Advancing Corporate Governance Reform in Asia February 28, Introduction Franck Wiebe The Asia Foundation

Transcription

1 ASIAN PERSPECTIVES SEMINAR Advancing Corporate Governance Reform in Asia February 28, Introduction Franck Wiebe The Asia Foundation 3 Advancing Corporate Governance Reform in the Philippines Jesus Estanislao Foundation for Community Building in the Asia Pacific Institute of Corporate Directors 7 Corporate Governance Reform in Korea: Prospects and Challenges Hasung Jang Korea University People s Solidarity for Participatory Democracy 11 Securities Market Reform in China: Advancing Corporate Governance Daochi Tong Department of Listed Company Supervision, China Securities Regulatory Commission 15 Questions and Comments 25 Seminar Participants

2 Introduction by Franck Wiebe The issue of corporate governance is not new to The Asia Foundation but is, as we see it, a direct extension of our activities in governance and economic reform. In Asia, the rules of the game not only skew investment patterns, but actually impede investment flows, as well, and have broad implications for society. If there was any question as to the relevance of this for broader society, our experience in the United States with Enron clearly demonstrated that poor corporate governance in the boardroom has direct implications not only for employees but also for society at large. One reason that today s Asian Perspectives seminar on corporate governance is important is that almost all of the news we hear about corporate governance, both in the United States and in Asia, is negative. Today we will have an opportunity to hear a bit of the other side of the story, which is that even while important and very serious problems remain throughout Asia, there are also reasons for optimism. There are reformers who are working to improve their systems and they are having success. A lot remains to be done, but there is a lot already underway. The program today is intended to provide an opportunity for three prominent Asians working on corporate governance reform to describe what they ve been doing in their countries and in the region to advance corporate governance reform in Asia. We are very pleased to have a panel of three of the most vocal advocates for reform of corporate governance in Asia. Our first speaker today will be Dr. Jesus Estanislao, the chairman of the Foundation for Community Building in the Asia Pacific, and president and CEO of the Institute of Corporate Directors in the Philippines. Dr. Estanislao was the founding dean of the Asian Development Bank Institute, a research arm of the Asian Development Bank in Tokyo, and he is the founding president of the University of Asia and the Pacific. From 1989 to 1992, he held cabinet rank positions, including secretary of finance, in the Philippines Aquino administration. Since leaving government, Dr. Estanislao has hardly been silent, but if anything has become more vocal as an advocate for reform in Asia. He received a presidential appointment to serve as the Philippine representative to APEC s Eminent Persons Group and the ASEAN s Eminent Persons Group. Our second speaker will be Hasung Jang, who is a professor at Korea University. In that capacity, he is in the process of putting together a major conference on corporate governance reform that will take place in Korea later this year, bringing academics from all over the world to look at some of the empirical research that has been conducted exploring the connection between corporate governance reform and the performance of companies. The list of participants is a virtual Who s Who of corporate governance research, and Professor Jang has done a wonderful job in putting together that program. Professor Jang is perhaps better known both in Korea and abroad for his work on corporate governance reform through a number of organizations that he helped found and is leading. One of those is the People s Solidarity for Participatory Democracy, which is a leading minority shareholder rights organization in Korea. This organization has brought legal action against a number of chaebols and has had some success in terms of holding management accountable for its fiduciary responsibility to shareholders. 1

3 Professor Jang also recently founded another organization called the Center for Good Corporate Governance, which takes a slightly less adversarial approach in that it seeks to encourage better corporate management, not through the courts, but simply by documenting the behavior of corporate management and allowing I think Dr. Estanislao sometimes uses the term market discipline to work its magic. Professor Jang is an advisor to the Korea Stock Exchange and also served as an advisor to the Presidential Commission for Financial Reform and the Ministry of Finance and Economy. He was quoted in the Financial Times yesterday and often appears in the international press. We re pleased to have him with us. Our third speaker today is Dr. Daochi Tong. Dr. Tong is the deputy director general of the Department of Listed Company Supervision in the China Securities Regulatory Commission (CSRC), which is the Chinese counterpart of our own Securities and Exchange Commission. In that context, Dr. Tong nicely complements the other two members of our panel, in that we will hear from them how people outside the government, working through a variety of institutions, can effectively put pressure on companies and governments to reform policies and practices related to corporate governance. In Dr. Tong, we re very pleased to have on the panel a regulator who is in a position to actually set the rules that govern business practices in China. He s going to relate to us some of the recent changes that have taken place in his country. 2

