UNITY UNIVERSITY
School of Graduate Studies
MASTERS OF BUSINESS ADMINISTRATION
ETHIOPIA CORPORATE GOVERNACE AND
STAKEHOLDER MANAGEMENT PRACTICE
February, 2021
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Contents
1.
Introduction ............................................................................................................................. 3
1.1.
Background .......................................................................................................................... 3
1.2.
Statement of the problem ..................................................................................................... 5
2. Literature Review........................................................................................................................ 7
2.1. Introduction .............................................................................................................................. 7
2.2. What is Corporate Governance? .............................................................................................. 7
2.3. Corporate Governance in Ethiopia ........................................................................................... 8
2.4. Characteristics of the Ethiopian Code for Corporate Governance......................................... 10
2.5. An Overview of Company Law in Ethiopia .......................................................................... 10
2.6.
3.
The Role and Composition of Boards ofDirectors in Share Companies in Ethiopia......... 11
2.6.1.
The Role of the Boards of Directors ........................................................................... 12
2.6.2.
Board of Directors: composition and organization..................................................... 12
Concluding Remarks ............................................................................................................. 13
Reference ...................................................................................................................................... 15
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1. Introduction
1.1.
Background
The role of corporate governance in today’s business environment is extremely large because it
has a direct effect on the problems associated with the financial crisis of the company. Because
of this the significance of corporate governance around the world has attracted the attention of
regulators, academician and practitioners due to the widely held belief that profitability of a firm
has been influenced by corporate governance (Cornett, Gou, Akhter,2006), and also good
corporate governance enhances investor goodwill and confidence and boosting the economic
health of the corporation’s (Coleman, 2006). Good corporate governance adds significant value
to firm performance.
O n the other hand, weak corporate governance structure affect the performance of the firm and
also major cause of failure of many well performing companies. When we look at the new
century’s corporate scandals that terribly affected major American firms, such as Enron,
WorldCom and Arthur Andersen, and the resulting loss of confidence of the public on the stock
market led to dramatic declines in share prices and resulted in substantial financial losses to
millions of individual investors and for that both the public and experts have identified failed
corporate governance as a principal cause for the scandals (Fernando, 1997). Furthermore, many
researchers have also found that the 2008 global financial crisis is mostly attributed to failures in
corporate governance such as oversights, failure of risk analysis and unfair compensation (David,
Mingyi, and Pedro, 2009)
On top of that the very recent manifestations on the collapse of such large corporate entities and
financial institutions around the World have left people and concerned bodies to feel that the
system for regulation was not satisfactory, and provoked the need for making appropriate rules
of conduct and practices with substantial external regulations and controls (Fernando, 2006).
Thus since recent past, the issue of corporate governance has been emerged as a subject of
profound and enduring significance (Clarke & Dela Rama, 2008).
So nowadays in business policy and practice, corporate governance is widely accepted as an
essential discipline which managers must understand and apply to achieve accountability and
performance. In company law, the issues of corporate governance are becoming increasingly
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prominent as directorial duties and responsibilities are called into question. Leading international
agencies such as the G20, OECD, IMF and WB have seized upon higher standards of corporate
governance not only as the means of managing the risk of corporate failure but also as a route to
improving economic performance, facilitating access to capital, decreasing market volatility and
enhancing of the overall investment climate (OECD, 2004).
Even if corporate governance is considered to have significant implications for the growth of an
economy, regarded as important means in reducing potential risks for investors, attracting
investment capital and improving the performances of companies, however, the way in which the
system of corporate governance is run differs among countries depending on the economic,
political and social situations that exist in the respective countries. When we look at the situation
in Ethiopia, following the mushrooming of activities to establish corporate businesses, it was
constantly heard about the occurrences of some malpractices possibly emanated due to the gap
seen on the commercial code of the country which is inconclusive, not go with the contemporary
business complexities and exacerbated with the absence of institutional set-ups needed to enforce
them (Hussein, 2012). According to Minga (2008), the Commercial Code of the 1960 does not
provide adequate legislative response to the complex governance issues of the time. Corporate
governance is a term that is being considered in Ethiopian corporations starting just very
recently. Most companies in Ethiopia regard corporate governance as an integral part of their
success.
