The document analyzes the failure of corporate governance in the telecommunications industry and recent reform efforts. It discusses how a lack of oversight and toxic cultures at companies like WorldCom led to massive accounting scandals and failures. Reform efforts included the Sarbanes-Oxley Act, which aimed to improve internal controls and board oversight. Recent proposals emphasize the board's role in monitoring management, aligning executive pay with long-term performance, and engaging with shareholders. Good corporate governance with transparency, accountability and an emphasis on sustainability is important for companies to avoid failures and crises.

1. The Crisis of Corporate
Governance and Its Reform
TELECOMMUNICATION INDUSTRY
Charlie Chen | October 20, 2013

2. Introduction
This research report analyzes the failure of corporate governance in telecommunication
industry and its recent reform through literature review, root cause analysis and recent
strategic development in the reform of cooperate governance.
This report pays particular attention to corporate governance in the telecommunications
industry, and, highlights areas of corporate governance reform in this sector and broad
industry as well.
The report examines the evolution of corporate governance in this sector and investigates
the failure of cooperate governance and its negative impacts on the business (using some
of the landmark cases as examples). It also outlines/examines the reform approaches and
recommends good policies and practices which should contribute to sustainable and
valued creation of the business.
Literature Review of Corporate Governance
DEFINITIONS OF CORPORATE GOVERNANCE
Corporate governance is, “the framework of rules, relationships, systems and processes
within a corporation, and by which authority is exercised and controlled in the
corporation.” It encompasses the mechanisms by which companies, and those in control,
are held to account. Corporate governance influences how the objectives of the company
are set and achieved, how risk is monitored and assessed, and how performance is
optimized(ASX Corporate Governance Council, 2010, p. 3).
COMPETITIVE MARKET SELECT FIRM WITH GOOD COOPERATE GOVERNANCE
Some of the literature on corporate governance adopted a Darwinian view of
organizations (Kole & Lehn 1997).
Those researchers suggested the firm success in competitive market should have a good
corporate governance. The firm which failed in the competitive market supposedly did
not have good corporate governance. The competitive market acts as a natural selector for
firms having good or bad corporate governances.
AGENCY THEORY
Internal and external governance mechanisms help to bring the interests of managers in
line with those of shareholders including: An effectively structured board; Compensation
contracts that encourage shareholders orientation; Concentrated ownership holdings that
lead to active monitoring of executives.
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3. Agency theory claims shareholders have the right to residual claims since they are the
residual risk bearers…They have a direct interest in the allocation of corporate resources
to make the largest residual possible. Agency Theory are guided by the assumption of
utility-maximizing, self-interested human behavior (Clarke, 2007, P.24).
BOARD OF DIRECTORS AND EXECUTIVE COMPENSATION
Based on Hermalin and Weisbach’s research, (1) high proportions of outside directors are
associated with better decisions-making; (2) Board size is negatively related to both
general organization performance and the quality of decision-making; (3) Poor company
performance, CEO turnover, and changes in ownership are often associated with changes
in the board (Hermalin, et al. 2001).
The US survey, performed by Murphy and Core, supports several board compensation
conclusions. First, the sensitivity of pay to performance has increased. Second the
majorities of this pay are executive stock options. However, the interrelationship between
executive compensation and other corporate governance mechanisms remains a fruitful
area (Denis, et al., 2001).
OWNERSHIP AND CONTROL
Himmelberg, Hubbard, and Palia (1999) used panel data and concluded that a large
fraction of the cross-sectional variation in managerial ownership is endogenous (Denis, et
al., 200, p.14).
Ownership by insiders and by foreign investors is most often associated with better
performance of the company (Denis, et al., 2001, p.21).
LEGAL PROTECTION
