AUDITING & GOVERNANCE FOR

ISLAMIC FINANCING INSTITUTIONS

1) Liang Zhang, Zhe Zhang, Ming Jia, Yeyao Ren (2017), Do outside directors matter?
The impact of prestigious CEOs on firm performance

2) Errol Oh (2017), Giving boardroom independence a shelf life

3) Tee Lin Say (2016), Bank Negara tightens regulations.

LECTURER’S NAME: DR HAMDINO BIN HAMDAN

NUR HIDAYAH BINTI JALIL 1428864

DATE OF SUBMISSION: 8h March 2018

LESSONS FROM THE ARTICLES

The focus on the three papers given to us is mainly on the independent directors. In the

first paper written by Tee Lin Say (2016), the focus which I want to highlight is that it all started

with the Global Financial Crisis happened in the year 2018. During that time, there was a massive

amount of subprime mortgages, where the people with lower level of creditworthiness were given

the same mortgages for housing as the people with high level of creditworthiness and that was the

highest contributor to the crisis. This is because the Wall Street and the banks during that time

were so greedy that when all debtors with lower level of creditworthiness defaulted in their

payment, all the mortgages cannot be repaid back as there were no people who will buy back the

house. Due to the crisis, we know that it happened because of a weak internal control where people

were more motivated with the commission received rather than the consequences that might

happen and thus they tend to take advantage for their own interest.

Because of the crisis happened during that time, our Bank Negara of Malaysia had taken a

several steps to improve the corporate governance of Malaysians companies:

1) BNM has announced a guideline that is similar to the rationale of which US did in the Dodd

Frank Wall Street Reform. It was a law signed by Barack Obama that places regulation of

the financial industry in the hands of the government and also aimed to prevent excessive

risk taking that led to the crisis. The same idea implemented by our Central Bank under the

Consumer Protection Amendment Act 2010 to provide more protection to consumers.

2) Despite that, Bank Negara also introduced a few key measures under its enhanced

standards for corporate governance and this key measures aimed to increase transparency,
 reduce risk and leverage, and also the overall risk taking for the bank. Some of the key

measures that BNM has highlighted are the requirement of the independent directors in a

company and the expectation to set a tenure for the independent directors.

An independent director is actually a member of a company’s board of directors who was

brought in, from outside of the company. The Code of Corporate Governance 2012 has given the

definition of independent director which is a non-executive directors who are independent and are

free from any material business or financial connection with the company. As an independent

director, one is ought to do his/her responsibilities in protecting the interest of the company’s

shareholders. One of independent director’s tasks is to oversee and advice the non-independent

directors of the company to avoid any conflict of interest from occurring. So what is the issue

arises in the case of independent directors?

1) In the second paper written by Errol Oh (2017), there is an argument saying that the

tenure life of an independence director should not be made decisive in assessing his

independence as the tenure of the outside directors must be made on their capabilities.

But in the case of having a longer tenure, some people claimed that the longer the

independent director spend in one company, the more it will create doubt about their

effectiveness and ability to challenge the management and fellow board members.

2) There is also some argument saying that having longer tenure for independent director

may also erode the board’s objectivity. Therefore, the Malaysian Code of Corporate

Governance has eventually highlighted a new measure that will make it harder for the

listed companies to have exactly the same director s for more than 12 years. But, in the

case of where the company still needs the individual as an independent director in the

company after 12 years, the director can only stay if the company’s shareholders show
 their support through the 2 tier coting process during the general meeting. If both tier

1 and 2 voted for the same decision of making him stay, then only he will be accepted

and otherwise, he will not.

3) The third paper written by Liang Zhang, Zhe Zhang, Ming Jia, Yeyao Ren (2017)

highlights the impact of having the prestigious outside directors towards the corporate

governance of the company. It is said in the paper that the resources benefit of

prestigious CEO will increase when the outside directors of the company are also

prestigious because the CEO tend to have more respect towards the outside directors’

abilities and it is trusted that outside directors govern better as they are independent

and not from the company itself and thus will eventually reduce the agency cost created

by the prestigious CEO.

4) The issue also arises when the author mentioned that there is an interaction effects of

having same surname on prestigious CEO and prestigious outside directors as China as

the informal relation or guanxi can easily be established when they have the same

surname. But having to say it has a positive impact on the company itself is not that

true because it will worsen the agency conflict in the company and as well as will raise

agency costs and lessen the resource benefits as accepting the co-workers only through

having the same surname does not bring much of the positive impacts to the company.

REFLECTION AND COMMENTARY

In my personal opinion, the independent director has no direct relationship with the

company performance as the independent director does not work in the operation of the company.

This opinion can be proved by the study on empirical research done by Donald C. Clarke (2006)
where it highlighted that the board independence is clearly has no guarantee of the corporate

success as if there is mismanagement from others, then it is still not going to succeed. Somehow

we can also look that having the insiders on the board can add some value to the board. As the

independent director is actually a non-executive director which means that they will only give

advices, not responsible as well as not engage in day-to-day management of the organization.

I can relate this to the other paper I read which is written by Steven T. Petra (n.d) which

the paper highlights its aim which to determine whether or not outside independent directors

strengthen the corporate governance of a company. The author has the same opinion as mine as he

stated that the independent director need to do more to protect the interests of the company’s

shareholders. One empirical evidence can be put here that is by Vafeas (2000), which he said that

stock market does not believe that outside independent directors improve the usefulness of

published corporate earnings number. It is said that the public scepticism is what makes the

independent directors needed in a company. As what is highlighted by McKinsey & Co (2000)

which interest me the most is that the institutional investors are willing to pay a premium to own

shares in a company with good corporate governance and have a majority of outside directors.

Having to say that investors are more attracted to the companies with high numbers of outside

directors is somehow sounds logic as the main focus of having the outside directors is to protect

the shareholders interest as the outside directors will not act on behalf of the company’s interest

solely because they are independent and free from any conflict of interest.

As for the same surname, to say that the company’s performance has a positive relationship

with the informal relation created is not true because the guanxi (informal relation) itself has

nothing to do with the credibility one may possess and thus will not give effect to the performance

of the company. Thus, I believe that instead of depending on the informal relation itself, why not
we focus on what matters the most as that will be the cause of the good fruits we will produce later

in the future.

Hence, everything that a person wants to be at its best must come from the person’s attitude

itself. It does not necessarily one need to focus on the material things they have but also some good

skills and wills itself. But I believe it a person only has the skills and not with the wills, then

nothing will differ as having the will to make changes is far more important as we tend to make

things at our best and the outcome itself will reflect everything we did.