This paper examines the law pertinent to the governance of share companies in Ethiopia with
specific reference to the powers and composition of board of directors of financial sectors with a
view to identifying deficiencies in the company law and suggests the solutions in light of
internationally recognized best principles and practices of corporate governance. It contends that
the supervisory powers of the board should be separated from the management responsibilities of
the executives of share companies in the relevant laws. It also argues that the composition and
independence of directors should be reconsidered.. It further provides some conclusions based on
the findings of the study.
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1.2.
Statement of the problem
Different studies show that one of the many challenges the business world is facing currently is
installing sound and proper corporate governance system in an organization (Muhamet, 2009).
This might lead to irreversible bankruptcies if not managed and addressed properly and timely.
The messing up of big international organizations like WorldCom had provided concrete and
costly lesson to the business world (Tura, 2012).
Share companies specifically, the financial share companies represent a significant and
influential sector of business and play crucial role in the global economy. Since these companies
are complex institutions and may require employees with specialized skills (Philippon & Reshef,
2012), selecting the right executives could give them a significant competitive edge as well as
contribute to the growth of the economy. Insurance business is a pool mobilization point where a
person that is faced with financial loss due to accident may be compensated from that pool. By
so doing this, the economy of one person ultimately that of a country, get balanced. Therefore,
insurance companies play a significant role in stabilizing the economy of a nation. This happens
when the companies are running smoothly especially in terms of governance (Tura, 2012). The
practices of corporate governance are usually challenged. With these issues in view, it is
important to undertake a study on the level of practice of corporate governance of share
companies in the financial sectors.
In connection with this, tight corporate governance requirements were imposed on publicly
traded firms by regulators and other organizations in different periods. This is a reactive way of
addressing the issue of corporate governance across the world; this can be evidenced by most of
the guiding principles which have been enacted based on the incidents observed in the business
world (Tura, 2012).
Studies conducted in the area of corporate governance in the context of Ethiopia have a wide
professional range basically focused on the adequacy of legal framework rather than evaluating
the practice of corporate governance principles and best practices. Most of the papers reviewed
for this study deal with adequacy of legislative provisions on governance issues related to the
separation of ownership and management responsibilities on the composition, independence and
remuneration of board of directors in share companies (Tura, 2012), and also on the overall
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corporate governance standard adequacy by identifying different factors such as limited
legislative framework, inadequate shareholders protection law and ineffective judicial system,
absence of an organized share market and discrimination on implementations of regulatory
framework on Insurance Companies (Ayele, 2013).
Due to its legal formation, share companies in the financial sectors are perceived to be prone to
agency cost in the context of Ethiopia in which shareholders have no control of their
investment on a daily basis. There may be challenges in the sector in terms of adhering to
corporate governance rules and international best practices. In different magazines circulated in
the country, concerns of malpractices in the industry have been observed and becoming public
concern in previous as well as in recent period. There are instances where some of these
institutions have been linked with major breaches of the rules and regulations when it comes to
conflict of interest and unethical business conduct. Therefore, it is critical to assess the current
level of practice and draw some lessons from the study in terms of applying good corporate
governance practices in share companies in the financial sectors. The discrepancies from the
principles set by international organizations and National Bank of Ethiopia directive can be
drawn to address the gap observed in the practice.
Thus, the focus of this paper is on major dimensions of corporate governance system which are
Shareholders, Board of Directors, Executives, Supervisory Organs and other stakeholders, Risk
management and internal control and Disclosure and Transparency. Based on these factors, the
paper assesses corporate governance practice of share companies in the financial sectors in the
country in light of National Bank of Ethiopia Directives.
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2. Literature Review
2.1. Introduction
This section contains an overview of regulatory codes, proclamations or law on corporate
governance with specific focus of the insurance industry, particularly the paper make discussion
with reference to share companies in the financial sectors. The chapter starts with the conceptual
review of Corporate Governance.
2.2. What is Corporate Governance?
Various scholars and practitioners define ‘corporate governance’ differently. Economists and
social scientists, for instance, tend to define it broadly as “the institutions that influence how
business corporations allocate resources and returns”; and “the organizations and rules that affect
expectations about the exercise of control of resources in firms” (Jeswald, 2004). This definition
encompasses not only the formal rules and institutions of corporate governance, but also the
informal practices that evolve in the absence or weakness of formal rules.
