procedures to identify
Corporate Governance the conflict of interest is      corporate conflict, to inform the company about,
defined exactly as "the discrepancy between the       and to resolve conflict. The law sets out special
personal interests of an officer or his/her           procedures designed to resolve the conflict of
connected persons and the professional duty to        interest between shareholders.
act in the best interests of the company."
                                              INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                          Vol. 03/July 2015
The second group explains the difference of the         5. Conclusions
buy-out agreement and shareholders’ agreement           The goal of corporate governance is to eliminate
in the Ukrainian legislation. The main                  cases when stockholders have conflicts of
difference between these agreements is the              interest with one another. The application of the
narrow scope of regulation. The buy-out                 legal mechanisms to prevent corporate conflicts
agreement indicates only the conditions and             and to minimize their negative effects will be
mechanisms of the shareholder’s withdrawal              directed to align of managers’ behavior with
from the business or of a squeeze-out,                  stockholders.
determining voluntary or mandatory buy-out, as          1. Adopt the principles of independence,
well as the existence of third parties rights in        responsibility, and transparency in corporate
connection with the buy-out. The shareholders’          management, process and records. Transition to
agreement regulates such issues as the                  a new corporate governance system, inspired by
nomination of candidates for management                 the principles of FASB, IASB and the Sarbanes-
positions, the procedures for stock disposal and        Oxley Act, will force transparency and timely
stock pledge, voting procedures, the procedures         reporting of corporate business activities. In
for dispute resolution and responsibility for           turn, these practices will enforce independence
infraction of obligations.                              and accountability in decision making and
                                                        strengthen investor confidence.
In fact, in spite of the prohibition of the             2. Separate regulators from company
Supreme Court of Ukraine and the High                   management and owners. Governance must
Commercial Court of Ukraine, the corporate              clearly define the functions and relationships of
relations in the Ukrainian companies are                the various parties, and separate oversight from
frequently regulated outside Ukraine. T.                operational and financial management.
Bondaryev, M. Malskyy (2008) support                    3. The problem of institutional rights
conclusions that the Supreme Commercial Court           establishment relates to the crucial problem for
of Ukraine has acted in unusual manner in some          investment decisions. Business environment
cases for courts in developed countries.                improvement will stimulate institutional
The third group provides mechanisms for                 development via credibility, transferability of
arbitration within national or foreign                  shareholders rights, legal mechanisms for
(international) institutions at different levels and    preventing corporate conflicts, and minimize
complexity. These include the mediation along           their negative effects. Stock market and
with the procedures that are governed by                financial institutions development will stimulate
internal conflict resolution policy of the              foreign direct investment inflow into the
company.                                                countries.
                                                        4. The effective market economy development
The legal mechanism for conflict resolution             is influenced by how the industrial policy of the
includes the list of measures to be fulfilled. The      government will attract foreign investment into
responsibility of the board provides realization        the country. The effectiveness of corporate
of structures for achievement of balance                governance system will depend on the formation
between the pressure of accountability and the          of strong shareholders’ interests in company’s
requirement of noninterference, development of          long-term value creation.
capable institutions for financing, monitoring
and controlling corporate enterprises.

                                                INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                            Vol. 03/July 2015
References:

   Bebchuk, L., Cohen, A. & A. Ferrell (2009). “What matters in corporate governance?” Journal of
    Financial Studies, Vol. 22, No.2, pp. 782-827.
   Bodie Z., Kane A. & Marcus A. (2011). Investments. 8th ed. New York, NY: McGraw-Hill
    Higher Education.
   Bondaryev T., Malskyy M. (2008). “Recent Developments concerning Dispute Resolution of
   Carroll A.B., Buchholtz A.K. (2012). Business Environment – Business and Society, Ethics and
    Stake Holder. Management. 8th ed. Mason, OH: South-Western Cengage Learning.
   Doing Business 2013. Smarter Regulations for Small and Medium-Size Enterprises. (2013).
    International Bank for Reconstruction and Development / The World Bank. 10 th edition.
   Ease of Doing Business. (2015). World Bank. International Financial Corporation. available
    online at: http://www.doingbusiness.org/data/exploreeconomies/ukraine
   Ehrhardt M. C., Brigham E.F. (2011). Financial Management: Theory and Practice. 13th ed.
    Mason, OH: South-Western Cengage Learning.
   Ehrhardt M.C., Brigham E.F. (2011). Corporate Finance. 4th ed. South-Western Cengage
    Learning.
   Jensen, M. (2010). “Value Maximization, Stakeholder Theory, and the Corporate
    Objective Function,” Journal of Applied Corporate Finance. No 1.
   Keasey, K., Thompson, S., and Wright, M. ( 2005). Corporate Governance: Accountability,
    Enterprise and International Comparisons, Wiley and Sons.
   Lacoste D., Lavigne S., Rigamonti E. (2010). “Do Monitoring and Alignment Mechanisms
    Influence Diversification Strategies? The Case of French Companies,” Management. Vol. 13, No
    5, pp. 342 - 365.
   Monks, R. and N. Minow (2011). Corporate governance and the Global Financial Crisis:
    International Perspectives. Ed. by William Sun, Jim Stewart, David Pollard. Cambridge
    University Press.
   Myers P.M., Zouaghi-Maulet N. (2011). “Crossing the Pond in Search of Better Executive
    Compensation Practices.” Corporate Governance Advisor. Business Source Premier. No19.2.,
    pp. 12-19.
   Neil B. (2013).”Top 10 Global Compliance Trends to Watch in 2013”, Compliance Week,
    January. pp. 40-41.
   Nosova O., Bartels K. (2006). “Statistical Analysis of the Corporate Governance System in the
    Ukraine: Problems and Development Perspectives.” Statistische Diskussionsbeiträge. Journal of
    Potsdam University. 2006. No 25. On joint stock companies: “The Law of Ukraine on September
    17 № 514-VI (2008)”. Bulletin of the Verkhovna Rada of Ukraine. No 50-51. -Art.384.
   Oliver, H., (1995). “Corporate Governance: Some Theory and Implications”, Economic Journal,
    Vol. 105, May, pp. 678 - 689.
   Osipenko O. (2004). Corporate Governance Institutions and Joint Stock Companies Conflicts in
    Russia. Moscow, IKF “EKMOS.”
   Shareholder Agreements in Ukraine: For Better or for Worse.” Stockholm International
    Arbitration Review. No 3.
   Shleifer A and Vishny R.W. ((1997). “A Survey of Corporate Governance”, Journal of Finance.
    Vol. LII, No 2, pp. 737 - 783.
   Wagener        H-J.     (1997).      „Privateigentum     und     Unternehmenskontrolle      in
    Transformationswirtschaften.“ FIT Viadrina.

                                            INTERNATIONAL JOURNAL OF INNOVATION AND BUSINESS STRATEGY
                                                                                        Vol. 03/July 2015
You can also read