On coming up to code.

• Author: Cadbury, Adrian
• Position: Corporate governance

The most difficult question of all is the relationship between corporate governance and performance.

Why has corporate governance become such a matter of public interest around the world? And why are boards of directors the primary target for this attention? The straightforward answer is that they are accountable to shareholders for corporate performance. They are also seen more widely as being responsible for the legal and ethical behavior of the companies they direct.

Across the world there are increasing pressures for institutions of every kind to become more transparent in their activities and more responsive to those they serve. These pressures have been accompanied by demands for higher standards of accountability, behavior, and performance.

Public corporations have always been powerful institutions, but their influence is perceived to have grown, partly because that of politicians has declined. In addition, their increasingly international reach is seen as strengthening their influence and as making them less answerable to a single jurisdiction. The fundamental reason, however, why boards of directors have become a focus for attention is lack of confidence in their system of accountability.

The most difficult question of all is the relationship between corporate governance and performance. It is not readily susceptible to research, because of the complexity of the relationship and because measurable aspects of governance, such as the proportion of outside directors or the extent to which directors are shareholders, are of limited relevance.

What matters is the caliber of the directors concerned. This is an important reason for preferring market regulation, where possible, over statutory legislation. The law has to deal with form, but what counts is substance, on which investors are in a position to make a judgment. The market answer to the question of whether improved governance translates into improved performance is that many investors believe that it does. Studies by CalPERS and others support that conclusion. A recent U.K. survey showed that close to two-thirds of the 605 analysts and fund managers who took part considered corporate governance standards important when making investment decisions.

It is equally significant that companies which have been successful over the long term generally meet the kind of code recommendations being put forward, while none of the companies involved in recent corporate disasters have done so. It...