A 2005 Report on the Observance of Standards and Codes (ROSC) on Corporate Governance by the World Bank states that there have been significant reforms improving corporate governance in line with international best practices in Pakistan. In 2002, the Securities and Exchange Commission (SECP) introduced a Code of Corporate Governance thereby establishing a framework for good corporate governance practices for listed companies. The Code is a result of joint efforts of the SECP and Institute of Chartered Accountants of Pakistan. A 2004 International Monetary Fund Financial System Stability Assessment report reiterated that Pakistan's corporate governance regulations are "extensive and comprehensive" and the Code of Corporate Governance is broadly in line with Organization for Economic Co-operation and Development (OECD) Principles. Nonetheless, weaknesses persist and the World Bank assessment recommended that compliance be improved in three main areas: disclosure of beneficial ownership, reporting of related party transactions, and rules on Annual General Meetings. Further, the report finds that ownership is concentrated, thereby limiting the influence of minority shareholders. The report also observes that the Code is weak with regards to the provisions for independent directors. A 2006 paper by Haroon H. Hamid and Valeria Kozhich further adds that the definition of "independent" covered in the Code does not address minority shareholder rights. Also, the World Bank finds that the fiduciary duties for board of directors are relatively under-developed in Pakistani law.

General Overview

A 2005 World Bank assessment benchmarked Pakistan against the Organization for Economic Cooperation and Development (OECD) Principles of Corporate Governance. According to the report, Pakistan's "awareness of the importance of good corporate governance is high among policymakers and standards setters" (p. 1). For instance, in 2002 the securities market regulator - the Securities and Exchange Commission of Pakistan (SECP) - issued a Code of Corporate Governance, which is mandatory for all listed companies. The report finds that compliance with the Code has been improving. A credit rating agency has developed a methodology to rate corporate governance, and as of 2005 had performed nine assessments. In addition a public-private partnership - the Pakistan Institute of Corporate Governance (PICG) - has been established to provide training to directors and disseminate greater awareness on corporate governance practices. Nonetheless, many weaknesses were identified and the assessment noted that ownership is concentrated and that "ownership structure, combined with thresholds to initiate corporate actions (e.g. to call a shareholder meeting) have limited the effective protection of external investors" (p. 2). Also, the assessment notes that although the SECP has become more active in enforcing its authority, it must prioritize improving compliance in three main areas: disclosure of beneficial ownership, reporting of related party transactions, and rules on Annual General Meetings. A 2006 paper by Haroon H. Hamid and Valeria Kozhich adds that the definition of "independent" covered in the Code does not address minority shareholder rights and elaborates that the voluntary nature of this provision is indicative of the fact that "minority shareholder protection is not yet valued highly in Pakistani corporate sector" (p. 26). Moreover, the paper points out that there are no penal provisions in the Code to act as a deterrent.

The legal framework for corporate governance practices is governed by the Companies Ordinance of 1984 and the Banking Companies Ordinance of 1962. In addition, certain requirements are covered by the listing rules for the three stock exchanges of Pakistan: the Karachi Stock Exchange (KSE), the Lahore Stock Exchange (LSE), and the Islamabad Stock Exchange (ISE). As explained in the 2006 Hamid and Kozhich paper, the Corporate Governance Code provisions are incorporated into the listing requirements of these exchanges.

As the securities market regulator, the SECP ensures compliance with the law, the Code, and the listing requirements for listed entities. The Hamid and Kozhich paper notes that the "comply or explain" regime does not allow an active monitoring role for the SECP. Listed companies only require a statement of compliance signed by a verified accountant and compliance may not always be achieved. The State Bank of Pakistan (SBP), the central bank, is responsible for regulating the banking and financial sector. In addition to the Code, banks must comply with the Prudential Regulations of the SBP and the Banking Ordinance of 1962. The Hamid and Kozhich paper notes that "regulations for banks are more stringent and detailed than those for other listed companies" (p. 23).