Corporate managers, investors, policy makers, and lawyers, on the other hand, tend to
employ a narrower definition. For them, corporate governance is the system of rules and
institutions that determines the control and direction of the corporation and that defines relations
among the corporation’s primary participants (ibid). The definition used in the United
Kingdom’s 1992 Cadbury Report is widely cited from this perspective, and it reads: “Corporate
governance is the system by which businesses are directed and controlled.” This narrower
definition focuses almost exclusively on the internal structure and operation of the corporation’s
decision-making processes, and is central to public policy discussions about corporate
governance in most countries.
It is to be noted that corporate governance differs from corporate management. As Fernando
notes:
“Corporate governance is not just corporate management; it is something much
broader to include a fair, efficient, and transparent administration to meet certain
well defined objectives. It is structuring, operating and controlling a company
with a view to achieving long term strategic goals to satisfy shareholders,
creditors, employees, customers and suppliers and to comply with the legal and
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regulatory requirements, apart from meeting environmental and local community
needs.” (Fernando, 1997)
Thus, corporate governance refers to all issues related to ownership and control of corporate
property, the rights of shareholders and management, powers and responsibilities of the Board of
Directors, disclosure and transparency of corporate information, the protection of interests of
stakeholders that are not shareholders, enforcement of rights, etc. (Fekadu, 2010). Corporate
governance systems depend upon a set of institutions such as laws, regulations, contract
enforcements and norms that create self-governing firms as the central element of a competitive
market economy. These institutions ensure that the internal corporate governance procedures
adopted by firms are enforced and they render management responsible to owners and other
stakeholders.
The definition of ‘corporate governance’ is not provided under the Ethiopian company law. For
the purpose of this study, it is thus important to adopt a working definition for corporate
governance as a system of rules and institutions that determine the control and direction of a
company and that define relations among the company’s primary participants including board of
directors, managers, shareholders and other stakeholders. This combines the narrow and broad
definitions and it considers corporate governance as a system of rules and institutions which
determine the control and direction of a company. It recognizes not only shareholders but also
stakeholders that should be involved in the governance of share companies.
2.3. Corporate Governance in Ethiopia
There are a number of companies that are being formed by sale of shares to the wider public
unlike most share companies in the past which were formed among founders (Tewodros, 2011).
The emergence of publicly held share companies in Ethiopia gives rise to a multitude of issues
on corporate governance. Typically, ownership separates from the control of dispersed
shareholders and goes into the hands of few managers, which in turn creates the principal-agent
relationship Fekadu (2012). In such situations, agents (managers) may misappropriate the
principals’ (shareholders’) investments as they have more information and knowledge than the
shareholders. Where there exist few block holders in share companies, minority shareholders
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could be exploited in the hands of such block holders. The agency problems that could occur
between dispersed shareholders and managers and/or block holders of share companies in
Ethiopia, therefore, necessitate good corporate governance laws and institutions (Tewodros,
2011).
Some scholarly works have been published recently on company law in general and corporate
governance in particular by Ethiopian academics. Minga Negash (2008) observes that the status
of corporate governance in Ethiopia is disappointing and notes that “the Commercial Code of
1960 does not provide adequate legislative response to complex governance issues of the day,
and the new draft corporate law has not yet been finalized;” and he further states that “key
international conventions, codes and standards are not ratified or adequately incorporated in the
Proclamations” and that “the Decrees and Directives lack coherence and foresights, and at times
suffer from poor drafting” (Minga, 2008).
Fekadu Petros (2010) underlines the growing separation between ownership and control in
Ethiopia, and he submits some empirical evidence in this regard. Relying on the data and
literature on corporate governance, he shows the deficiency of the Commercial Code in
protecting the rights of minority shareholders in the context of publicly held companies. He
raises crucial issues such as: “what powers does the board have? Who is it accountable to? How
is it organized? What are its standards of liability?” among others. In his book titled ‘Ethiopian
Company Law’ (2011), Fekadu further addresses most of the issues in corporate governance
related to board of directors.
