SYLLABUS AREA A - Chap 3

Question 1

what is the meaning of corporate governance?

Answer 1

corporate governance is rules, regulations and processes by the means of which a company is operated and controlled.

Question 2

what is the aim of corporate governance?

Answer 2

1-to ensure that companies are run well in the interests of their stakeholdere like SH, employees and the wider community.

2- to try and prevent company directors from abusing their power which may adversely affect these stakeolder groups. eg. directors may be giving themselves big salaries while firing staff and reducing devidends.

Question 2

what are the advantages of a company following good corporate governance principles?

Answer 2

1- greater transparency
2- greater accountability
3- efficiency of operations
4- better able to respond to risks
5- less likely to be mismanaged
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Question 3

what is the OECD?

Answer 3

organization of economic cooperation and development.
It’s a global policy forum with 38 member countries.
Their goal is to stimulate economic progress and world trade.

Question 4

what are the six corporate governance principles set by OECD?

Answer 4

OECD has produced a set of six principles of corporate governance to guide policy makers when setting regulations for their own country.
The six OECD Principles are:

 Ensuring the basis of an effective corporate governance framework
 The rights of shareholders and key ownership functions
 The equitable treatment of shareholders
 The role of stakeholders in corporate governance
 Disclosure and transparency
 The responsibilities of the board.

Question 5

what are the roles of ppl in the board?

Answer 5

1- the chair’s role:

• lead board of directors
• enable flow of info and discussion at board meetings
• ensures satisfactory channels of communication with external auditors
• ensures effective operation of board sub committees
• chair should be independent to enhance effectiveness

CHIEF EXECUTIVE’S ROLE

• ensures the effective operation of the company
• head of the executive directors

executive directors:
they are resp for running company on a day to day basis

non executive directors:
NEDS monitor EDs and contribute to overall strategy and direction of organisation.
they are usually employed on a PT basis and don’t take part in routine executive management of company

Question 6

what do NEDs do? adv and disadv of their participation?

Answer 6

NEDs will:

• participate at board meetings
• bring experience, insights and contacts to assist boards
• sit on sub committees as independent, knowledgeable parties.

advantages of NED participation:

• oversee whole board
• external expertise
• as they are independent they act as a corporate conscience

disadvantages:
- maybe difficult to find the right NEDs who will have relevant skills and expertise
- they may not have time or may not be well informed to play role competently
- the cost might be too high. their fees can be expensive
- they might be accused of being staffed by an ‘old boys network’ and that they may fail to report significant problems and approve unjustified pay rises

Question 7

how should a company engage with workforce?

Answer 7

use a director appointed from workforce
a workforce advisory panel
a designated NED

Question 8

what affects independence of NED?

Answer 8

if a director:
1- is or has been an employee of the co. or group in the last 5 yrs
2- represents a significant shareholder
3- has close family ties with any of co’s advisers , directors or senior employees
4- has or has had , within last 3 yrs, a material business relationship with the company either directly or as a partner , SH or director that has such a relationship with the company.
-has served on board for more than 9 yrs from the date of appointment
-has received money from co in addition from directors fee

Question 9

what are the advs of having a nomination committee

Answer 9

• reduces risk of jobs for the boys. (directors appointing other friends who don’t have skills as directors
• reduces risk of improperly affecting board decisions. execs might appoint ppl who will vote in favour of them might not be best for company overall

Question 10

What is the difference between SH, directors and management

Answer 10

SH are the owners who r not involved in day to day operations or managers.

Directors are agents of SH, they give direction and strategy. A SH can be a director as well.

Management is responsible for executing that strategy and the day to day operations .

Question 11

What did the regulator’s introduce to ensure good corporate governance?

Answer 11

In the US, Sarbanes Oxley act was introduced which has a-lot of laws which companies must follow
In UK, the corporate governance code was introduced, which set alot of best practices for companies to follow.

Question 12

How is corporate governance relevant to external auditors?

Answer 12

If a company complies with corporate governance best practice, the control environment of the company is likely to be stronger.

There will be a greater focus on financial reporting and internal controls which should reduce control risk and inherent risk which together reduce the risk of material misstatements in the financial statements.

External auditors may be required to report on whether companies are compliant with the Code. For example, in the UK, external auditors of listed entities are required to report on whether the company is compliant with the UK Corporate Governance Code.

There is significantly more communication between audit committees and external auditors in the current environment.

If the company, including the audit committee, demonstrates good corporate governance, the external auditors have someone with which to share responsibility.

This should result in the company taking more responsibility for its actions, the independence of the auditor being greater, and the overall quality of the audit being higher.

Question 13

What is the enron scandal?