4 Advancing Corporate Governance Reform in the Philippines by Jesus Estanislao Let me begin by simply saying that corporate governance is a phrase that is new to us. As everybody knows, we really didn t place too much importance on corporate governance or microeconomics in East Asia before It was amazing to watch the reaction to the East Asian financial crisis. Even months into it, many of our ministers were saying, Well, macroeconomic fundamentals are very strong. And perhaps that was true, according to the standard, traditional view of macroeconomics. But the reality is that we have been covering up a lot of the microeconomic weaknesses that have been with us because of business and industrial structures as well as ownership patterns, not only in the Philippines, but throughout East Asia. So it was not a surprise that the International Monetary Fund (IMF) included corporate governance as one of the issues that had to be covered by Korea, Thailand, and Indonesia in their program. What was our response in East Asia? Well, to give a high priority to corporate governance reforms! In the case of the Philippines we decided to establish an Institute of Corporate Directors because especially in the Philippines, as well as in Indonesia, Malaysia, Singapore, and Thailand, we felt that we had to do a lot of the work from the ground up. IMF prescriptions can be imposed from on top and ministers of finance can say they re going to be very serious about corporate governance, but in order to get corporate governance reforms done you ve got to get people in the boardroom to actually do it. And the way to achieve that, of course, is not only to press them from on top, but also to encourage them, orient and educate them from the bottom. So we ve been doing a lot of directors training. Since we are looked at as one region, we also have decided that our responses should be not only national but also regional. So working in partnership with the World Bank, we launched these institutes of directors in East Asia to pull together a lot of resources. Taking advantage of distance learning capabilities, we are able to connect five or six cities at any given time and have lectures coming from all over, including Russia and Washington, D.C. We also have been doing quite a lot of policy advocacy. Again, consistent with the realities in the region, especially in the Philippines, we have to lobby our respective governments to undertake corporate governance reforms. Thus, in the area of corporate governance, we decided that we were going to work together as a region and formulate guidelines for proper corporate governance practices. We wanted this to be an East Asian initiative, which was very good from two standpoints. First, it put some closure on this general idea, which has been common in East Asia, that corporate governance is a Western, Anglo Saxon, American imposition on the rest of the world. We wanted to say out loud, Hey, we believe in the same principles! We believe in the same ethical standards of goodness in terms of corporate practice, and there s nothing Western about it. These are universal principles and universal values, and we wanted to send that message. The second, very pragmatic reason for making this an East Asian initiative was that we as a region would like to remain open to the rest of the world. We do not want to enclose East Asia as a separate and independent region with few connections to the rest of the world. We ve thrown our lot with the international community with all of its challenges, with all of its problems, and with all of its opportunities. So we did this. We decided to work under the auspices of 3

5 Asia-Pacific Economic Cooperation (APEC). We promoted our very sensitive about what we mean by private sector because, for effort, and under the chairmanship of China last October, example, in China and a few of the other economies, there s a APEC actually endorsed our guidelines for proper corporate huge state enterprise sector which actually conducts quite a lot governance practice. of business. So in our part of the world we prefer to say I must tell you that when we started work on this, the business sector advisory group. But the meaning is exactly the initial reaction that we got from Australia, New Zealand, and same, and we mean to work very closely with the global Private Canada was negative. They felt very suspicious of anything that Sector Advisory Group within the aegis of the World Bank-OECD. East Asians were doing by So we ve been doing teaching, we ve been doing policy themselves. The most interesting advocacy, and we ve been doing reaction, of course, came from the U.S. Treasury, which was very suspicious of anything that the U.S. Treasury had not taken a lead in. But to be fair, after we sat down with them and everyone else in APEC, they actually endorsed the guidelines. I thought it was a good vote of confidence for the policy advocacy we ve been doing in East Asia. We also decided that we wanted to have a good face for corporate governance. So we have gathered top CEOs who are committed to corporate governance in each of the nine economies that are listed (China, Chinese Taipei, We do not want to enclose East Asia as a separate and independent region with few connections to the rest of the world. We've thrown our lot with the international community with all of its challenges, with all of its problems, and with all of its opportunities. regional networking. Let me turn specifically to the Philippines. The existing legal framework is not bad. Our corporation law is patterned after the United States except that we have not revised that law. It needs revision. Based on a review of standards and codes on corporate governance in the Philippines conducted in June of 2001, we really have very few problems with respect to the legal framework. But there are problems with enforcement due to the ownership patterns within Philippine business, Philippine banking, and Philippine industry. Hasung Jang Hong Kong, South Korea, Indonesia, Malaysia, Philippines, of Korea University will be telling you about conglomerates in Singapore, and Thailand). We have organized national business South Korea. But in the Philippines, we talk about groups of sector advisory groups, and we banded together last November companies anchored around banks with weak supervisory in Hong Kong into an East Asia Business Sector Advisory institutions and degraded courts. Group on corporate governance to enable us to work with the My friend from Korea will be telling you about how active World Bank, the Organization for Economic Cooperation and he has been with the courts, and he has actually won a number Development (OECD), and the business sector. of court cases. I cannot dream of doing so in the Philippines. A We have had a problem with semantics because the World Philippine lawyer who started practicing in the early 1960s said Bank insists on the term private sector. But in East Asia we re to me just about two weeks ago, When I started my law 4