According to the 2007 U.S. Country Commercial Guide, the Karachi Stock Exchange (as of 2007) has 658 listed firms with a total market capitalization of USD 46.6 billion. However, only four companies - of which three are state-owned - account for 36.7 percent of market capitalization. The Hamid and Kozhich paper explains that Pakistani corporations have historically been family-controlled and as of 2006, the majority of corporations in Pakistan remained under family control. The three main types of listed corporations comprise multinational, family-controlled, and state-owned enterprises. The paper adds that "a majority of listed corporations are family-controlled via pyramid structures and cross-shareholdings" (p. 24) and for fear of weakening control prefer not to sell shares to minority investors.

In its 2008 Doing Business report, the World Bank rates investor protection in Pakistan as being above the regional and the OECD averages. The Investor Protection Index is a subcomponent of the World Bank's 2009 Doing Business Indicators, and consists of three aspects of investor protection: transparency of transactions (Extent of Disclosure Index), liability for self-dealing (Extent of Director Liability Index) and shareholders' ability to sue officers and directors for misconduct (Ease of Shareholder Suits Index). The indices range between 0 and 10, with higher values indicating greater disclosure, greater liability of directors, and greater powers of shareholders to challenge a transaction, and therefore, better investor protection. Pakistan scores 6.0 in the disclosure index, against a regional average of 4.3 and an OECD average of 5.9. It scores 6.0 in the Director Liability Index, against a regional average of 4.3 and an OECD average of 5.0; and it scores 7.0 in the Shareholder Suits Index, against a regional average of 6.4 and an OECD average of 6.6.

The Principles

Principle I: Ensuring the Basis for an Effective Corporate Governance Framework

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The 2005 World Bank assessment rates Pakistan's observance with the sub-principles of Principle I as follows: "Overall corporate governance framework" was rated as "observed" indicating that all essential criteria are met without significant deficiencies. "Legal framework enforceable, and transparent," "Regulatory authorities have sufficient authority, integrity and resources" and "Clear division of regulatory responsibilities" were rated "largely observed" indicating that only minor shortcomings are observed that do not raise questions about the authorities' ability and intent to achieve full observance in the short term.

The IMF's Financial System Stability Assessment conducted in 2004 concluded that Pakistan's corporate governance regulations are extensive and comprehensive. In addition to the detailed corporate governance provisions in the Company Ordinance the report points out that the SECP "issued a detailed Code of Corporate Governance in March 2002 for all listed companies that is broadly in line with OECD Principles" (p. 23).

The SECP ensures compliance with the law, the Code and the listing requirements for listed entities. However, the Hamid and Kozhich paper notes that the "comply or explain" regime does not allow an active monitoring role for the SECP. Listed companies only require a statement of compliance signed by a verified accountant and compliance may not always be achieved. The World Bank recommended that the SECP should work towards building its enforcement capability. The report added that "key steps include increasing the technical level of staff in key areas (particularly legal and accounting experts), continuing to define enforcement priorities, and refining enforcement procedures" (p. 5). The State Bank of Pakistan (SBP) is the central bank and is responsible for regulating the banking and financial sector. In addition to the Code, banks must comply with the Prudential Regulations of the SBP and the Banking Ordinance of 1962. The Hamid and Kozhich paper notes that "regulations for banks are more stringent and detailed than those for other listed companies" (p. 23).

Principle II: The Rights of Shareholders and Key Ownership Function

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The 2005 World Bank assessment rates Pakistan's observance with the sub-principles of Principle II as follows: "Basic Shareholder rights," "Shareholders should be allowed to consult with each other," "Shareholder's Annual General Meeting rights," and "Rights to participate in fundamental decisions," were rated "largely observed" indicating that only minor shortcomings are observed that do not raise questions about the authorities' ability and intent to achieve full observance in the short term. "Disproportionate Control Disclosure" and "The functioning of control arrangements" were rated as "Partially Observed," indicating that while the legal and regulatory framework complies with the Principle, practices and enforcement diverge. "The exercise of ownership rights by all shareholders" was rated "materially not observed" indicating that despite progress, deficiencies raise doubts on the authorities' ability to achieve observance.

