Essentials Flashcards
(38 cards)
Corporate Governance
The system by which organisations are directed and controlled.
- Protect shareholders rights
- Enhance disclosure and transparency
- Facilitate effective functioning of the board
- Provide an efficient legal and regulatory enforcement framework
Three elements of VFM
Economy - a measure of inputs to achieve a certain service or level of service.
Effectiveness - a measure of outputs (e.g. services/ facilities).
Efficiency - measure of outputs over inputs.
Key concepts
- Fairness
Equality in dealing with internal stakeholders.
Even handedness in dealing with external stakeholders. - Openness/ transparency*
Underlying principle of corporate governance.
Transparency is required in the agency relationship. - Innovation
Covers innovation and experimentation in reporting to the benefit of investors and consumers. - Scepticism
An attitude which includes a questioning mind, being alert to conditions which indicates possible misstatement due to fraud and error. - Independence*
The avoidance of being unduly influenced by a vested interest. - Probity/ honesty
Honesty in Financial reporting.
Foundation ethical stance in both principles and rules based systems. - Responsibility*
Acceptance of liability for the outcome of governance situations. - Accountability*
Obligation of an individual or organisation to account for its actions and activities.
Clarity in communication channels with internal and external stakeholders.
Development and maintenance of risk management and control systems. - Reputation
Developing and sustaining personal reputation through other moral virtues.
Developing and sustaining the moral stance of the organisation and the accounting profession. - Judgement
Ability to reach and communicate conclusions.
Ability to weigh numerous issues and give each due consideration. - Integrity*
Adherence to strict ethical standards despite other pressures to act otherwise.
Underlying and underpinning principle of corporate governance and required of all those representing shareholder interest in agency relationships.
Agency theory key concepts
- An agent is employed by a principal and their agent to carry out a task on their behalf.
- Agency costs are incurred by principals in monitoring agency behaviour.
- By accepting to undertake a task on their behalf, agent becomes accountable to the principal by whom they are employed.
- Directors have a fiduciary relationship to the shareholders of their organisation.
- Stakeholders are any person or organisation that can affect or be affected by the policies.
- Agent objectives are different to principal’s objectives.
Diversity
Describes the range of visible and non-visible differences that exist between people.
Managing diversity creates a productive environment where everybody feels valued, where talents are fully utilised and organisational goals are met.
e.g. Race, ethnicity, gender, sexual orientation, socio economic status, age, physical ability, religious beliefs, political beliefs or other ideologies.
Benefits the board:
- Effective decision making
- Better utilisation of the talent pool
- Enhancement of corporate reputation and investor relations
Role of NEDs
- Strategy
Challenging strategy, offering advice and contributing toward strategic success. - Scrutiny
Hold executive directors to account for decisions taken and results obtained. - Risk
Ensure adequate system of internal controls and system of risk management in place. - People
Oversee the appointment and remuneration of executive directors.
Nominations committee
Responsibilities of nominations committee:
- Review regularly the structure, size and composition of the board and make recommendations.
- Consider the balance between executives and NEDs on the board of directors.
- Ensure appropriate management of diversity to board composition.
- Provide an appropriate balance of power to reduce domination in executive selection by the CEO/ chairman.
- Evaluate the balance of skills, knowledge and experience of the board.
- Full consideration to succession planning for directors.
- Prepare a description of the role and capabilities required for any particular board appointment.
- Identify and nominate for the approval by the board candidates to fill board vacancies as and when they arise.
- Recommendations to the board concerning the standing for reappointment of directors.
- Be seen to operate independently for the benefit of shareholders.
Approaches to corporate governance
- Rules based approach
Installs the code into law with appropriate penalties for transgression. - Principles based approach
Requires the company to adhere to the spirit rather than the letter of the code.
Must either comply with the code or explain why it has not through reports to the appropriate body and its shareholders.
Arguments in favour of a rules based approach
Organisation
1. Clarity in terms of what the company must do - legal requirement, clarity should exist and hence no interpretation is required.
- Standardisation for all companies - no choice, this creates a standardised and possibly fairer approach for all businesses.
- Binding requirements - the criminal nature makes it very clear that the rules must be complied with.
Wider shareholder perspective
1. Standardisation across all companies.
- Sanction - criminal and therefore a greater deterrent.
- Greater confidence in regulatory compliance.
Arguments against a rules based approach
Organisation
1. Exploitation of loopholes - the exacting nature of the law lends itself to the seeking of loopholes.
- Underlying belief - only play by the rules (no buy-in).
- Flexibility is lost - no choice in compliance to reflect the nature of the organisation, it’s size or stage of development.
- Checklist approach - can arise as companies seek to comply with all aspects of the rules and start “box ticking”.
Wider stakeholder perspective
1. Regulation overload - the volume of rules and amount of legislation may give rise to increasing costs for business and for the regulators.
- Legal costs - to enact new legislation to close loopholes.
- Limits - no room to improve or go beyond the minimum level set.
- “Box ticking” rather than compliance.
Stakeholders
Any person or group that can affect or be affected by the policies or activities of an organisation.
