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Corporate Governance
Main Principles
Approaches to Corporate Governance
Corporate governance
is the system by which organisations are directed and controlled.
A sound system of corporate governance is capable of reducing
company failures in a number of ways:
1. it addresses issues of management
This reduces the agency problem and makes it less likely that management will
promote their own self-interests above those of shareholders.
2. it helps to identify and manage the wide range of risks
These might arise from changes in the internal or external environments
3. it specifies a range of effective internal controls
that will ensure the effective use of resources and the minimisation of waste,
fraud, and the misuse of company assets.
Internal controls are necessary for maintaining the efficient and effective
operation of a business
4. it encourages reliable and complete external reporting of financial
data
By using this information, investors can establish what is going on in the
company and will have advanced warning of any problems
5. it underpins investor confidence
gives shareholders a belief that their investments are being responsibly
managed

6. it encourages and attract new investment

make it more likely that lenders will extend credit and provide increased loan
capital if needed
There are 2 possible systems for trying to get companies to have good
corporate governance:
These are:
1. Rules based
2. Principle based
Rules-based system

In the rules-based system, companies adhere to the rules or pay penalties.

ADVANTAGES
1. Clarity
2. Standardisation
3. Penalties are a deterrent against bad CG
4. Easier compliance with the rules, as they are unambiguous, and can be
evidenced
DISADVANTAGES
1. Can create just a "box-ticking" approach
2. Not suitable to all possible situations.
3. Creates unnecessary administration burden on some companies

4. One size does not necessarily fit all.

5. Expensive
Principles-based System (Comply or explain)
In the principles system, companies adhere to the spirit of the rule, or explain
why it hasnt.
This does not mean the company has a choice not to adhere.
It just means it can TEMPORARILY explain why it has not.
The punishment for this non-adherence will be judged by investors.
ADVANTAGES
1. Not so rigid, allows for different circumstances.
2. Allows companies to go beyond the minimum required.
3. Less of an admin burden.
4. Can develop own specific CG and Internal controls (For example physical
controls over cash will be vital to some businesses and less relevant or not
applicable to others.
DISADVANTAGES
1. The principles are so broad that they are of very little use as a guide to best
corporate government practice
2. Not easier compliance as with the rules, as they are ambiguous, and can not
be evidenced
Principles v Rules More Detail
Principles

The principle of comply or explain means that companies have to take seriously
the general principles of relevant corporate governance codes.
Compliance is required under stockmarket listing rules but non-compliance is
allowed based on the premise of full disclosure of all areas of non-compliance.
It is believed that the market mechanism is then capable of valuing the extent
of non-compliance and signalling to the company when an unacceptable level of
compliance is reached.
On points of detail companies could be in non-compliant as long as they made
clear in their annual report the ways in which they were non-compliant and,
usually, the reasons why.
This meant that the market was then able to punish non-compliance if investors
were dissatisfied with the explanation (ie the share price might fall).
In most cases nowadays, comply or explain disclosures in the UK describe minor
or temporary non-compliance.
Some companies, especially larger ones, make full compliance a prominent
announcement to shareholders in the annual report, presumably in the belief
that this will underpin investor confidence in management, and protect market
value.
Remember though that companies are required to comply under listing rules but
the fact that it is not legally required should not lead us to conclude that they
have a free choice.
The stock market takes a very dim view of most material breaches, especially in
larger companies.
Typically, smaller companies are allowed (by the market, not by the listing rules)
more latitude than larger companies.
This is an important difference between rules-based and principlesbased approaches.
Smaller companies have more leeway than would be the case in a rulesbased jurisdiction, and this can be very important in the development of a small
business where compliance costs can be disproportionately high.
Rules
Rules-based control is when behaviour is underpinned and prescribed by statute
of the countrys legislature.
Compliance is therefore enforceable in law such that companies can face legal
action if they fail to comply.
US-listed companies are required to comply in detail with Sarbox provisions.
Sarbox compliance can also prove very expensive.
The same detailed provisions are required of SME's as of large companies, and
these provisions apply to each company listed in New York.