6 practice I had to think, Which of these judges in metro-manila government has also required all directors of government owned can I bribe? And back then he could not come up with one corporations to go through training, and we are in the process name. But now he asks the same question in a slightly different of requiring training for the directors of all publicly listed way: Which of the metro-manila judges would be beyond companies. bribery? And the list is relatively short. So we have to do court We ve been doing quite a lot of policy advocacy, working reform and judicial system reform. essentially with the Central Bank, the Office of the President, You were talking about Enron in the United States. We and the new Securities and Exchange Commission (SEC). In have had about five different Enrons in the past two or three essence, we have been staging open conferences on corporate years, so we have plenty of governance reforms, always with experience. Our Securities and Exchange Commission was very weak. One good thing about this is that in the height of the scandal, the former president actually signed into law two pieces of legislation that were very important for corporate governance. We revised our General Banking Act and we passed the Securities Regulation Code, both of which are very important for corporate governance reforms. The first document that we had on corporate governance came out in 1997, just two weeks before the financial crisis. That was the first document ever on corporate governance. So given where we were Corporate governance reform cannot go very far unless you connect it with other reform agenda items for example, national governance, reform of the court system, education of the press, and so many other issues because reform has to be systemic. the Office of the President and the Department of Finance and the Central Bank of the Philippines, and increasingly now also with the SEC. Last June the World Bank finished a Review of Standards and Codes on corporate governance in the Philippines. It came out with a set of recommendations. We decided to take those recommendations and fold them into a three-year program of corporate governance reform under the capital market development concept. The business, civil, and government sectors all worked very closely coming from, a lot of work needed to be done. together on this reform agenda. I mentioned directors training. We now require all of our We did not have a policy commitment to corporate bank directors to go through corporate governance training as a governance reforms. Now we do. condition for remaining as bank directors. They are given nine The Philippines was the first to adopt the APEC guidelines months within which to accomplish that training. We are on corporate governance. My argument was that since we played currently in the process of training more than 1,000 bank a big hand in formulating these guidelines, we might as well directors throughout the country. adopt them, and the government agreed. We also now have a We are focusing heavily on banks because of the heavy framework code of proper practices for corporate directors. dependence on bank finance in the Philippines. The I mentioned the Business Sector Advisory Group. It is 5

7 headed by the top-level people in the business community. We took a lead through the Institutes of Directors in East Asia Network (IDEAnet) in establishing the Business Sector Advisory Group for East Asia. I mention this because it is so important for us to take advantage of all the levers that are available to us. In our case, the Central Bank is very committed to reforms. Because of Bank for International Settlement capital adequacy ratios, we were able to introduce corporate governance as part of the risk management system for banks in the Philippines. And through that mechanism we should be able to reach out to the important borrowing clients of the banks so they too will begin observing improved corporate governance practices as one condition for their bank loans. Let me add that corporate governance reform cannot go very far unless you connect it with other reform agenda items for example, national governance, reform of the court system, education of the press, and so many other issues because reform has to be systemic. This means that it may take a few more years before you can really make a big, significant breakthrough, but it helps to have the legal framework being made more conducive to the promotion of reforms. Financial markets have to do their part, and that s why we re very eager about measurement, or corporate governance scorecards. And there is agreement, not only in the Philippines but in the entire region, that this is the way to go, that the discipline of markets must be brought to bear so that pressure will continue for the agenda of reform. Keeping the momentum alive means that we need to build on the foundations that we have already laid. Looking at Indonesia, there are three or four initiatives. They spent a good deal of their time trying to determine which group would be the major driver for corporate governance. I think they re in the process of resolving this issue. Thailand has actually gone way ahead of several other economies. And we re lucky that in Southeast Asia we have two former British Commonwealth economies, Singapore and Malaysia, that have longstanding institutes of directors. What they did was simply to reactivate these institutes of directors. So in East Asia, we have covered all of the major economies. We re sharing our experience with Vietnam, and of course we work with Korea, China, and the other economies in East Asia. 6