Shleifer and Vishny (1997) believed that good corporate governance systems are a
combination of legal protection of investors and some form of concentrated
ownership(Denis, et al., 2001, p.28).
The Crisis of Corporate Governance
THE TELECOM CRASH IN USA
Company
Bankruptcy Date
Liabilities
WorldCom Inc.
7/21/2002
45.9BN
Adelphia Communications Corp.
6/25/2002
17.3BN
Global Crossing Ltd.
1/28/2002
14.6BN
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4. NTL Inc.
5/8/2002
14.1BN
Williams Communications Group
Inc.
4/22/2002
7.1BN
XO Communications Group Inc.
6/17/2002
5.8 BN
(Harmantzis, 2004, p.5)
THE CRISIS OF WORLDCOM CORPORATE GOVERNANCE
The Rising Star
From 1995 until 2000, WorldCom purchased over sixty other telecom firms. In 1997 it
bought MCI for $37 billion. It was the largest corporate merger of US history. In the mid
90’s WorldCom moved from long distance discount voice carrier into Internet and data
communications carrier market. It was handling 50 percent of all United States Internet
traffic and 50 percent of all e- mails worldwide.
By 2001, WorldCom owned one-third of all data cables in the United States. • Its Market
Value 125 Billion and stock price @$63.50(WorldCom, Capital Edge, Kshitiji 2012).
The Falling Star
Beginning modestly during mid-year 1999 and continuing at an accelerated pace through
May 2002, the company (directed by Bernie Ebbers (CEO), Scott Sullivan (CFO), David
Myers (Controller) and Buford Yates (Director of General Accounting)) used fraudulent
accounting methods to disguise its decreasing earnings to maintain the price of
WorldCom’s stock.
The Catastrophes of its Failure
On July 21, 2002, WorldCom Filed for Chapter 11 bankruptcy protection which was the
largest such filing in the United States History at the time ($4.58 bn in liabilities). The
company defaulted within two months of the decline to “junk” status. The largest
corporate accounting scandal in the United States, estimated at $11BN as of March 2004
Almost 20,000 employees lost their jobs. Investors lost more than 180bn (Harmantzis,
2004)
THE RESPONSE OF US PRESIDENT AND US CONGRESS
President Bush called for tough new legislation to restore faith in American business. Mr
Bush said those guilty of corporate fraud should be sent to jail for the sake of US
capitalism. He argued that people guilty of such abuses should be prevented from holding
high-level business positions again.
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5. TH ROOT CAUSE OF WORLDCOM CORPORATE GOVERNANCE FAILURE
Lacking Corporate Governance
The Root Cause of WorldCom’s Failure was lacking corporate governance. The
WorldCom case has become a kind of poster child and a genuine case study in the failure
of corporate governance, in this new century. (Thornburgh, 2004)
Incompetence of the Board of WorldCom
The company’s board of directors was not paying attention to how the company was
running. Along the way, WorldCom amassed billions of dollars in debt, weighing down
its sagging cash flow with massive debt-service obligations. The Board of directors had a
“habit of rubber stamping senior management decisions without scrutinizing” (Capital
Edge, 2012)
Toxic Culture of Senior Management Team
The senior management team of WorldCom believed that their actions were not “really”
illegal. They set unrealistic financial targets and inability to meet them. The account
department recorded of a/c entries without any evidence. Company was capitalizing its
line costs. (Line costs were operating expenses but WorldCom classified as capital
expenditure).
Corrupted Senior Management Team
Chief Financial Officer Scott Sullivan and Controller David Myers were arrested. Myer’s
pleaded guilty for three accounts of conspiracy. Buford Yates Jr. pleaded guilty for two
accounts of securities fraud and conspiracy. At his peak in early 1999, Ebbers was worth
an estimated $1.4 billion and listed at number 174 on the Forbes 400. Time Magazine
named him the tenth most corrupt CEO of all time.
The Recent Reform Efforts from Regulators
SARBANES-OXLEY ACT
The response of the US Congress to the push of major reform in corporate governance
appeared at that time was to rush pass the Sarbanes-Oxley Act. This legislation attempted
to place a new regime of internal controls in US corporations, but reverberated in
business regulation around the world. (Clarke, 2007, p.17)
OECD CORPORATE GOVERANANCE PRINCIPLES
The corporate governance framework should:
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6. 




