Corporate Governance Flashcards
Overview of corporate governance?
Corporate governance can be dated back to 1992 with publication of Cadbury Report
Coloroll, Polly Peck, Maxwell Communications Corporation
City wanted good practice proposals which would:
- Reinforce the responsibilities of executive directors;
- Strengthen the role of the non-executive director;
- Make the case for audit committees of the board;
- Restate the principal responsibilities of auditors; and
- Reinforce the links between shareholders, boards and auditors
Abuse of trust:
- direct extraction from the company of excessive benefits by management (large salaries, share options)
- manipulation of the share price by misrepresenting the company’s profitability (so shares can be sold or options ‘cashed in’)
In US, Sarbanes Oxley Act (2002) introduced (rigorous corporate governance laws)
In UK, the Combined Code introduced (set of best practice corporate governance initiatives)
What is corporate governance?
The means by which a company is operated and controlled
Aim – to ensure that companies are well run in the interests of shareholders and the wider community.
Concerned with:
Responsibilities of directors;
- the appropriate composition of the board of directors
- the necessity for good internal control;
- the necessity for an audit committee; and
relationships with the external auditors
Particularly important for publicly traded companies
What is the OECD ?
Organisation for Economic Co-operation and Development
1999, revisions in 2004, 2015 and 2023.
Intended to:
Assist member and non-member governments in their efforts to evaluate and improve the legal, institutional and regulatory framework for corporate governance in their countries
Provide guidance and suggestions for stock exchanges, investors, corporations, and other parties that have a role in the process of developing good corporate governance
What is the OECD principles Framework?
The OECD Principles of Corporate Governance
The six principles are concerned with:
Ensuring the basis for an effective corporate governance framework.
The rights and equitable treatment of shareholders and key ownership functions.
Institutional investors, stock markets and other intermediaries.
The role of stakeholders in corporate governance.
Disclosure and transparency.
The responsibilities of the board.
What is the status of OECD principles?
The Principles represent a common basis that OECD Member countries consider essential for the development of good governance practice
They are intended to be concise, understandable and accessible to the international community
They are not intended to be a substitute for government or private sector initiatives to develop more detailed ‘best practice’ in governance.
What is the UK corporate governance code?
Reflects the OECD principles
Not a rigid set of rules – ‘comply or explain’
Code is split into 5 parts
:
Board leadership and company purpose
Division of responsibilities
Composition, succession and evaluation
Audit, risk and internal control
Remuneration
What is segregation of roles?
Best practice recommends that the roles of Chairman and Chief Executive officer should be held by different people to reduce the power of prominent board members
Chairman’s role
The Chief executive’s role
Non-executive directors
Advantages of participation by non-executive directors
Disadvantages
What is the composition, succession and evaluation of corporate governance?
Board appointments should be subject to a formal, rigorous and transparent procedure
Effective succession plan for board and senior management
Merit and objective criteria, should promote diversity
Board and committees should have combination of skills, experience and knowledge
Annual evaluation of board, considering its composition, diversity and how effectively members work together to achieve objectives.
Nomination committee with majority of independent NEDs
What is the Audit, risk and internal control including audit committees?
Board should establish formal and transparent policies and procedures to ensure the independence and effectiveness of internal and external audit functions and satisfy itself on the integrity of financial and narrative statements.
Board should present a fair, balanced and understandable assessment of the company’s position and prospects
Board should establish procedures to manage risk, oversee the internal control framework and determine the nature and extent of the principal risks the company is willing to take in order to achieve its long-term strategic objectives.
What is the function of the audit committee?
Monitoring the integrity of the financial statements
Reviewing the company’s internal financial controls
Monitoring and reviewing the effectiveness of the internal audit function
Making recommendations in relation to the appointment and removal of the external auditor and their remuneration
Reviewing and monitoring the external auditor’s independence and objectivity and the effectiveness of the audit process
Developing and implementing policy on the engagement of the external auditor to supply non-audit services
Reviewing arrangements for confidential reporting by employees and investigation of possible improprieties (‘Whistleblowing’)
What are the benefits of an audit committee?
Provides internal audit department with an independent reporting mechanism
Audit committee will assist internal auditor by ensuring recommendations in internal audit reports are actioned
Shareholder & public confidence in financial information is enhanced
Committee helps the directors fulfil any obligations under corporate governance to implement and maintain an appropriate system of internal control within the company
The company should assist in providing better communication between the directors, external auditors and management
Strengthens the independence of company’s external auditor by with clear reporting structure and separate appointment mechanism from the board
Recommends on appointment, reappointment and removal of external auditors
What are the limitations of an audit committee?
non-execs with relevant skills, costs
What is the audit committee link with internal audit?
Best practice, audit committee should:
Ensure that the internal auditor has direct access to the board chairman and to the audit committee and is accountable to audit committee
Review and assess the annual internal audit work plan
Receive periodic reports on the results of internal audit work
Review and monitor management’s responsiveness to the internal auditor’s findings and recommendations
Meet with the head of internal audit at least once a year without the presence of management
Monitor and assess the effectiveness of internal audit in the overall context of the company’s risk management system
What is risk management?
Companies may face many risks:
- products may become technologically obsolete
- losing key staff
- catastrophic failure of IT systems
- changes in government policy
fire or natural disaster
Need to
Identify potential risks and
Decide on appropriate ways to minimise those risks
What are internal controls for risk management?
One way of minimising risk is to incorporate internal controls into a company’s systems and procedures
Director’s responsibility to implement internal controls and monitor their application and effectiveness
Both external (environmental) and internal (operational) risks faced
Main aim of risk management is to protect the business from unforeseen circumstances
Main aim of financial controls
- reduce the risk that financial statements contain misstatement (due to fraud or error)
- reduce the risk of theft, or misuse, of the company’s assets