8 Corporate Governance Reform in Korea: Prospects and Challenges by Hasung Jang Korea has made a lot of progress in the corporate governance area since the economic crisis. I will not go over all the details, but let me just flesh out some changes that we have made in laws and regulations pertaining to corporate governance. The outside director is now there. We have significantly improved disclosure requirements, and the top chaebols are now required to produce not only a consolidated statement but also a combined financial statement. We have an audit committee in place. In addition, the rights of minority shareholders have been significantly improved, at least in law. Moreover, minority shareholders have begun to exercise these rights, not just through my organization, which functions as sort of the shareholder directors group, but also on their own. Yesterday there was a shareholders meeting at Samsung Electronics, and I heard that some of the foreign institutional investors spoke out at the meeting even though I was not there, which is another big sign of progress. More regulations have been imposed on related-party transactions among affiliated companies and family members under the chaebol, and hostile takeovers are now at least possible, even though none have occurred yet. The commercial code and related laws clearly acknowledge the responsibility and liability of the families that control Korea s major companies. Even though the family members don t necessarily sit on the board, if they are influencing important decisions they should be held liable for those decisions in court. We have established an integrated financial supervisory agency that is now quite effective in certain areas, even though it has not fulfilled all of the expectations we had when we established it. There also have been improvements in the way that auditing firms operate. The previous speaker mentioned that they had five Enrons in the Philippines, but we had more than two dozen Enrons at the beginning of the crisis. I am very pleased to report that we have fixed some of these problems, even though we still have a long way to go. As someone who is always being labeled an activist or a Communist or some other negative thing in Korea, I am not used to saying good things about what the Korean government is doing. But there have been a lot of practical, positive changes in Korea. Awareness about the importance of corporate governance has grown within both the general public and the business community. Related-party transactions are a lot less common; at the very least, the chaebols do not dare to make such transactions in public (which of course makes them tougher to monitor). And they are doing more active investor relations to build up confidence. Local institutions have been a bit more active too. I was very pleased to see the National Pension Fund side with us even though the oldest investment companies are not really supporting us. This was a significant signal that the market is heading in the right direction. Our shareholder rights organization has actually introduced many practical changes by taking cases to the courts. The Korean courts may not be terribly effective, but at least they are not corrupt. They have listened to our cases and ruled in favor of the shareholders in several instances. We recently established an institute, called the Center for Good Corporate Governance, to provide corporate governance 7

9 information to any interested investors. In fact, I was in New York last week meeting those institutional investors on Wall Street, and it was a full schedule. Every one of them wanted to have a meeting, and I was reasonably successful in convincing them to subscribe to our information services. This is all part of institutionalizing corporate governance practices. In another very positive development, changes in corporate governance have spilled over into the public sector. Let me point out one particular case that I believe reflects the great progress that Korea has made in this area. It happened at the end of last year. I had been involved in filing a lawsuit against the directors of Samsung Electronic regarding certain issues that happened in the past. After a three and a half year court battle, the court finally ruled in our favor that is, in the favor of minority shareholders and they ordered the directors to pay back $72 million. The directors were held personally liable. It was a big case. The case involved three things. First, it involved the illegal use of company money to make political contributions. Chairman Lee of the Samsung group gave a huge amount to politicians not out of his own pocket, but out of the company treasury. The court ordered him to pay back $5.6 million. This set a very good precedent one that will be felt in this year s presidential election. The court s ruling in the Samsung case will make the business community think twice before giving money to politicians, because they know that we are watching them and will file a lawsuit. So this is a very, very good milestone case. The second issue in the case involved a classic related-party transaction. Company management transferred shares owned by the company to another family member at a very low price, incurring a balance-sheet loss to the company and a huge profit to the family member. Now those involved in the deal have to pay back this $46 million to the company. Before we had this court ruling, the executives at the company were not smiling at me, but after the court ruling they wanted to be my friend because they did not want me chasing them to pay all this money! The third and most important issue in the case involved Samsung s acquisition of a failing company. The court ruled that it did not reflect proper business judgment. This was the very first case that looked into so-called business judgment, and the court ruled that the eight directors who voted yes at the board meeting are liable to pay back $20 million. This, I think, really is evidence of the progress we are making, not just in the area of regulations and laws, but also in actual practices. However, the longstanding problems are not going away easily, particularly when it comes to the mind-set of the controlling families of the big conglomerates. And enforcement of the law is not always effective. The classical problem for any emerging market is that there are families who control everything. But in Korea we have a unique problem with these controlling families because they don t really own much (they own only a fraction of the shares) and yet they are still able to control everything through either circular or pyramid equity ownership among the affiliated companies. As of the last year, families owned only about 4.2 percent of shares among the top 10 chaebols, but still they were able to exercise control because they owned affiliated companies. You also see pyramid ownership structures, such as in the case of the Samsung group. It really takes several long, simultaneous equations to find out who really owns what. Even the best company in Korea, Samsung Electronics, has equity holdings in more than 30 companies. This is a really complicated, tough issue. In spite of major progress with the court cases I mentioned, the mind-set of those families is not really changing, and we have received a lot of criticism for filing the lawsuit. A recent newspaper column published in a leading local newspaper is an example of this. The author compared us with bin Laden first, and then with Stalin. A piece written in response replied that Stalin is alive and well and lives in Seoul. So, in spite of all the legal reforms we have achieved, 8