National differences

Developing countries
In developing economies - there are normally many SMEs. For these companies
extra regulations would be very costly
So, perhaps for them the option to comply or explain is better.
This would allow those who seek foreign investment to comply more fully than
those who don't want it and are prepared to explain why
Developing countries may not have all resources that are needed for full
compliance (auditors, pool of NEDs, professional accountants, internal auditors,
etc).
To help compliance, international standards help nations become competitive.
The OECD (Organisation for Economic Cooperation & Development) was
established in 1961.
It is made up of the industrialised marketeconomy countries, as well as some
developing countries, and provides a forum in which to establish and coord inate
policies.
The ICGN (International Corporate Governance Network) was founded in 1995 at
the instigation of major institutional investors, represents investors, companies,
financial intermediaries, academics and other parties interested in the
development of global corporate governance practices
What Is a code And what is it for?
In most countries, financial accounting to shareholders is underpinned by
company law and International Financial Reporting Standards.
Some of the other activities of directors are not, and it is in this respect that
countries differ in their approaches.
Codes Are intended to specifically guide behaviour where the law is ambiguous
Underpinning concepts of Governance
Key Underpinning Concepts of Corporate Governance
So whats all this nonsense about then hey?? Well, for a company to be run well,
and in the best interests of its shareholders, is a bit like all good relationships.
They are built on solid foundations of trust and so on so thats my little
heartwarming story

over back to the boring stuff oh but please remember these need
memorising as they are a common question!
These are the underpinning concepts....
Fairness

Respecting the rights and views of any groups with a legitimate interest.
This means a lack of bias.
This is especially important where personal feelings are involved.
Responsibility
Willingness to accept liability for the outcome of governance decisions.
Clarity in the definition of roles and responsibilities.
Conscientious business and personal behaviour.
Accountability
Answerable for the consequences of actions.
Providing clarity in communication channels with internal and external
stakeholders.
Development and maintenance of risk management and control systems.
Honesty/Probity
Not simply telling the truth but also not being guilty of issuing misleading
statements or presenting information in confusing or distorted way.
Truthful
Not misleading

Integrity
A person of high moral virtue. Adheres to a strict moral or ethical code despite
other pressures.
It is an underlying principle of corporate governance and it is vital in all agency
relationships.
Straightforward dealing.
Importance of integrity in corporate governance:
Codes of ethics do not capture all ethical situations.
Any profession (such as accounting) relies upon a public perception of
competence and integrity.
It provides a basic ethical framework to guide an accountants professional and
personal life.
It underpins the relationships that an accountant has with his or her clients,
auditors and other colleagues.
Trust is vital in the normal conduct of these relationships and integrity underpins
this.
Transparency/ Openness

Means openness (say, of discussions), clarity, lack of withholding of relevant

information unless necessary.
Disclosure, including voluntary disclosure of reliable information.
Importance of transparency:
Gains trust with investors and authorities.
Underpins market confidence in the company through truthful and fair reporting.
Helps manage stakeholder claims.
Reasons for secrecy/confidentiality include the fact that it may be necessary to
keep strategy discussions secret from competitors.
And yet when I wore my transparent lecturing suit when lecturing they said it
wasnt appropriate. Meh ;-)
Independence
Independence of NEDs.
Independence of the board from operational involvement.

Independence of directorships from purely personal motivation.

Reputation
Personal reputation for moral virtues.
Organisation reputation for moral virtues.
Accountancy profession reputation for moral virtues.
Internal actors (in CG)
Directors in Corporate Governance
Directors in Corporate Governance
These are the most prominent group in corporate governance (and often the
most annoying).
Seriously though they have a massive part to play in making sure the company is
well run and directed (hence the name!)
Executive or non-executive
The numbers and split of executives to NEDs will partly depend upon the
regulatory regime of the country.
NEDs are independent and are not involved in the day to day running of the
business

