Module 2 Flashcards
Definition of corporate governance?
The system by which companies are directed and controlled
Why is corporate governance important to companies?
Allows them to mitigate agency risk that arises as a result of the directors running a company on behalf of the shareholders
Definition of agency risk?
The risk that the agents (directors) self-interest deviates from that of the principal (shareholders)
Examples of actions or directors that can constitute agency risks
Directors awarding themselves large bonuses
Using a more expensive supplier because of personal perks promised (bribery)
Short termist decisions
What are the three procedures that can be implemented to reduce agency risk?
- Directors remuneration packages as incentives
- Monitoring the directors performance
- Appointment an external auditor
Definition of an audit?
An examination of a company’s financial statements by an independent expert, which culminates in the expert providing and opinion on whether the financial statements give a true and fair view to the shareholders
Definition of agency costs?
The costs of reducing agency risk
Include: costs of audit, costs in aligning directors and shareholders interests such as bonuses and pay rises
What’s do shareholders do?
Appoint directors and the external auditor
Satisfy themselves that appropriate governance structure is in place
What do directors do?
Set companies strategic aims and provide leadership to achieve them
Supervising management
Reporting to shareholders
What do external auditors do?
Provide an opinion on directors financial statements
Objective view on aspects of governance
What do internal auditors do?
Support the directors in their responsibilities
Providing a check on financial aspects and controls
Review companies governance frameworks
What are the four areas of the Cadbury code of best practice?
- The board of directors
- Non-executive directors
- Executive directors
- Reporting and controls
Recommendations of the code of best practice are
COMPLY OR EXPLAIN
What did Derek Higgs report on?
The role and effectiveness of non-executive directors
2002
What did Sir Robert Smith report on?
The role and effectiveness of the audit committee
2002
What is the UK Corporate Governance Code organised under?
Board leadership and company purpose Division of responsibilities Composition, succession and evaluation Audit, risk and internal control Remuneration
BD CAR
How many main principles are there in the code?
18
How many provisions are there in the code?
41
What do main principles in the code show?
What we should do as a company and why
What do provisions in the code show?
How we should do it
What are the executive directors responsible for?
Day to day operational management
E.g sales, finance
What are the non-executive directors responsible for?
Not involved in day to day
Challenge and contribute to strategic decisions
Independent
Reduce agency risk
What does the chairman do?
Chairs the board meetings
Independent on appointment
What does the CEO do?
Responsible for executive directors
Ultimately responsible for day to day running of company
What are the three sub committees?
Nomination
Audit
Renumeration
What is the audit committee made up of?
At least 3 directors
100% NED
At least one member should have recent and relevant financial experience
What is the nomination committee made up of?
At least 3
Majority NED
What is the remuneration committee made up of?
More than 3 directors
100% NED
What does board division and company purpose involve?
- effective board, promote long term sustainable success
- ensures necessary resources, framework of prudent and effective controls
- effective engagement with shareholders
What does division of responsibilities involve?
- Chair independent on appointment
- roles of chair and CEO segregated
- NEDs should have time to devote and provide constructive challenge and strategic guidance
- at least half the board should be NEDs (independent)
What does composition, succession and evaluation involve?
- formal rigorous and transparent board appointments
- effective succession plan, based on merit and objective criteria
- should have combination of skills, experience and knowledge
- should a point a nomination committee
- annual performance evaluation
What does audit, risk and internal control involve?
- should establish an audit committee of independent NEDs
- robust assessment of risks
- monitor company’s risk management and internal control system
What does remuneration involve?
- designed to support strategy and promote long term sustainable success
- remuneration committee
- remuneration for all NEDs should not include share options or performance related elements
What entities are required to comply or explain with the code?
Only those with a Premium listing on LSE main market
What is a narrative statement?
Description in annual report of how the company has applied the principles of the code
What is a compliance statement?
Whether or not it has complied with all the relevant provisions throughout the accounting period
Explain reasons if not
What must companies with a premium listing on the main market of the LSE include in their annual report?
A corporate governance section:
Two part statement including a narrative statement and compliance statement
What is the corporate governance act in the US?
Sarbanes-Oxley Act 2002
What does the SOX act affect?
Companies that are:
- registered with the securities and exchange commission (SEC) in the US
- included in the accounts of a SEC company even if not US domiciled
- non-US publicly traded companies operating in the US
What does SOX contain?
Standards and requirements for corporate governance, financial reporting, ethics and some regulation
More prescribed approach
Legally required to comply
More stringent than UK
Why did SOX get introduced?
2001 large corporate failures, addressed by introducing SOX legislation
UK and US annual report certification?
US signed off by CEO and CFO
UK signs diff by only one director in behalf of board
SOX internal controls
Section 404 report as part of annual report:
- management responsibility for adequate controls and procedures
SOX audit committees
Must pre-approve all services provided by external auditor