10 changes within the private sector are still not moving fast the most part my supporters are not shareholders, but they do enough to be felt in the market. see the links between bringing sunshine on the business When I first started this so called activism in January of community and decreasing corruption throughout society. 1997, targeting one commercial bank, I really had a hard time For six years my organization waged a campaign to enact an finding shareholders who would support us. So we carried a anti-corruption law. We fought very hard and finally won sign on the street saying that we were looking for the passage of that legislation last year. But you know politicians. shareholders of Korea First Bank. A newspaper ran a story about They will not do anything that will work against them. So at our activities, not because the editors understood the the last minute, they deleted anything having to do with significance of what we were doing, political contributions. but rather because it struck them as very strange that a group of professors and activists was looking for shareholders on the street. It was a big surprise, even to us, that the first comers were foreign institutional investors. And we still enjoy strong support from Wall Street and other international institutional investors. Sometimes it puts us in the position of being labeled as traitors to the nation, but our critics still don t understand that these markets are supporting us. They I see corporate governance as more than just a business or economics issue. It is a socialpolitical issue. I see it as fostering more transparency and more accountability in the business community. Nevertheless, the law represents significant progress. I see corporate governance not just as a way to improve valuation and lower the cost of capital in the market, but also as the most effective way to fight corruption, which is the root cause of inefficiencies in many emerging market countries, particularly in East and Southeast Asian countries. Let me share a few more of my thoughts on these links between corporate governance and other social issues. First, corporate are still calling us Communists and Stalinists, and in Korea, governance certainly is one of the key elements in determining where these issues literally divide the country, if you are painted the valuation of a company. There is a clear positive relationship with red, that is the end of your life. showing that better corporate governance increases value. Let me get to a few other issues. I see corporate governance And a corporate governance survey done by Price as more than just a business or economics issue. It is a socialpolitical issue. I see it as fostering more transparency and more relationship between opaque practices in the business Waterhouse Coopers last year demonstrated that there is a accountability in the business community. It benefits the whole community and the negative valuation of companies. society because it improves transparency and accountability in I also looked at the so-called national competitiveness index the public sector as well. This is particularly true in an emerging produced by the Institute of Management Development in market, where business leaders and politicians are too close to Switzerland. They produce an annual competitiveness index in each other, breeding problems and corruption. various areas for many countries. I took those countries where I do find that I enjoy a lot of public support in Korea. For Credit Lyonnais had rated corporate governance and I 9

11 compared the corporate governance score against the competitiveness index, and it showed a clear pattern: countries with poor corporate governance have a lower competitive edge. All of these studies show a clear relationship between corruption and corporate governance in emerging market countries. I m not claiming anything about the direction of causation, but there certainly is a clear relationship between these corporate governance issues and social governance and corruption. Taking the 10 East Asian countries, it is clear that corruption and corporate governance are strongly related. I also looked at the relationship between corporate governance and civil liberties and democracy in a society. I looked at data from Freedom House in New York. Again, I m not claiming causality, but improving corporate governance is one way to improve democracy in a society because the market economy itself cannot function if there is no democracy. That is, the market economy requires openness and fairness and an equal chance for everybody. So I believe corporate governance doesn t just improve the efficiency in business and the economy. It also contributes greatly to improving transparency and democratic freedom in society as a whole. Let me comment on one more effort we are undertaking in Korea. I have been pushing legislation to allow class action suits, because I found that even though we won more than $70 million against these big companies and another $25 million against other companies, our lawyers didn t get a single dollar out of the suit. Even though this case made them celebrities, they got nothing but lunch and a good word from me. Unless we provide incentives to those who work for their own interests in other words, lawyers or shareholders trying to recover their losses on their own it s not going to work. I see the class action lawsuit as a very good instrument, because it provides an incentive to shareholders who have been harmed, as well as a means to ensure that the lawyers who represent them are well compensated. It is good to have corporate chasers. I know that in America people complain that lawyers are filing too many lawsuits. But in East Asia we don t have to worry about this at the moment. We probably need more of those lawsuits to discipline business managers and the markets. Finally, people should not only focus on what Korea achieved in the high growth period of the 1970s and 1980s. They should also learn from the problems that existed during that period and that have not yet been solved. 10