Non executives

Investors and regulators prefer there to be more NEDs, due to their independent
scrutiny of the company.
Remember that the execs should be working in the best interests of the
shareholders and its partly the NEDs job to ensure they do
Legal responsibilities
So here we are looking at the legal side of what they need to do to help run and
direct the company well (corporate governance)
In a unitary board structure (the one where theres just one board - see later
sections), all directors share legal responsibility for company activities and all are
accountable to the shareholders.
Notice that directors are all responsible for each others decisions - this is
important - it means everyone is looking to ensure each other does the job well
(see collective responsibility below)
In most countries, all directors are subject to retirement by rotation, where they
either step down or offer themselves for re-election (by the shareholders) for
another term in office.
This gives shareholders a chance to not re-elect rubbish directors!
Collectively responsible
Directors are collectively responsible for the companys performance, controls,
compliance and behaviour.
So theres no hiding place for them hopefully
Board roles
1. They must comply fully with relevant regulatory requirements that will include
legal, accounting and governance frameworks.
2. The board of directors must discuss and agree strategies to maximise
the long-term returns to the companys shareholders.

Company secretary
Company secretary
Compulsory
In most countries, the appointment of a company secretary is a compulsory
condition of company registration.
This is because the company secretary has important responsibilities in
compliance, including the responsibility for the timely filing of accounts and
other legal compliance issues.
So as well as making sure her nails are well manicured it is his/her legal
responsibility to ensure all the admin that comes with PLCs are adhered too.

Even though I joke about this - it is actually a vital role. The legal frameworks are
there to try and protect the stakeholders
Advises legal responsibilities
The company secretary often advises directors of their regulatory and legal
responsibilities and duties.
Loyal to company
His or her primary loyalty is always to the company.
In any conflict with another member of the company (such as a director), the
company secretary must always take the side most likely to benefit the company
Technical knowledge
In many countries he (get me being all modern!) must be a member of one of a
list of professional accountancy or company secretary professional bodies

Major roles include:

1. Maintaining the statutory registers
2. Ensuring the timely and accurate filing of audited accounts and other
documents to statutory authorities
3. Providing members (eg shareholders) and directors with notice of relevant
meetings
4. Organising resolutions for and minutes from major company meetings (like
the AGM)
Sub board management
Sub-board management
Sometimes referred to (ambiguously) as middle management, managers below
board level are a crucial part of the governance system.
It is the employees, led by sub-board management, that implement strategies,
meet compliance targets and collect the information and data on which
board-level decisions are made.
Effectiveness
Depends on the extent to which organisational activities are controlled and
coordinated.
Strategic drift can occur, especially in large organisations, when this vital
control and coordination is ineffective.
It is the sub management which can prevent the strategic drift by making sure
the policies decided by the board are actually followed through

Employee Representatives

Employee representatives
Trade unions represent employees in a workplace;
membership is voluntary and its influence depends on how many of the
workforce are members
Corporate Governance role
Trade unions are able to deliver the compliance of a workforce.
If a strategy needs a high level of commitment, a union can help to unite the
workforce behind the strategy and ensure everybody is committed to it.
How do they do this?
United front
This can also mean that management and workforce are seen as united by
external stakeholders; making the achievement of strategies more likely.
Keeps management abuses at bay
A trade union can be a key actor in the checks and balances of power within a
corporate governance structure.
This can often work to the advantage of shareholders, especially when the abuse
has the ability to affect productivity.
Help effectiveness of company
Unions are often good at highlighting management abuses such as fraud, waste,
incompetence and greed
Help to control the employees
Where a good relationship exists between union and employer, then productivity
of employees tends to increase

External Actors (in CG)

Stock exchanges
Stock exchanges
Shares are bought and sold through stock exchanges.
Each keeps an index of the value of shares on that exchange; In London, for
example, the FTSE All Share (Financial Times Stock Exchange) index is a measure
of all of the shares listed in London.
In New York, it is the Dow Jones index and in Hong Kong, it is the Hang Seng
index.
Role in Corporate Governance
Listing rules are sometimes imposed on listed companies often concerning
governance arrangements not covered elsewhere by company law.