Tewodros Meheret (2011) discusses the legal regime applicable to governance of share
companies in Ethiopia. He explores the theoretical background and legal framework of corporate
governance and examines the rules of governance in light of available standards. In particular,
he discusses the structural choice, appointment and removal, powers, duties and responsibilities,
remuneration, and the working methods and mechanism for controlling the boards of directors.
Tewodros (2011), states that “a share company is managed by its board which is composed of
directors appointed by the general meeting of shareholders.”
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The study conducted by the Addis Ababa and Ethiopia Chambers of Commerce and Sectoral
Associations on corporate governance in Ethiopia suggests the introduction of a voluntary code
of corporate governance in the country (Gabor and Zekrie, 2009). It recommends that
“corporate governance law reform should consider key development policy aspects which
match with the country’s plans for poverty reduction and wealth creation” (ibid).
2.4. Characteristics of the Ethiopian Code for Corporate Governance
The Ethiopian Code has been developed through an interactive and participatory process by the
Stakeholders of the Ethiopian Business Community - private companies and corporations, state
owned enterprises and utilities, government institutions, professional organizations and
academia. The Stakeholders are committed to the process of implementation that would need
creation of awareness, education and substantial structural changes in Ethiopian business
traditions and culture (Tewodros, 2011).
The Ethiopian Code is built on international and regional experiences of similar Codes, taking
into consideration the prevailing Ethiopian conditions. It is a voluntary Code, on the level of the
internationally accepted and respected principles, standards and norms for Good Governance,
promoting a gradual and transparent process of acceptance, capacity building and compliance
(Fekadu, 2012). The Ethiopian business community is dominated by small family-owned
enterprises. Therefore, formal compliance with the Code is expected in the first hand by the
bigger corporations and undertakings, however, all Ethiopian businesses independently of their
ownership or size should be inspired and directed by the governance principles of the Code for a
successful, business community- led development of the economy (Tura, 2012).
2.5. An Overview of Company Law in Ethiopia
In market economies company law plays a significant role in setting the legal environment for
the creation and continuing operation of privately owned businesses (USAID, 2017). It can
encourage new investment and provide investor protection by setting forth clear and objective
rules for a company’s internal governance. It can also enhance entrepreneurship by making it
easy to start up and register a company, and encourage businesses to come out of the
underground economy into the publicly registered, taxpaying economy (Tura, 2012).
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Publicly held companies are referred to as “share companies” in Ethiopia’s Commercial Code.
Even though all companies (including financial institutions) have to adhere to the provisions of
the Commercial Code to operate in the country, financial companies have other proclamations
and subsidiary directives that require them to comply with additional requirements (Muhamet,
2009). Accordingly, share companies engaged in banking have to comply with the Banking
Business Proclamation No.592/2008 and the directives and procedures issued by the National
Bank of Ethiopia (NBE). Insurance companies are required to comply with the Licensing and
Supervision of Insurance Business Proclamation No.86/1994 and directives and procedures of
the NBE. Micro financing Institutions are governed by Proclamation No.626/2009, NBE
directives and procedures issued by the NBE. These specific laws apply to financial share
companies in addition to the Commercial Code. The non-financial share companies operating in
Ethiopia have to comply with the provisions of the Commercial Code. Pursuant to Article 304 of
the Commercial Code, a share company is a company whose capital is fixed in advance and
divided into shares and whose liabilities are met only by the assets.
The National Bank of Ethiopia, aware of the fundamental role of corporate governance in
maintaining the solvency and security of the financial system, has published two practically
identical directives: the first is applicable to the banking industry (SBB/62/2015) and the second
to the insurance industry (SIB/42/2015). Their goal is to ensure that Ethiopian companies
increasingly apply best practices in corporate governance. The documents include the rules that
should govern the way the corporate bodies operate and work. There are four appendices
covering the following: (i) key aspects in the supervision of senior management performance; (ii)
the minimum content of the company's Code of Conduct; (iii) the composition, operation and
powers of the Board committees; and (iv) the policies, manuals and minimum guidelines that
must exist in every company (NBE, 2015).
