An Analysis of Tesco’s Corporate Governance System

Introduction

As defined by Sir Adrian Cadbury, widely acknowledged as the father of the UK Combined Code on corporate governance, it is “…the system by which corporations are directed and controlled…” (Barger, 2004). In 1954 the economists Kenneth J. Arrow and Gerard Debreu in their Arrow-Debreu model (Huang et al, 2004), which is one of the fundamental theorems of economics, states that the firm’s “… objective is to maximize the wealth of their shareholders and individuals pursue their own interests then the allocation is Pareto efficient”. This definition formed one of the foundation cornerstones of The Companies Act 1985 (britlaw, 2004) which was redressed by the Cadbury Committee in 1992 (Dahya et al, 2000), the Greenbury Committee in 1995 (Florou, 2000) and Hampel Report of 1998 (ecgi, 2005) which formulated today’s corporate governance context based on fiduciary responsibility and accountability. The Anglo-Saxon view of corporate governance as held by the United States and the United Kingdom is that corporate “… managers have a fiduciary (i.e. very strong) duty to act in the interests of shareholders” (Allen et al, 2002). Tesco’s Corporate Responsibility Committee, which meets four times per year as a minimum requirement, in publishing its “Corporate Responsibility Review in 2005” (Tesco, 2005) stated that its audit identified strengths of the company in this area as:

• the company’s strong support of the reporting process,
• that the company’s commercial priorities are “… frequently aligned with social, ethical and environmental priorities” (Tesco, 2005)
• “there is a strong positive perception of our Corporate Responsibility record among external stakeholders” (Tesco, 2005)

This same audit, however, revealed that the Committee identified that it had a responsibility to continually develop the company’s Corporate Responsibility strategy and as a result the Committee indicated it had (Tesco, 2005):

• put a programme in place “… to a accelerate…” (Tesco, 2005) the company’s Corporate Responsibility in its international business;
• reviewed as well as updated the company’s CR KPIs as well as its governance structure; and
• that the Committee had strengthened the internal as well as external CR communications strategy

As the first retailer in the United Kingdom to reach the £2 billion profit level (management-issues.com, 2005), the practices of the company naturally come under increased scrutiny, which is a fact of life for all industry leading corporations. Tesco was recently praised for its Corporate Governance record by the International Federation of Accountants which completed a study on why this aspect of corporate responsibility often fails to live up to its mandates and stated that it found Tesco’s record on its choice and clarity of strategy was excellent in that the company’s attention to this areas was reflected in its four point strategy outline, and that Tesco’s execution of its strategy as a good example to the industry (ACCforum, 2004).

In light of the preceding, Tesco’s approach and compliance shall be examined with respect to the Combined Code on Best Practice as well as other criteria.

Corporate governance represents the management and board of a company handling their fiduciary duty and responsibility as agents of the public trust in managing the business operations in accordance with the rules, regulations and ethical codes consistent with the foregoing as well as being accountable for their actions and providing the shareholders and regulatory bodies with clear, accurate and reliable information on the status of the business and its operations. The guidelines were developed as a result of the passive decline in the standards of corporate governance in the United Kingdom as a result of the “… absence of effective ownership” (United Kingdom Shareholders’ Association) (Keasey et al, 2005). Corporate Governance is a set of processes as well as policies, customs, laws and rules tat sets forth the manner in which corporations are controlled as well as the relationships between the stakeholders and how the corporation is this governed. The key components represent the shareholders, along with management and the company’s board of directors, with stakeholders representing the company’s employees, customers, lenders, suppliers and the community at large.

The multi faceted aspects of corporate governance represent the aforementioned fiduciary duty, accountability as well as the varied mechanisms constituting auditing along with control. The principle behind corporate governance represents a system to optimize results and represent the interests of shareholders as well as stakeholders. Tesco’s present system of corporate governance system is a model of these practices, and grew out of criticisms and controversies regarding its tactics and market actions such as its:

1. 2004 reduction in sick pay benefits,
2. misleading pricing tactics
3. dealings with farmers and smaller supplies in that its modes of operations infringes upon selling prices as a result of its clout and how it uses it to affect transactions for goods.
4. The 2004 Adminstore acquisition,

Which the company defended as normal business practices. Tesco’s operational modes have drawn comparisons to the following theories and behavioral models as comments on its operations and business / management styles:

1. The transaction cost theory as developed by Ronald Coase (1937, pp. 386-405) is an example of where opportunistic behavior can also manifest itself in conjunction with the principle agent theory. In most instances in corporate operations, the transaction costs are known through either historical, regulated cost or standard industry practice, however there are instances when the transaction costs are a variable and can be either negotiated or imposed if the conditions support such an approach.