In the UK, for example, it is a stock exchange requirement that listed companies
comply with the Combined Code on Corporate Governance
Procedure for obtaining a listing on an international stock exchange
Normally, obtaining a listing consists of three steps:

1. legal
2. regulatory
3. compliance
Steps:
1. In the UK a firm seeking listing must register as a public limited company.
This entails a change in its memorandum and articles agreed by the existing
members at a special meeting of the company.
2. The company must then meet the regulatory requirements of the Listing
Agency which, in the UK, is part of the Financial Services Authority (FSA).
These requirements impose a minimum size restriction on the company and
other conditions concerning length of time trading.
3. Once these requirements are satisfied the company is then placed on an
official list and is allowed to make a public offering of its shares.
4. Once the company is on the official list it must then seek the approval of the
Stock Exchange for its shares to be traded.
In principal it is open to any company to seek a listing on any exchange where
shares are traded.
5. The London Exchange imposes strict requirements and invariably the applicant
company will need the services of a sponsoring firm that specialises in this type
of work.
The advantages of seeking a public listing
1. It opens the capital market to the firm
2. It offers the company access to equity capital from both institutional and
private investors and the sums that can be raised are usually much greater than
can be obtained through private equity sources.
3. Enhances its credibility as investors and the general public are aware that by
doing so it has opened itself to a much higher degree of public scrutiny than is
the case for a firm that is privately financed.
The disadvantages of seeking a public listing
1. A distributed shareholding does place the firm in the market for corporate
control increasing the likelihood that the firm will be subject to a takeover bid.

2. There is also a much more public level of scrutiny with a range of disclosure
requirements.
3. Financial accounts must be prepared in accordance with IFRS or FASB and with
the relevant GAAP as well as the Companies Acts.

4. Under the rules of the London Stock Exchange companies must also comply
with the governance requirements of the Combined Code
Shareholders
Shareholders and other investors
Now time for the big boys the most important external actors in corporate
governance.
They do, after all, own the business that we are looking to run and direct
properly.
Other Investors include fixed-return bond-holders
Agency relationship
The shareholders are the principals . They expect agents (directors) to act in
their best economic interests
An agency relationship is one of trust between an agent and a principal which
obliges the agent to meet the objectives placed upon it by the principal.
As one appointed by a principal to manage, oversee or further the principals
specific interests, the primary purpose of agency is to discharge its fiduciary duty
to the principal
Agency costs

Shareholders incur agency costs in monitoring the agents (directors).

If they didnt have to keep checking the managers then there would be agency
costs.
When a shareholder holds shares in many companies, the total agency costs can
be prohibitive;
shareholders therefore encourage directors rewards packages to be aligned with
their own interests so that they feel less need to continually monitor directors
activities.
So lets look at some examples of costs of monitoring and checking on
directors behaviour
1. Attending relevant meetings (AGMs and EGMs)
2. Studying company results
3. Making direct contact with companies

Types of Investor
Small investors
Individuals who hold shares in unit trusts, funds and individual companies.
They typically buy and sell small volumes and tend to have fewer sources of
information than institutional investors.
They also often have narrower portfolios, which can mean that agency costs are
higher, as the individuals themselves study the companies they have invested in
for signs of changes in strategy, governance or performance.
Institutional investors
The biggest investors in companies, dominating the share volumes on most of
the worlds stock exchanges.
Examples include Pension funds, insurance companies and unit trust companies
each fund being managed by a fund manager.
Fund managers have some influence over the companies so need to be aware of
the performance and governance of many companies in their funds, so agency
costs can be very large indeed.
When should institutional investors intervene in company affairs?

Concerns over strategy

Consistent underperformance (without explanation)
NEDs not doing their job properly
Internal Controls persistently failing
Failure to comply with laws and regulations
Inappropriate remuneration policies
Poor approach to social responsibility (reputation risk)
Auditors and regulators in CG
Auditors
The most obvious role of audit in corporate governance is to report to
shareholders that the accounts are accurate (a true and fair view is the term
used in some countries.
A qualified audit report is an important signal to markets about the company.
Other services
These sometimes include social and environmental advice and audit.