Answer 13

In the year 2000 Enron, a US based energy company, employed 22,000 people and reported revenues of $101 billion. In late 2001 they filed for bankruptcy protection

After a lengthy investigation it was revealed that Enron’s financial statements were sustained substantially by systematic, and creatively planned, accounting fraud.

In the wake of the fraud case the shares of Enron fell from over $90 each to just a few cents each, a number of directors were prosecuted and jailed and their auditors, Arthur Andersen, were accused of obstruction of justice and forced to stop auditing public companies.

Question 14

What are the two ways in which management may abuse power?

Answer 14

• Direct extraction from the company of excessive benefits by management, e.g. large salaries, pension entitlements, share options, use of company assets (jets, apartments etc.)
• Manipulation of the share price by misrepresenting the company’s profitability, usually so that shares in the company can be sold or options ‘cashed in

Question 15

What are the two types of corporate governance?

Answer 15

-There are 2 types of corporate governance which exist globally one being known rule based corporate governance (which is applicable just in USA, known as Sarbanes Oxley Act 200) and the other being known as principle based corporate governance which is applicable in UK and the rest of the world.
-Principle based corporate governance, are not rules rather or for the companies
-Principle based corporate governance is known as comply or explain approach.

Either the company (board of directors) comply with the best practice given or they can deviate from the best practice given if they feel it’s not good for their company or shareholder by explaining the deviation to
shareholder and getting their approval.

Question 16

What are the functions of the audit committee?

Answer 16

1. Financial statements: the AC should ensure that FS are in compliance with laws and regulations and should ensure the process of preparing the FS in effective and sound and is free from
   any risk of wrongdoings.
2. Internal controls: the AC monitors/ review the effectives of the internal control put in place by the management to ensure they are operating effectively or any weaknesses are timely communicated.
   (Syllabus area C)
3. Internal auditor: AC assess annually the need to have an internal audit department if a listed company does not have it. If a listed company have an internal audit department, the AC should ensure that the head of the internal audit department is appointment by the AC, to ensure that the department reports directly to AC and is independent. AC also ensure there is an effective communicated with internal auditor and AC, and AC also set where necessary the scope of the internal auditor function (Syllabus area C)
4. External auditor: AC recommends the appointment, removal and remuneration of the external auditor. The AC monitors the conduct of the external audit process and ensure there is an effective communication of issues identified by external auditor with the audit committee.
5. Whistle blowing: AC will be responsible to ensure there is an anonymous whistle blowing system in place in the organization to ensure that any employee without fear can communicate any wrong doing in the company to the AC directly.

Question 17

What should be the composition of the audit committee?

Answer 17

Should comprise only of NEDs, independent of operational management
Minimum 3 NEDs.
At least one NED should have recent, relevant financial experience and qualifications
Appointments to be made by the board on rec of nomination committee

Question 18

What is the main objective of an audit committee?

Answer 18

To enhance confidence of SH
Help executive directors to meet their financial reporting responsibilities
Strengthening position of auditor by providing additional channel of communication

Question 19

What are the benefits of an audit committee?

Answer 19

• Improved credibility of the financial statements through an impartial review of the financial statements and discussion of significant issues with the external auditors.
• Increased public confidence in the audit opinion as the audit committee will monitor the independence of the external auditors.
• Stronger control environment as the audit committee help to create a culture of compliance and control.
• The internal audit function will report to the audit committee increasing their independence and adding weight to their recommendations.
• The skills, knowledge and experience (and independence) of the audit committee members can be an invaluable resource for a business.
• It may be easier and cheaper to arrange finance, as the presence of an audit committee can give a perception of good corporate governance.
• It will be less of a burden to meet listing requirements if an audit committee (which is usually a listing requirement) is already established.

Question 20

What are the limitations of an audit committee?

Answer 20

-Difficulties recruiting the right non-executive directors who have relevant skills, experience and sufficient time to become effective members of the committee.
-The cost. Non-executive directors are normally remunerated and their fees can be quite expensive.

Question 21

What is the need for auditors to communicate with those charged with governance?

Answer 21

ISA (UK) 700 requires the auditor to report by exception in the auditors’ reports of companies disclosing compliance with the UK Corporate Governance Code where the annual report includes:
• A statement given by the directors that they consider the annual report and accounts taken as a whole is fair, balanced and understandable and provides the information necessary for shareholders to assess the entity’s performance, business model and strategy, that is inconsistent with the knowledge acquired by the auditor in the course of performing the audit.
• A section describing the work of the audit committee that does not appropriately address matters communicated by the auditor to the audit committee.
• An explanation, as to why the annual report does not include such a statement or section, that is materially inconsistent with the knowledge acquired by the auditor in the course of performing the audit.
• Other information that, in the auditor’s judgment, contains a material inconsistency.
Other countries may have different reporting requirements in accordance with local legislation and regulations.