Malaysia - Report on the Observance of Standards and Codes (ROSC) : corporate governance country assessment

Report on the Observance of Standards and Codes (ROSC) Corporate Governance 38970 Corporate Governance Country Assessment Malaysia June 2005  Overview of the Corporate Governance ROSC Program WHAT IS CORPORATE GOVERNANCE? THE CORPORATE GOVERNANCE ROSC ASSESSMENTS Corporate governance refers to the structures and processes for the direction and control of com- Corporate governance has been adopted as one panies. Corporate governance concerns the relation- of twelve core best-practice standards by the inter- ships among the management, Board of Directors, national financial community. The World Bank is the controlling shareholders, minority shareholders and assessor for the application of the OECD Principles of other stakeholders. Good corporate governance con- Corporate Governance. Its assessments are part of tributes to sustainable economic development by the World Bank and International Monetary Fund enhancing the performance of companies and (IMF) program on Reports on the Observance of increasing their access to outside capital. Standards and Codes (ROSC). The OECD Principles of Corporate Governance The goal of the ROSC initiative is to identify provide the framework for the work of the World weaknesses that may contribute to a country's eco- Bank Group in this area, identifying the key practical nomic and financial vulnerability. Each Corporate issues: the rights and equitable treatment of share- Governance ROSC assessment reviews the legal and holders and other financial stakeholders, the role of regulatory framework, as well as practices and com- non-financial stakeholders, disclosure and trans- pliance of listed firms, and assesses the framework parency, and the responsibilities of the Board of relative to an internationally accepted benchmark. Directors. Corporate governance frameworks are bench- marked against the OECD Principles of Corporate Governance. WHY IS CORPORATE GOVERNANCE IMPORTANT? Country participation in the assessment process, For emerging market countries, improving corpo- and the publication of the final report, are volun- rate governance can serve a number of important tary. public policy objectives. Good corporate governance reduces emerging market vulnerability to financial The assessments focus on the corporate gover- crises, reinforces property rights, reduces transaction nance of companies listed on stock exchanges. At costs and the cost of capital, and leads to capital the request of policymakers, the ROSCs can also market development. Weak corporate governance include special policy focuses on specific sectors frameworks reduce investor confidence, and can dis- (for example, banks, other financial institutions, courage outside investment. Also, as pension funds or state-owned enterprises). continue to invest more in equity markets, good cor- The assessments are standardized and systematic, porate governance is crucial for preserving retire- and include policy recommendations. In response, ment savings. Over the past several years, the impor- many countries have initiated legal, regulatory tance of corporate governance has been highlighted and institutional corporate governance reforms. by an increasing body of academic research. Assessments can be updated to measure progress Studies have shown that good corporate gover- over time. nance practices have led to significant increases in economic value added (EVA) of firms, higher produc- By the end of June 2005, 48 assessments had been tivity, and lower risk of systemic financial failures for completed in 40 countries around the world. countries.  EXECUTIVE SUMMARY Achievements/progress since previous assessment Important corporate governance reforms have been implemented in Malaysia since 1998, when a high-level Finance Committee on Corporate Governance, consisting of both government and industry, was formed to identify and address weaknesses highlighted by the Asian financial crisis. Key reforms have included the development of a comprehensive master plan to further develop the capital market, the demutualization of Bursa Malaysia, introduction of a Code of Corporate Governance, and changes in the composition and role of its Board of Directors. In 2004, disclosure rules and corporate whistleblower protections were strengthened. In 2005, major reforms commenced to overhaul government-linked corporations (GLCs). Key Challenges To further improve its corporate governance practices, Malaysia faces the following challenges: the government's level of equity ownership remains large; free float remains low; and directors' accountability and protection for minority shareholders need further improvement. In addition, the role of institutional investors and shareholder activism in the corporate governance framework needs to be strengthened. Next Steps This report identifies several key measures that focus on enforcement and implementation, including: Continued and consistent enforcement of disclosure and reporting requirements by the Securities Commission, with a focus on quality of information provided; Implementation of legislative reform to strengthen directors' independence and accountability to investors; and Development of a legal basis for and promotion of an active institutional investor community.  ACKNOWLEDGEMENTS This assessment has been prepared by a team led by Behdad Nowroozi from the East Asia and Pacific Region of the World Bank and consisting of Peter Ling Sie Wuong (Consultant), Kasturi Paramanathan (Consultant), Aman De. Vohrah (Consultant), and Kirida Bhaopichitr (EASPR). Latifa Osman Merican, Olivier Fremond, Alexander Berg, Richard Symonds, and Kazi Mahbub-Al Matin provided advice and comments. The report has been prepared under the overall guidance of Khalid Mirza, Sector Manager, EASPR, and in close cooperation with the Malaysia Securities Commission.  