2.6. The Role and Composition of Boards ofDirectors in Share Companies in
Ethiopia
The Board of Directors is a body of elected or appointed members who jointly oversee the
activities of a company.64 It is sometimes simply referred to as “the board.” A board’s activities
are determined by the powers, duties and responsibilities delegated to it or conferred on it by
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authority outside itself. “Director” may be defined as “a person having control over the direction,
conduct, management or superintendence of the affairs of the company” (Fekadu, 2012). The
definition of “director” is nowhere given under the Commercial Code of Ethiopia. The term is
defined under Article 2(6) of the Banking Business Proclamation No. 592/2008 as “any member
of the board of directors of a bank, by whatever title he may be referred to.” In this definition,
the important factor to determine whether a person is a director is to refer to the nature of the
office and its duties.
2.6.1. The Role of the Boards of Directors
In companies with dispersed ownership, shareholders are usually unable to closely
monitor management, its strategies and its performance for lack of information and
resources. Thus, the role of the board of directors is to fill this gap between the
uninformed shareholders as principals and the fully informed executive managers as
agents by monitoring the agents more closely. Pursuant to the Commercial Code, the
board of directors is the ultimate ‘managing’ body of a company. It enjoys extensive
powers as provided in the Code and under the Memorandum and Articles of Association.
In practice, the responsibility of management is given to the CEO (general manager), who
in turn may delegate the responsibility to other senior executives. Accordingly, the board
occupies a key position between the shareholders (owners) and the company’s
management (Fikadu, 2012).
2.6.2. Board of Directors: composition and organization
The Corporate Governance Directives SBB/62/2015 determine that the companies' board of
directors must comprise a minimum of nine directors, with a variety of profiles to respond to the
requirements of gender diversity and varied experience in finance, banking, accounting, legal
matters, administration, audit and technology. Minority shareholders must unfailingly be duly
represented on the board. The directors will receive at least one training session a year on
financial, legal, regulatory and corporate governance matters, risk control and internal control
(NBE, 2015).
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They will perform their duties for a maximum of six consecutive years, although they may be reelected after six months have elapsed. However, such re-election may be extended to one further
year at the most. The number of directors that may be re-elected may not be more than one third
of the total number of board members in the company. The board meetings must be held at least
once a month and must be convened by the chairman or the secretary of the board in a formal
call, to which the meeting agenda must be attached, at least three days prior to the date scheduled
for the meeting. The directors must attend a minimum of 75% of the meetings every year in
person, and will be remunerated as a function of their attendance (ibid).
3. Concluding Remarks
The preceding sections show that the legal framework governing company governance in
Ethiopia does not sufficiently address issues related to the roles, composition and remuneration
of boards of directors in share companies. The relevant provisions of law among others do not
also delineate between corporate management and corporate governance. The governance powers
of non- executive directors are not clearly provided separately from the management duties of
company executives. Moreover, there is no legal provision that expressly articulates the need for
the independence of directors. The procedure in which the remuneration of directors in banks is
determined has also become abone of contention.
As discussed earlier, the concept of corporate governance is much broader than the concept of
corporate management. The existing literature on the role of the board also supports that the
primary role of board of directors, particularly in companies where there is a unitary board
structure, is to direct and superintend the management on behalf of shareholders/stakeholders
with purposes of mitigating agency costs. Furthermore, most principles and codes of corporate
governance around the world clearly provide for the supervisory roles of the board. Thus, the law
should expressly indicate the supervisory and the management functions of the board, and also
provide for the separation of the roles of the CEO and board chairperson. Separation of the two
posts may be regarded as good practice, as it can help to achieve an appropriate balance of
power, increase accountability and improve the board’s capacity for decision making
independent of management.
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The board should have a core group of excellent, professionally qualified non-executive directors
who understand their dual role of appreciating the issues put forward by management and
honestly discharging their fiduciary responsibilities towards the company’s shareholders as well
as creditors. A majority of non-executive directors should be independent of management and
free from any business or other relationship that could interfere with their independent judgment.
With regard to competence of board members, the law is expected to prescribe the qualifications
for directors of companies other than financial institutions on top of which some training on
board practices can be offered to elected members at the cost of the company.
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