The Role of Corporate Governance Mechanism of Independent Directors Essay

The Role of Corporate Governance Mechanism of Independent Directors - Essay Example The mechanism suggests that the Board of Directors should comprise of an equal numbers of executive and non-executive (independent) directors. Executive directors are responsible for the management of the company’s operations whereas the non-executive directors, which are appointed by the shareholders, are responsible for the supervision of the executive directors’ performance as a whole. Under the framework, the independent directors are responsible for setting up board committees, which govern the performance of the board. These committees include audit committee, remuneration committee and nomination committee. The audit committee supervises the reporting of the financial statements between the management and the shareholders of the company, remuneration committee is responsible for devising remuneration packages for the executive directors of the board after considering their performance and the nomination committee is responsible for nominating directors that can b ecome the part of the board after elected by the board of directors. This whole framework is then observed in the real life examples of various organizations in UK, so as to see how effectively the mechanism has been applied and how well it is performing in achieving the main purpose of the framework. The Role of Corporate Governance Mechanism of Independent Directors According to the Cadbury report (1992), Corporate Governance has been defined as ‘the system by which companies are directed and controlled (P 15, paragraph 2.5).’ The system states that the board of directors is assigned the responsibility of governing the companies on the behalf of the shareholders, whereas the shareholders are in charge of appointing a board of directors along with auditors, so that they can be satisfied that a suitable system of governance is in place. In this paper the mechanism of independent directors, defined by the Corporate Governance, will be discussed to see how this mechanism works for the effective execution of governance. The concept of independent directors was originally acquired from the Anglo-American model of Corporate Governance, where there was a unified structure of board of directors. The main reason behind the concept was to apply checks and controls where there was a separation between ownership and control of the organization (Ali and Gregoriou, 2006). Recent progress in economic theory suggests that the appointed board of directors play a vital part in the effective governance of a corporation. With the authority to hire, fire and compensate the senior management of the company, the board of directors ensures that the problems relating to the conflicts of interest among the shareholders and the management are resolved and controlled. This contributes to economizing the transaction costs (also called the agency costs) that arises as a result of the separation of ownership and control, thus facilitating the existence of an organization as an open corporation (Baysinger and Butler, 1985). The basic agency problems that arise as a consequence of the separation of control and ownership include; managers acting in order to serve their personal interests, non-transparency of financial performance between the managers and the shareholders in ord er to portray a better picture of the company’s performance by keeping the shareholders in the dark and the management’s motivation to focus on short term performance and manipulation of the financial performance in order to secure incentives (Rezaee, 2007). In order to overcome these issues corporate governance defined a framework of board of directors to introduce independent direc