Claims (demands the stakeholder makes of an organisation) “want something”.
1. Direct stakeholder claims are usually unambiguous and are often made directly between the stakeholders and the organisation.
- Indirect claims are made by stakeholders unable to express their claim directly to the organisation. They have no voice.
Mendelow’s Matrix
Interest
Low High
Low Minimal effort Keep informed
Power
High Keep satisfied Key players
Power - the perceived ability of the stakeholder to affect organisational action.
Legitimacy - whether the company perceives the stakeholder action to be legitimate.
Urgency - whether the stakeholder claim calls for immediate action.
Limitations of internal control systems
- Poor judgement in decision making.
Failures arise from individual decisions made in inadequate information or inexperienced staff. - Human error can cause failures.
A well designed internal control environment can help control to a certain extent. - Control processes being deliberately circumvented by employees and others.
Difficult to completely prevent deliberate circumvention. - Management overriding controls.
Presumably the controls are inconvenient or inappropriate. - Unforeseeable circumstances.
Control systems are designed to cope with a given range of variables and when out of range, the system is unable to cope.
Criteria of good information
ACCURATE
Accurate Complete Cost beneficial User targeted Relevant Authoritative Timely Easy to use
Factors affecting the need for internal audit
- The scale, diversity and complexity of the company’s activities.
The larger the above, the more there is to monitor. - The number of employees.
The larger organisations are, the more likely to need internal audit to underpin investor confidence than smaller concerns. - Cost/ benefit considerations.
Management must be certain the benefits must outweigh the costs. - Changes in the organisational structures, reporting processes or underlying information systems.
Any internal or external modification is capable of changing the complexity of operations and accordingly the risk. - Changes in key risks could be internal or external in nature.
Introduction of a new product, entering a new market, a change in any of the PEST/ PESTEL factors or changes in the industry might trigger the need for internal audit. - Problems with existing internal control systems.
Any problems signifies the need for a tightening of systems and increased monitoring. - An increased number of unexplained or unacceptable events.
A clear demonstration of internal control weaknesses.
Roles of the audit committee
Independent NEDs (at least 3 in larger companies) and 1 with relevant financial experience.
- Review of internal control systems.
- Oversee work of internal audit.
- Monitor integrity of financial statements.
- Review work of external audit.
Strategic risk
Affects the whole company (can sink the ship).
- Risks arising from the possible consequences of strategic
decisions taken by the organisation. - Arise from the way an organisation is strategically positioned within its environment.
- Should be identified and assessed at senior management and board of directors level.
- PESTEL and SWOT techniques can be used to identify these risks.
Operational risk
Affects the department (nuisance) from day to day activities.
- Refer to potential losses that might arise in business operations.
- Include risks of fraud or employee malfeasance, poor quality or lack of inputs for production.
- Can be managed by internal control systems.
The concept of related risk factors
Related risks are risks that vary because of the presence of another risk or where two risks have a common cause. This means when one risk increases, it has an affect on another risk (related) e.g. Risk correlation.
Positively correlated risks
Positively related in that one will fall with the reduction of the other and increase with the rise of the other.
Negatively correlated risks
Negatively related in that if one rose as the other fell.
Risk mapping
The map identifies whether a risk will have a significant impact on the organisation and links that into the likelihood of the risk occurring.
Likelihood
Low High
High Further analysis Highest priority
required?
Reduce Avoid
Probability
Low Risks can probably Further analysis be accepted required? Accept Transfer
Risk auditing
- Risk audit is a systematic way of understanding the risks that an organisation faces.
- Risk audit is not a mandatory requirement for all organisations.
- In some highly regulated industries, a form of ongoing risk assessment and audit is compulsory in most governance jurisdictions.
- Some organisations employ internal specialists to carry out risk auditing, others utilise external consultants to perform the work.
Stages of a risk audit
- Identify risks and construct risk register.
- Assess risk by applying the probability/ impact assessment (likelihood of occurrence and impact on the organisation).
- Review controls over risk which involves TARA.
- Report on inadequately controlled risks (to the board or risk management committee if exists).
Deontological
Deontological
1. What is correct will depend on the conditions at the time non-consequential theory.
- What is correct will depend on the conditions at the time motivation or principle is important.
- What is correct will depend on the conditions at the time action deemed right or wrong when the morals for taking the action are known.
Key maxims for deontological approach
- Consistency
Act only according to that maxim, at the same time desire it should become universal law.
The action can only be right if everyone can follow the same underlying principle.
- Human dignity
Act so that you treat dignity, whether in your own person or in that of another, always as an end never as a means only.
Everybody uses humans in some way (provide goods and services) but this does not mean that the other human should be seen as a provider of those goods or services. Their own needs and expectations are important and this must always end remembered.
- Universality
Act only so that the will through its maxims could regard itself at the same time as universally law giving.
The test is whether an action is moral or suitable when viewed by others, not by the person undertaking that action.
The basic test is that if a person would be uncomfortable if their actions were reported in the press (even if no other humans could accept the principle) the the action is likely to be of doubtful moral status.