The 2006 paper by Hamid and Kozhich explains that the definition of "independent" covered in the Code does not address minority shareholder rights. The paper adds that the voluntary nature of this provision is indicative of the fact that "minority shareholder protection is not yet valued highly in Pakistani corporate sector" (p. 26). Moreover, the paper points out that there are no penal provisions in the Code to act as a deterrent. The World Bank noted that overall, the legal framework for basic shareholder rights is well established in Pakistan, and only relatively minor changes are needed in this area. However, other areas require improvements and the World Bank made recommendations including introduction of distance voting for the Annual General Meeting, by post or electronic means, prohibiting significant shareholders from voting when a conflict of interest is present and lowering the thresholds for shareholder action against companies and directors.

Principle III: The Equitable Treatment of Shareholders

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In its 2005 Corporate Governance Country Assessment, the World Bank rated Pakistan's observance with the sub-principles of Principle III as follows: "Prohibit insider trading" was rated as "partially observed," indicating that while the legal and regulatory framework complies with the Principle, practices and enforcement diverge. "Equitable treatment of shareholders," and "Board/management disclose interests" were rated as "largely observed," indicating that only minor shortcomings are observed which do not raise questions about the authorities' ability and intent to achieve full observance in the short term.

The World Bank notes that the Securities and Exchange Ordinance of 1969 (SEO 1969) regulates insider trading, and the laws are enforced by the SECP, which has also issued Insider Trading Guidelines. Any "associated" person is prohibited from trading in his or her company's shares if he has information not "generally available", and which would affect the price of the securities, or related to any company transaction. "Associated" people include officers, employees, and any person with a "professional or business relationship which gives [them] access" (p. 18).

Following the assessment a number of recommendations were made and the World Bank noted that although shareholders are required to disclose direct and indirect ownership, market participants cautioned that generally only direct ownership is reported. Also, many shareholders avoid this requirement by holding less than the 10 percent threshold. The World Bank recommended that the requirement for shareholders to disclose indirect ownership should be clarified in the law. Further, companies should be required to disclose a list of significant shareholders in their annual report and shareholders should disclose all shareholder agreements.

Principle IV: The Role of Stakeholders in Corporate Governance

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In its 2005 Corporate Governance Country Assessment, the World Bank rated Pakistan's observance with the sub-principles of Principle IV as follows: "Performance-enhancing mechanisms" and "Stakeholder rights respected" were rated "observed" indicating that all essential criteria are met without significant deficiencies. "Redress for violation of rights" and "Stakeholders rights to communicate concerns about unethical and illegal practices to the board" were rated "partially observed" indicating that while the legal and regulatory framework complies with the Principle, practices and enforcement diverge. "Access to information" and "Effective insolvency framework and creditor's rights" were rated as "largely observed," indicating that only minor shortcomings are observed, which do not raise questions about the authorities' ability and intent to achieve full observance in the short term.

The World Bank assessment explains that creditor protection used to be weak in Pakistan, however, significant reform has taken place since. For instance, the establishment of Banking Courts and legal changes to facilitate the collection and resale of collateral has improved the protection of creditors' rights. In addition, the report adds, "a variety of standard measures developed by the World Bank for 130 countries confirm that compared to its regional neighbors, Pakistan has relatively strong creditor rights" (p. 20). The report adds that while employees do not have a right to sit on boards, they are represented by works councils. Creditors can nominate directors to the board "by virtue of contractual agreement" and some companies have also started to adopt whistleblower policies. The World Bank explains that "labor/trade unions have a 'collective bargaining agent' who presents the grievances of employees on their behalf. However there is no specific whistleblower protection under the law" (p. 20).

