The constant need for corporate governance

Corporate scandals—such as the recent misappropriation of funds at Siemens A.G.—are not new and neither are the measures meant to stop them.

As far back as the 1700s, greed and temptation proved too much for those who run and invest in companies. Fraud among the directors at the South Sea Company contributed to the bursting of the South Sea Bubble in the 1720s, which led to the collapse of banks and proved the ruin of many previously wealthy individuals.

But since the early heady days of capitalism, corporate governance has come a long way in protecting shareholders.

The Wall Street Crash of 1929 kicked off a big debate on the role of corporations in society. The Great Depression that followed the stock market crash on October 29, 1929, lead to the creation of the Securities and Exchange Commission and the passing of the Securities Exchange Act of 1934, which still forms the basis of U.S. corporate governance law for listed companies.

But since the 1920s, a lot has changed. The increased importance of institutional investors and pension funds in recent years heightened calls for more accountability and better internal controls among big corporations.

In the latter half of the 1990s, during the Asian financial crisis, attention fell upon the corporate governance systems of the developing world. And in the late 1990s and early 2000s corporate scandals in Europe and the United States showed that few Western companies were immune to the scrutiny of regulators and the wrath of shareholders. Enron Corp. WorldCom and Parmalat S.p.A. were just the headline grabbers, many household names have been the subject of regulatory actions and shareholder class actions as a result of corporate wrong-doing.

The end result was the Sarbanes-Oxley Act, which was passed in 2002 and is regarded as one of the most significant pieces of corporate governance legislation in the United States since the SEC was formed back in the 1930s.

Sarbanes-Oxley, which requires senior management to certify financial reports, only applies to European companies that have securities publicly traded in the United States. And so far Europe has not followed with Sarbanes-Oxley-style legislation, which many commentators consider too Draconian. They fear that similar rules in Europe could damage the economic competitiveness of the region.

But many European countries have been working to modernize corporate governance rules and the European Commission has consulted with member states over the future priorities for its action plan on company law and corporate governance.

Corporate governance remains very much a work in progress.

But the experience of Munich, Germany-based electrical engineering company, Seimens shows that rules are no substitute for good risk management. The company, which is subject to Sarbanes-Oxley, admitted that its internal controls had proved ineffective to prevent the misappropriation of funds.

Companies across Europe should continue to develop, and regularly assess, their corporate governance procedures and compliance controls to avoid the costly mistakes of companies like Siemens.

Good risk management should also help avoid unwelcome corporate governance rules from national or European legislators.