An investor bought shares in a company and became a part-owner.

But the next morning, they won’t head to the company’s headquarters to decide whom to hire, how much to spend, or which project to launch. Ownership is one thing; managing day-to-day operations is another.

And that raises a simple but important question:

If shareholders own the company, who makes the decisions—and who oversees those making them?

This question leads us to the concept of corporate governance: the relationship between the parties involved in shaping a company’s direction and performance. Among the concepts covered in Dr. @Mehran Hafiz Allah’s Strategic Management course at Al Yamamah University is the relationship between three key parties in governance: shareholders, the board of directors, and management, led by the CEO.

Three parties, different roles

Shareholders are the owners, but they do not usually manage the company’s day-to-day details. That is why they elect a Board of Directors to represent their interests.

Executive management, led by the CEO, runs the company’s operations and makes executive decisions.

The board of directors plays an important role between these two parties. One of the concepts covered in the Strategic Management course is that the board is responsible for aligning management’s interests and incentives with those of the owners, as well as addressing incentives, oversight, and governance mechanisms.

Put simply: shareholders own, management runs, and the board oversees and guides.

Why do we need this relationship in the first place?

Because the people who manage a company’s money are not necessarily the people who own it.

Management may make a decision that benefits the company and its shareholders in the long run. In some cases, however, interests or incentives may emerge that do not fully align with what the owners want.

This issue has a well-established foundation in management and economics literature known as agency theory. It examines the relationship between those who delegate the management of their interests and those who manage them, as well as what can happen when the parties’ interests do not fully align. A foundational reference in this field is a 1976 study by Michael C. Jensen and William H. Meckling, which examined agency costs and their relationship to the separation of ownership and control in companies.

That is why governance is not only about who has the authority to make decisions, but also about the more important question: how is that authority overseen?

This helps explain why a company’s products or profits alone are not enough to assess it. How responsibilities are divided among shareholders, the board of directors, and executive management is part of how the company itself is directed.

Ownership does not mean management

The relationship between an owner and a manager may seem straightforward in a small shop: the same person might own the business, run it, and decide how to spend its money.

But when a company grows and its capital is divided among a large number of shareholders, the picture changes.

Governance then becomes the framework that regulates the relationship between those who own the company, those who manage it, and those who oversee its management.

So when we hear that a company has changed its CEO or that its board has made an important decision, it is not simply a matter of changing names at the top of the organizational chart.

It brings us back to a fundamental question in the corporate world:

Who owns? Who manages? And who oversees the managers?

Theoretical reference:
Michael C. Jensen & William H. Meckling, Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure, Journal of Financial Economics, 1976.

https://doi.org/10.1016/0304-405X(76)90026-X

Disclaimer: This material was prepared under the supervision of a Yamamah Insights editor and with the assistance of artificial intelligence tools for financial education purposes. It is not a recommendation to buy, sell, or hold any security, and it expresses the views of its authors, not those of the platform.