12 Securities Market Reform in China: Advancing Corporate Governance by Daochi Tong It is a great pleasure to be here to talk about securities reform and corporate governance issues in China. My friends have given an excellent overview of what is happening in the region and in Korea and the Philippines. Covering all of China is not that easy given the size of the country and the complicated issues there, but I ll try to do a good job. I was asked to talk about corporate governance reform in China, but before doing so, let me first give you an overview of market developments in the last couple of years. As you may know, the year 2000 was the 10-year anniversary of China s two stock exchanges, Shanghai and Shenzhen. This year is the 10-year anniversary of my office, the regulatory body, the China Securities Regulatory Commission (CSRC). So our market and our regulatory body are both relatively new, but development has been strong and fairly rapid. The size of the market now is about half of the gross domestic product (GDP), although last year the market cap shrank about 30 percent because of the sale of state shares, which I will address later. We have more than 1,100 listed firms in the domestic market. We have more than 100 securities houses, and 15 fund management firms. So we have a whole string of players in the market. There are about 65 million investor accounts in these two stock exchanges. So the market is growing in size and developing rapidly. The capital market has made a great contribution to the development of China s economy, which has grown 9 percent during the last decade on average of GDP growth rate, and is supposed to grow about 7 percent this year. But I think there is still a lot of potential for growth. We have a high savings rate, about 40 percent of GDP. Only 5 percent of the population invests in the stock market, compared with 18 percent in Hong Kong and, I believe, 49 percent in the U.S. Also, in the last year China entered the World Trade Organization, which I think will bring a strong boost to the securities market developing in China as well as to the economy. So those are the opportunities. But the challenges are enormous as well, especially with regard to corporate governance and the quality of the listed firms. Let me briefly go over the major issues we have. Because I m from the securities commission side, I m mainly talking about listed firms. I cannot speak for other ministries. As you may know, most of the listed firms in China were formerly state owned enterprises (SOEs). One of the critical problems in these SOEs in China and it s probably the same in other transition economies has to do with property rights. It s not really clear who owns the state assets. In the case of listed firms, the issue is who actually owns the shares. Who actually plays the role of a shareholder of the state in these listed firms? We have different players. We have the state Asset Management Bureau. We have the parent company. We have the ultimate holder, which is the Ministry of Finance. But nobody really actually cares or plays a real role as a shareholder in the listed firms. The state is still the largest shareholder in the listed firms, controlling about half of all shares. So this is what could lead to an insider control problem, because nobody really represents the shareholders. That leaves management control and insider control. There s also an issue of related-party transactions between the parent company and the listed company, because when Chinese SOEs get listed, only part of the firm is listed. The 11

13 result is that there is the leftover parent company or a holding ministries are not taking action. For example, the State company, and then there s a listed company. And the Economic and Trade Commission is taking actions to improve relationship between the two is not clear. Sometimes there are corporate governance, as well. basically two companies in one office and people are not clear The China Securities Regulatory Commission has been which one is listed and which one is the holding company. taking a proactive role in promoting corporate governance, What sometimes occurs is that the holding company takes especially since the new chairman, Dr. Zhou Xiaochuan came to assets or funds back from the listed company through transfer office in He made the protection of shareholder rights a pricing or unfair related-party transactions. These activities are priority. detrimental to the minority The Commission is pursuing shareholder, which is the public. So those are serious problems. We have a very concentrated ownership structure, which is different than in the U.S. The largest shareholder is the state, which on average holds more than 45 percent in a company. And this highly concentrated shareholding structure means that the controlling shareholder has dominance at the general shareholder meetings. And the boards of directors of listed companies mostly consist of insiders. There are few outside directors, let alone independent non-executive directors. There is also the issue of executive compensation. Essentially the executives of listed companies are underpaid compared with international standards, although they have some kind of in-kind compensation, for example such things as housing and cars. In addition, there is no clear link between compensation of the executives and their performance. Those are the major issues. Now let me turn to what happens in China and what actions we are taking from the Securities Commission side. Again, I m emphasizing the Securities Commission, but I m not saying that other government The China Securities Regulatory Commission has been taking a proactive role in promoting corporate governance, especially since the new chairman, Dr. Zhou Xiaochuan came to office in He made the protection of shareholder rights a priority. several initiatives. One is to change the board structure within firms. As I mentioned, the boards are mostly controlled by insiders. Now we are requiring each firm to introduce independent directors to the board. We mean independent from the management, independent from the major shareholders, and independent from major business relations. We re requiring the listed firms to have at least two independent directors on the board of directors by June 2002, and to have at least one third of the board be independent by June That s a significant change in the board structure. We have also stepped up training for independent director candidates because we understand that there is a shortage of qualified personnel to serve in these positions. We re encouraging not only academics but also executives and lawyers and accountants to serve as independent directors. And we are requiring at least one of the independent directors to be in the accounting profession, to serve as the chairman for the auditing committee. We are also requiring the listed firm to set up subcommittees under the board, including an auditing committee, a nomination committee, and a remuneration 12