TABLE OF CONTENTS Market profile.......................................................................................................................................1 Key issues............................................................................................................................................1 Investor protection..............................................................................................................................2 Disclosure ..........................................................................................................................................2 Company oversight and the board .....................................................................................................3 Enforcement.......................................................................................................................................4 Reform ...............................................................................................................................................5 Recommendations ..............................................................................................................................6 Summary of Observance of OECD Corporate Governance Principles ..........................................9 Principle - By - Principle Review of Corporate Governance .........................................................10 Section I: Ensuring The Basis For An Effective Corporate Governance Framework.......................10 Section II: The Rights of Shareholders and Key Ownership Functions............................................13 Section III: The Equitable treatment of Shareholders ......................................................................17 Section IV: The Role of Stakeholders in Corporate Governance.....................................................20 Section V: Disclosure and Transparency .........................................................................................22 Section VI: The Responsibilities of the Board ..................................................................................25  Corporate Governance Assessment Malaysia COUNTRY ASSESSMENT: MALAYSIA This ROSC assessment of corporate governance in Malaysia benchmarks law and practice against the OECD Principles of Corporate Governance, and focuses on listed companies. Market profile Capital Market The Malaysian economy experienced record growth in 2004. Real gross domestic Overview product (GDP) increased by 7.1 percent (RM 248 billion) in 2004 compared to 5.3 percent in 2003, and the capital market continued to expand. The Kuala Lumpur Composite Index (KLCI) ended the year at 907.43 points or 14.3 percent higher than the end-2003 level. Total market capitalization increased from RM 722.04 billion, an increase of 12.8 percent compared to the end-2003 level. Market activity remained significant, with annual turnover amounting to 108 billion units valued at RM 216.7 billion. Market liquidity declined slightly in 2004, as the average daily turnover decreased to 433 million units from 456 million units in 2003. Better market performance and broader investor interest resulted in 72 Initial Public Offerings (IPOs). Total funds raised through the capital market, however, were slightly lower at RM 6.5 billion, as compared with RM 7.8 billion in 2003. The Capital Market A Capital Market Master Plan (CMP) was developed in 2001 to set the Master Plan sets the framework for the long-term development of the market and provide clarity for framework for the issuers, investors, and intermediaries. The CMP contains 152 recommendations long-term development dealing with the development of the institutional and regulatory framework for of the capital market the capital market from 2001 to 2010, of which 10 recommendations focus specifically on corporate governance. These are credible recommendations that, when fully implemented, will further improve the capital market in Malaysia. As of December 2004, 62 percent of the recommendations in the CMP have been completed, with another 38 percent in progress. Legislative Framework The legal framework for corporate governance is based on common law. The key piece of legislation for the securities market is the Companies Act of 1965 (CA).1 Institutional One of the key weaknesses that surfaced as a result of the 1997 financial crisis Framework was the overlapping authority and resulting ambiguous accountability of the The Capital Market regulatory institutions governing the securities market. This problem was Master plan and the intended to be addressed by the Capital Market Master Plan and the amendments amendments to the made to the Securities Commission Act of 1993. The Securities Commission Securities Act (SC) is now the sole regulator for fundraising activities and for the corporate bond introduced greater market. However, there are still five principal authorities involved in regulating clarity in the the capital market. They are the SC, Bank Negara Malaysia (BNM), Companies institutional Commission of Malaysia (CCM), Foreign Investment Committee (FIC), and the framework. However, Ministry of Trade and Industry (MITI).2 There is a perception, however, that the further streamlining is framework still may be challenged by regulatory gaps and lack of coordination. needed. Key issues The following section highlights key observations of the principle-by-principle assessment of Malaysia's corporate governance compliance with the OECD Principles of Corporate Governance. June 2005 Page 1  Corporate Governance Assessment Malaysia Investor protection Shareholder rights Basic shareholder rights are generally well-observed in Malaysia. Information is well-defined and available in a timely and regular manner. Further efforts, however, will be observed required to facilitate shareholders' ability to exercise their right to vote, including voting by mail and a longer notice period. Shareholders rights Shareholders have been accorded a number of rights to protect their interests by are protected by the the CA, the Listing Requirements, and the SCA. The right to vote is a member's CA, the Listing fundamental right. Every member has an unfettered right to exercise his/her vote Requirements, and the as attached to the shares s/he owns. Some government-linked corporations have SCA issued a Special Share/Golden Share to the government, entitling it to exercise a veto over any tabled resolution. A review of publicly available information for the past 15 years indicates that the government (or its institutions) has not at any instance exercised this right. Whereas, on the one hand, the presence of a golden share is a source of comfort for a small investor, on the other hand, it has the potential of being used to further public policy that may not be entirely in line with short-term commercial goals. However, the very existence of these golden shares could be perceived by the market as a poison pill, depriving investors of potential returns. Enforcement of The CA provides statutory remedies for shareholders who are aggrieved by the shareholder