2. The theory of bounded rationality as first postulated by Simon in “Models of My Life” (1991) and then expanded upon in “Models of Bounded Rationality” (Simon, 1997) which states that human beings frequently do not think things through as a result of pressures on our time, thus many of our decision are constrained by the limitations of our mind and the manner in which it operates, structure. Thus, as Simon (1997) indicates our logical choices may seem logical to ourselves, but might not be viewed or be interpreted in the same manner by others.

3. Max Weber’s (1968) “methodological individualism” makes a claim that social phenomena is explained by looking into how individual actions contribute to the result and how that is explained by looking at intentional aspects which thus influence and motivate creating “… an action frame of reference…” (Parsons, 1937, pp. 43-51). Weber (1968, p. 13) represents an examination of the interpretive patterns of explanation and thus we tend to act in ways as supported by our successes, peer group positioning, profession, successes and failures and other inputs. In the context of corporate operations and those in decision making roles and positions of authority, the opening for opportunistic behavior, and its abuse is a coefficient of ethics and knowing where the line is in both stated rules and regulations guiding and governing one’s position or profession and the correct interpretation of such whereas openings that constitute taking advantage of ambiguities is an example of this concept. The area of executive compensation represents an example of this context, when executives arrange for bonuses and other compensation that flirts with stretching the boundaries of ethics and corporate responsibility.

4. In a business management context the ‘Principle Agent Theory’ (Guston, 1996) deals with the varied intprepretations and difficulties that can be encountered when there are ambiguities in informational content as well as the variable of asymmetrical information whereby the agent knows more about the product or service than the individual engaging them. In the corporate governance context, stockholders in the hiring or approving of the hiring of executives and other decisions represent the foregoing.

The Guidelines of the Combined Code details rules and practices that deal with (fas.gov.ul, 2004):

1. Principles of Good Governance
   1. Section 1 Companies

1. Directors

The specifications of management and the board of directors in the performance of their duties and operations as well as performance in these capacities.

2. Directors’ Remuneration
3. Relations with Shareholders
4. Accountability and Audit

2. Section 2 Institutional Shareholders

5. Institutional Investors

2. The Code of Best Practice
   1. Which sets forth the meeting time frames for the Board and procedures associated with director independence and the principles and responsibilities for executives as well as remuneration, reporting and duties.
   2. Relations with Shareholders governing the reporting of information and the legal requirements and provisions associated with this function.
   3. Accountability and Audit and the responsibility to present a balanced as well as understandable assessment, along with sound internal controls to safeguard shareholders’ investment and the assets of the company.

3. Institutional Shareholders
   1. Setting forth voting and a policy of dialogue as well as governance evaluation

Tescos’ operational history reveals a pattern of flirting with as well as touching, but not necessarily crossing ethical lines with respect to opportunistic behavior, the principle agent theory as well as methodological individualism and these criticisms it has drawn in public and business circles has created the environment whereby it has stepped up its corporate governance activities. Scandals such as Tyco International, Worldcom and Enron have made the public sensitive to corporate governance issues and Tesco’s internal actions seem to be directed at making progress in this regard. The Enron scandal in the United States, which helped in the passage of the Sarbanes-Oxley Act (FindLaw, 2002), which sets forth definitive rules, regulations and guidelines for public companies in the performance of their fiduciary responsibilities is the definitive example of a lack of a sense of ethics, corporate governance, public company reporting and financial mismanagement. Key executives in this company violated ethical behavior standards, as well as defined securities laws in a case of willful fraud as well as corruption.

Conclusion

Weir et al (2002) addressed the environment of the Code of Best Practice and its impact on the performance of 312 publicly traded companies in the United Kingdom and indicated that external control mechanisms represent more effective applications than internal ones which will seek to support the activities of the company in attaining its goals and objects. As a successful retailer in the United Kingdom Tescos’ activities are always under intense scrutiny by the public as well as competitors and while the company has skirted issues as well as flirted with ethical boundaries, its overage operational record in this sense is not alarming.

The criticism’s the company has drawn however does represent a pattern of behavior that it needs to continually address and from indications as of late, the foregoing seemingly is the present case. The ripple effect of what corporations do have implications for others sometimes which exceeds their vision to foresee, and Tescos’ long view in this area suffers from rose colored glasses which it needs to be mindful of in future dealings.

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