14 committee. These board committees must have a majority to be independent directors, and must be chaired by independent directors. In other efforts, we issued a Code of Corporate Governance for listed companies in China in January The Code was issued as a formal regulation jointly by CSRC and the State Economic Trade Commission (SETC). That makes the regulation stronger because the SETC oversees all the SOEs, and they can take care of the controlling shareholders problems. This Code is not voluntary. Many of the articles are mandatory regulations that must be followed by listed firms. The Code follows the spirit of the OECD corporate governance principles. If you look at it, I think you ll see that we have covered all of the principles of OECD while also taking into consideration China-specific problems, including the controlling shareholder problems. The Code makes protection of shareholder rights the basic goal for corporate governance. It calls for equitable treatment of shareholders, including minority shareholders. It also calls for proxy voting and cumulative voting. The Code requires firms with a controlling shareholder who owns more than 30 percent of shares to adopt cumulative voting in election of board directors. We are also encouraging firms to adopt electronic voting methods. This is especially needed given the size of China, which makes it difficult and costly for people to participate in general shareholder meetings in person. To address the problem of controlling shareholders, we are asking listed firms to be independent or completely spun-off from their parent company, and for all the related-party transactions to be fair and transparent. Adding to that, the Minister of Finance just issued an accounting rule on related-party transactions detailing how the profit from these transactions can be accounted to the profit of the companies. This is an improvement in the accounting standards, aimed at solving the problem of related-party transactions. In addition, independent directors have to sign off on any related-party transactions. We are also calling for shareholder activism and an increased role for institutional investors. I know we have very small institutional investors right now. We only have 15 fund management firms, but that number is growing. We have large social security funds and insurance funds that are waiting to get into the market, and we also want to open the market for foreign institutional investors. I think these institutional investors could play a very positive role in improving corporate governance. With regard to boards of directors, we are calling for directors to perform the basic duties, including due diligence, a fiduciary duty, and duty of care the same as in the West. This is the first time that Chinese regulation has specified that directors have these duties, and that they have to be responsible for any violations of security laws or shareholders rights. We are also encouraging shareholders to sue directors for infringement of shareholder rights. A positive sign that just happened is that the Supreme Court issued an ordinance to allow the shareholders to sue the directors and the companies in the case of a false disclosure of the information by the listed companies. If the CSRC judges that false disclosure has occurred, then the shareholders can sue the directors and the management of the company for damages to the shareholders due to the false disclosure of information, which is a step forward in improving the legal framework to protect investors. In the area of management incentives, we are trying to change the current process for selecting managers for the listed companies. As you may know, most of the managers or executives are still appointed by the government. We are calling for a market for professional managers. The Code says that nobody, including the government organization, can directly appoint an executive to a listed company without the approval of its board or the shareholding companies. They have to go through a process. They can nominate candidates for executive 13