Principle V: Disclosure and Transparency

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In its 2005 Corporate Governance Country Assessment, the World Bank rated Pakistan's observance with the sub-principles of Principle V as follows: "Disclosure standards," "Independent audit annually," "Standards of accounting and audit," "Fair and timely dissemination" and "Disclosure of conflicts of interests by analysts, brokers, rating agencies etc." were rated as "largely observed," indicating that only minor shortcomings are observed, which do not raise questions about the authorities' ability and intent to achieve full observance in the short term. "External auditors should be accountable to shareholders" was rated as "partially observed," indicating that while the legal and regulatory framework complies with the principle, practices and enforcement diverge.

According to a 2003 publication by Cheema, Bari and Siddique, the Companies Ordinance provides a regime for detailed financial disclosure requirements and, more specifically, Section 233 of the Ordinance mandates the presentation by directors of a balance sheet and a profit and loss account at every annual general meeting. These reports are to be accompanied by an auditor's report and a director's report required to be made available to every member of the company, the SECP, the stock exchange and the Registrar. Nevertheless, the World Bank notes that although Pakistan has a Code of Corporate Governance in place since 2002, there are no disclosure requirements regarding employees and other stakeholders in the law or Code. With regards to financial reporting, according to the 2005 Accounting and Auditing Report on the Observance of Standards and Codes (ROSC) by the World Bank, Pakistan has "largely" adopted International Financial Reporting Standards (IFRS) as promulgated by the SECP in consultation with the Institute of Chartered Accountants of Pakistan (ICAP). Pakistan has also adopted International Standards on Auditing (ISA) without any modifications, however it is unclear whether all the latest revisions made by the International Auditing and Assurance Board have been incorporated. Further, members of ICAP must follow the Code of Ethics, revised in 2003 to comply with the IFAC Code.

Principle VI: The Responsibilities of the Board

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In its 2005 Corporate Governance Country Assessment, the World Bank rated Pakistan's observance with the sub-principles of Principle VI as follows: "Board should act on a fully informed basis, in good faith, with due diligence and care," "Treat shareholders fairly," "The board should fulfill certain key functions" and "The board should be able to exercise objective judgment" were rated "partially observed" indicating that while the legal and regulatory framework complies with the Principle, practices and enforcement diverge. "Access to information" was rated as "observed," indicating that all essential criteria are met without significant deficiencies. "The board should apply high ethical standards" was rated "largely observed" indicating that only minor shortcomings are observed, which do not raise questions about the authorities' ability and intent to achieve full observance in the short term.

The 2003 Cheema, Bari and Siddique report explains that the "major thrust" of the Code of Corporate Governance was to "restructure the board of directors in order to make it accountable to all shareholders; to strengthen internal control systems of corporations; to foster better disclosure and to strengthen internal and external audit requirements of listed companies" (pp. 182-183). The report also points out that "the Code makes a bold attempt at giving some definite shape and direction to the role of the Chairman of the BODs [Board of Directors] in Pakistan's Corporate Governance environment" (p. 184). However, according to the World Bank, fiduciary duties are relatively under-developed in Pakistani law. The assessment notes that "existing fiduciary duties are based primarily on a limited amount of case law, which is sparse and emphasizes loyalty to the company (not shareholders) and the provisions on conflict of interest in the Companies Ordinance (CO)" (p. 25). Pakistan has been taking a few initiatives in that direction and in 2004 the Pakistan Institute of Corporate Governance (PICG) was established to provide an enabling environment for effective implementation of the Code of Corporate Governance. The World Bank observed that the PICG can play a major role in the development of implementation guidelines for boards, and for audit committees. The assessment found the Code's provisions for independent directors relatively weak and recommended that independence provisions of the Code be clarified. In addition, it recommended that the Code should contain an explicit recommendation/requirement that companies should pay adequate compensation to all board members.