Promote transparent and efficient markets, be consistent with the rule of law and
clearly articulate the division of responsibilities among different supervisory,
regulatory and enforcement authorities.
Ensure the equitable treatment of all shareholders, including minority and foreign
shareholders. All shareholders should have the opportunity to obtain effective
redress for violation of their rights.
Recognize the rights of stakeholders established by law or through mutual
agreements and encourage active cooperation between corporations and
stakeholders in creating wealth, jobs, and the sustainability of financially sound
enterprises.
Ensure that timely and accurate disclosure is made on all material matters
regarding the corporation, including the financial situation, performance,
ownership, and governance of the company.
Ensure the strategic guidance of the company, the effective monitoring of
management by the board, and the board’s accountability to the company and the
shareholders (OECD, 2004).
THE MAJOR CORPORATE GOVERNANCE CHANGES
POST-SOX corporate governance changes can be grouped into three categories: AuditRelated Changes, Board-Related Changes and Accounting Rule Changes (Clark, 2006).
Audit-Related Changes
Most important post-SOX governance changes are relating to the processes of auditing
and presenting financial data. Under the new regime, public company must have an
internal control and it must be tested and evaluated by external auditors.
Board-related Changes
Require public companies to have majority of independent directors on their board. Key
committees can have only independent directors. This mandated change should
encourage the board of directors act as judgmental monitors with due diligence of the
management of the company and reduce the conflict of interests. The new standard also
requires independent directors of the board to hold regularly scheduled executive sessions
without present of company’s management and other insiders.
Accounting Rule Changes
SOX 302 requires executive officers and principal financial officers to provide personal
certified financial statement, quarterly and annual reports. Public companies must now
identify and discuss their “critical accounting policies” in their annual report. The Critical
Accounting Policy is one that is heavily dependent on managerial judgments and
estimates, and also economically significant to the company in question.
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7. THE PROPOSED NEW CORPORATE GOVERNANCE PRINCIPLES
The Business Roundtable (association of chief executive officers of leading U.S.
companies with more than $6 trillion in annual revenues) of Corporate Governance
Committee recommended following corporate governance guiding principles:
1. The duty of the board of directors of a public corporation is to select a chief
executive officer and to oversee the CEO and senior management in the
competent and ethical operation of corporations.
2. It is the responsibility of management to operate the corporation in an effective
and ethical manner to produce long-term value for shareholders. The board of
directors, the CEO and senior management should set a “tone at the top” that
establishes a culture of legal compliance and integrity. Directors and management
should never put personal interests ahead of or in conflict with the interests of the
corporation.
3. It is the responsibility of management, under the oversight of the board, to
develop and implement the corporation’s strategic plans, and to identify, evaluate
and manage the risks inherent in the corporation’s strategy. The board of directors
should understand the corporation’s strategic plans, the associated risks, and the
steps that management is taking to monitor and manage those risks.
4. It is the responsibility of management, under the oversight of the audit committee
and the board, to produce financial statements that fairly present the financial
condition and results of operations of the corporation and to make the timely
disclosures investors need to assess the financial and business soundness and risks
of the corporation.
5. It is the responsibility of the board, through its audit committee, to engage an
independent accounting firm to audit the financial statements prepared by
management and issue an opinion that those statements are fairly stated in
accordance with Generally Accepted Accounting Principles.
6. It is the responsibility of the board, through its corporate governance committee,
to play a leadership role in shaping the corporate governance of the corporation
and the composition and leadership of the board.
7. It is the responsibility of the board, through its compensation committee, to adopt
and oversee the implementation of compensation policies, establish goals for
performance-based compensation, and determine the compensation of the CEO
and senior management. Compensation policies and goals should be aligned with
the corporation’s long-term strategy, and they should create incentives to innovate
and produce long-term value for shareholders without excessive risk. These
policies and the resulting compensation should be communicated clearly to
shareholders.
8. It is the responsibility of the corporation to engage with long term shareholders in
a meaningful way on issues and concerns that are of widespread interest to long-
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8. term shareholders, with appropriate involvement from the board of directors and
management.
9. It is the responsibility of the corporation to deal with its employees, customers,
suppliers and other constituencies in a fair and equitable manner and to exemplify
the highest standards of corporate citizenship.
These responsibilities and others are critical to the functioning of the modern public
corporation and the integrity of the public markets. No law or regulation can be a
substitute for the voluntary adherence to these principles by corporate directors and
management in a manner that fits the needs of their individual corporations (Principles of
Corporate Governance 2012)
RECOMMENDED EXECUTIVE COMPENSATION REFORM
In their new paper, "Paying for Long-Term Performance" (Bebchuk et al. 2010),
Professors Lucian Bebchuk and Jesse Fried offer some concrete suggestions for ways to
tie executive compensation to a company's long term performance. Bebchuk and Fried
argue that equity incentives can be designed to prevent the gaming of equity grants both
at the front end, when they are granted, and at the back end, when they are exercised.
By requiring executives to hold the equity for a longer period of time, boards will not
need to replenish that executive's holding as frequently. This will also reduce the
incentives to focus on the short-term profits, since the payoff from his or her equity will
depend on stock prices in the long run.
COOPERATE GOVERNANCE FRAMEWORK
The failure and closure of prominent organizations around the world has raised serious
questions regarding the effective and efficient ways in which companies are being
managed and controlled. This has led to the publication of various Corporate Governance
related guidelines and legislations, e.g. the King III Report on Corporate Governance in
South Africa. How to deal with Corporate Governance is an issue that can no longer be
ignored by both public and private sector organizations.
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9. All Board of Directors, individual directors and executive managers have a duty and
responsibility to ensure that good Corporate Governance principles are being observed in
their organizations. Executive Management are required to demonstrate that they have the
necessary integrity, experience and competence needed to direct and control the
organizations they are responsible for
(http://www.analytix.co.za/Consulting/CorporateGovernance.aspx).
Conclusion
Telecommunication industry deregulation in 90’s has provided a natural experiment of
what kind of crisis can lack of corporate governance bring to us. Many contemporary
corporate governance failure cases in US and Australia represented wake up calls for us
to pay attention to corporate governance. Based on my observation, without or lack of
good corporate governance, in many cases, equivalent to issue CEO a license to failure.
As Thomas Clarke (2007) pointed out, it is the interests of firms, investors and economies
wherever they are based in the world, whatever industry they are in and whatever system
they have adopted, to commit to strive for the highest standards of governance.
Good corporate governance is the mechanism to ensure the sustainability of the company
(balance shot term gain and long term prospect).
The author believes, business need to focus on the reform in the following key areas of
corporate governance:
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10. 
Vision transparency,

Performance monitoring,

Effectiveness,

Accountability for business activities as well as organization’s social values.
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