rights acts of directors or the company, or treated inequitably by the company. There (statutory and/or are, however, significant weaknesses in the ability of investors to institute an equitable) action against directors for breach of their fiduciary duties. Disclosure Disclosure of A substantial shareholder is a person who holds 5 percent or more of the voting ownership shares of the company. Substantial shareholders are required under law to give notice to the company, with a copy to the Bursa, of any changes to their ownership interests. Notices are required to be given within 14 days from the date on which a person becomes a substantial shareholder, or when his/her ownership changes upward or downward. Related-party Related-party transactions involving the directors of listed companies are Transactions and large regulated by the Listing Requirements. Shareholder approval is required under the transaction disclosure Law for Related-Party Transactions. This requirement has been further enhanced and enforcement by the Listing Requirements.3 Shareholder approval is required for the acquisition of an undertaking or of property of substantial value in relation to the total assets of the company; and for the disposal of a substantial portion of the company's assets. However, the mere reliance on the Listing Rules alone to regulate related- party transactions may not be sufficient. Key annual disclosures In addition to the audited financial statements, companies are required by the Listing Requirements and the CA to disclose in their annual reports: The names of the substantial shareholders and their direct and deemed interests, stating the number and percentage of shares in which they have an interest, as shown in the register of substantial shareholders of the publicly listed company.4 The direct and deemed interests of each director (including number and percentage) in the publicly listed company, or in a related corporation, as stated in the register of substantial shareholders. The number of holders of each class of equity securities and any convertible June 2005 Page 2  Corporate Governance Assessment Malaysia securities, and the voting rights attaching to each class. Immediate disclosure Under the continuous disclosure regime, publicly listed companies are required to of material events make immediate disclosure of all material (price sensitive) information. Such announcements are submitted to Bursa. Company oversight and the board Composition of the The board of each listed company is required by the Listing Requirements to have board a balance of executive directors and independent directors. The Malaysia Code of Corporate Governance recommends that at least one-third of the board should consist of independent directors. The Listing Requirements stipulate that at least 2 directors or one-third of the board, whichever is higher, must be independent. In practice, most boards have about 7 to 9 directors. One reason that most boards are of relatively small size is the shortage of suitable independent directors, as the larger the board size the higher the number of independent directors that must be appointed. Board independence The MCCG recommends the appointment of committees with clearly stated The Listing responsibilities to assist the board, including an audit committee (see below) and a Requirements require remuneration committee, comprised wholly or mainly of non-executive directors. a minimum of one- Its function is to recommend to the board the remuneration of the executive third independent directors, drawing on outside advice if necessary. The remuneration of non- directors and the executive directors is a matter for the board as a whole. Directors must abstain appointment of an from discussing their own remuneration. Audit Committee and a According to the explanatory notes of the MCCG, the role of independent Remuneration directors is to: Committee to assist the contribute to the formulation of the company's strategy. board. However, the role of independent provide complementary skills and experience to the company, derived from directors needs further their diverse backgrounds. clarification. represent their respective significant shareholders' interests on the board. provide a balanced and independent view. It is difficult to reconcile how an independent director can represent his./her respective shareholders and still provide a balanced and independent view. Even more importantly, accountability to specific shareholders contradicts the fiduciary duties of board members, as defined by the CA. This matter needs to be addressed. Audit committee According to the MCCG, boards of listed companies are required to appoint an Audit Committee. The majority of the members and the chairman of the Committee must be independent. One of the key functions of the Audit Committee is to review the quarterly results prior to approval by the board, which indirectly fixes the minimum number of times the Audit Committee must meet in a year. There is room for further improvement in the function of Audit Committees with respect to the external auditors. Directors' duties The CA imposes a number of general and specific duties on directors. One of their general duties is a fiduciary duty to act in good faith and in what they believe to be the best interests of the company as a whole. The CA codifies the directors' duties and, in some instances, sets standards that directors are expected to meet. June 2005 Page 3  Corporate Governance Assessment Malaysia Director training All directors of publicly listed companies are required to attend a mandatory training program known as the Mandatory Accreditation Program (MAP). The curriculum covers topics on corporate governance, duties, responsibilities and liabilities of directors, risk management and the legal framework, amongst others.5 In addition to MAP, the Listing Rules require companies with financial year end of December 31, 2005 onward to disclose in the annual report the training attended by directors apart from the MAP. Enforcement Power of SC The Securities Commission (SC) is responsible for investor protection. It also is obliged by statute to encourage and promote the development of the securities and futures markets in Malaysia. The SC has broad authority over companies seeking to issue or offer securities to the public. The penalties for failure to submit a proposed offering to the SC for approval or for submitting false and misleading information in connection with the application are severe