15 positions, but they cannot directly appoint them. This has been agreed to by the SETC and I think it will prove to be a positive development. We also call for performance assessments for all executives and directors. These assessments have to be evaluated by the firm s board of directors and publicized. To give incentives to the executives to perform well, we are also trying to encourage firms to establish some sort of incentive devices to link executives compensation performance to their performance and the company s performance. We are also developing a regulation on stock options so that the executives can actually take shares as stock options in the company, to link their compensation to the long-term development of the company. Of course, that s not easy, given that stock prices do not necessarily reflect the performance of the company, which is required if stock options are to work as a proper incentive for the executives. Information disclosure is another area we have worked on quite a bit. We are requiring each firm to publish annual reports and a half year report that has to be audited. This year we re starting the quarterly report. This initiative is ahead of Hong Kong, which has not yet required quarterly reports. We are also ahead of Hong Kong in requiring one-third of the board to be independent. We are asking firms to publish corporate governance practices in their annual reports, beginning this year. If you look at the annual report of a listed company, you will find a chapter on board practices, executive compensation, independent directors, et cetera. And they have to talk about whether they have performed well in relation to the code of corporate governance, and where any deviations have occurred. This is all part of a push to get firms to perform well and to give investors a chance to know what s going on in the company. We have also asked firms to disclose information on controlling shareholders and also on the actual company or person who controls the listed company. This is an important step because when there is cross shareholding or when a different 14 entity controls the listed company, it is sometimes difficult for people to know who is actually in control of the company. I know enforcement is important. It s beautiful to develop a code, but without enforcement it doesn t mean anything. We believe that good corporate governance depends on strong enforcement, so we have stepped up enforcement efforts. We have regular checks on listed firms. Each year we check about one third of the listed firms. Last year we checked about 300 firms on corporate governance, on information disclosure, and on the use of publicly raised funds. We also have special investigations on listed firms. If we receive a complaint from the shareholders for example, they have been writing letters to us we will conduct a special investigation if we consider the letter to be valid. We put 32 firms under legal investigation last year. Included are some of the big firms that have never been touched before. But last year we did this. We are calling for strong sanctions against firms that violate the laws and regulations. We stepped up media criticism of such violations, and the media have been very cooperative. In addition, we are working with other law enforcement agencies, including the Minister of Public Security, to prosecute serious violations of securities laws. We are setting up a joint bureau, under the CSRC, with the Minister of Public Security. This is because, unlike the Securities and Exchange Commission in the U.S., we don t have the authority to prosecute violators ourselves. But we can direct a case to this bureau and the Minister of Public Security will handle it. So those are the efforts we are conducting. I think we are committed to better corporate governance in China. We want to set rules and regulations to promote certainty in application and to ensure fair and consistent enforcement. And we need strong sanctions against breaches. I know many of you are interested in China. You are welcome to join us in improving corporate governance, and if you have any questions, you can write to me by . I shall welcome that. And you re welcome to visit me in China.

16 Questions and Comments by Advancing Corporate Governance Reform in Asia Panel Franck Wiebe: Thank you, Daochi. Let me just comment about one of Daochi s statements noting that one of the things they re doing to improve corporate governance and make it popular among executives is to increase executive pay. Hasung has said in previous events that it is a part of the reform effort in Korea as well. In fact, he has said that one of the things reformers want to do is not to make executives rich, but to make the remuneration more transparent. If we want to make a distinction between corporate governance problems in the U.S. and in Asia, executive pay as a problem is perhaps one of those differences. My other point has to do with the speed of change that s taking place in Asia or, more accurately, how quickly things can change. As Daochi pointed out, the CSRC has become an important advocate for reform really in the last year-and-a-half, since a new CSRC chairman was appointed. This is something that Jess has pointed out as well, especially in reference to the recent decision by the California Public Employees Retirement System (CalPERS) to discontinue investment in four Southeast Asian countries because they fell short of minimum standards for corporate governance. Some of the conditions that CalPERS criticized may in fact have changed very recently, and some information may no longer be as accurate as it was even six months or a year ago. And so even while problems remain, it s important to note that changes can take place very quickly, often when important reformers take positions of power. Q I have three questions. One, have there been any hostile takeovers in South Korea? Two, if you believe the public opinion polls and we can take them for what they are it is likely that the conservative opposition, the Grand National Party, will win the next election in Korea. One can imagine conservative good-government types supporting the things that Professor Jang has laid out. You can also imagine more corporatist conservatives supporting a backwards movement. My question is, if the Grand National Party wins the next election, how is that likely to affect Korean policy in the area of corporate governance? The third question is to all three panel members. What is the situation in Japan, the largest and richest economy in the region? Are they simply missing in action? Jesus Estanislao: I ll first address the question on Japan. To be fair, I think they are very much part of our network, but due to very intricate arrangements that they have in Japan, they really cannot be a formal participant. Corporate governance is a new thing, and to put up an institute in Japan on corporate governance might take some time, and they have not come around to being able to do that. So while they ve been attending our meetings and they cooperate and work together with us, it has been on an informal, personal basis. They have not been able to identify which persons, which institutes, which agency could be their representative in our network. Hasung Jang: Let me make one comment on that. I really wanted to see more visibility and initiative from Japan, not only in the region but also on this global initiative on corporate governance. But unfortunately, we see very little involvement 15