Regulators and governments

This usually applies to companies or sectors involved in areas considered

strategically or politically important by governments
Examples
The control of monopolies
The supply of water or energy
Non Corporates
"Non corporate" Corporate Governance
NON-CORPORATE CORPORATE GOVERNANCE
Public sector organisations
Public sector organisations are state controlled.
They can be parts of government departments (eg. hospitals and schools), or
local government authorities, nationalised companies and nongovernmental organisations (NGOs)
Their aim is to implement parts of government policy.
Government likes to keep control over such parts, as it is deemed so important it
cannot be trusted to private shareholders and their profit motive alone.
For a nationalised rail service, for example, some loss-making route services may
be retained in order to support economic development in a particular region.
Such service delivery objectives are often underpinned by legislation.

Agency relationship in the Public Sector

In private companies, the owner/manager split creates an agency problem - this
still exists within the public sector.
Management serve the interests of the taxpayer who, though, are likely to seek
objectives other than long run profit maximisation.
This causes a problem however. The taxpayer/electorate does not have one
simple goal (like shareholders have that of profit maximisation).
So public servants, elected and non-elected, try to interpret the taxpayers best
interests
So there will be a problem of establishing strategic objectives and monitoring
their achievement.
The millions of taxpayers and electors in a given country are likely to want
completely different things from public sector organisations.
Some will want them to do much more while others, perhaps preferring lower
rates of tax, will want them to do much less or perhaps not to exist at all.
This can be called the problem of fitness for purpose.

It is normal to have a limited audit of public sector organisations to ensure the

integrity and transparency of their financial transactions, but this does not
always extend to an audit of its performance or fitness for purpose.
Many nationalised companies have recently been privatised.
Moving from state control to having to comply with company law and relevant
listing rules, in the process creating large new companies in industries such as
energy, water, transport and minerals.
This change means competition. It changes the skills needed by executive
directors, so is usually accompanied by a substantial internal culture change
Charities and voluntary organisations
There is often a third sector, charities and voluntary organisations, the first two
being business and the state.
These exist for a particular social, environmental, religious, humanitarian or
similar benevolent purpose and often enjoy tax privileges and reduced reporting
requirements.
In exchange, a charity must demonstrate its benevolent purpose and apply for
recognition by the countrys charity commission or equivalent.

Then there is the agency problem between the donors and the charity.
Will the donations be used fully for the purpose?
Hence the need for very strong regulation
Some charities voluntarily provide full financial disclosures and this places
increased pressure on others to do the same.
A common way to help to reduce the agency problem is to have a board of
directors overseen by a committee of trustees (sometimes called governors).
The trustees here act in a similar way to NEDs, and will generally share the
values of the charities purpose
Charities can exhibit their effectiveness by using a social or environmental audittype framework, including a regular and transparent report on how the charity is
run and how it has delivered against its stated objectives.
This increases the confidence and trust of all of the main stakeholders: service
users, donors, regulators and trustees and reduces the agency problem

Purpose

Agents

Principals

Public listed

Maximisation

Directors

Shareholders

companies

of long-term

Implementation

Various

Ultimately,

of government

layers of

taxpayers and,

policy

service and

in a

departmental

democracy,

managers

voters (the

shareholder
returns

Public sector

two are often

similar)

Charities and

Achievement of

Directors and

Donors and

voluntary

benevolent

service

other

organisations

purposes

managers

supporters
provide the

resources. Service users or consumers benefit from charities.

trustees. Open to interpretation and abuse in some jurisdictions, however.
Agency Relationships and Theories
Agency Relationship
Agency
Agency is defined in relation to a principal. What?! Well all this means is an
owner (principal) lets somebody run her business (manager).
The agent is doing this job on behalf of someone else.
Footballers, film stars etc all have agents. They work on behalf of the star. The
star hopes that the agent is working in their best interest and not just for their
own commission
Principals and Agents

A principal appoints an agent to act on his or her behalf.

In the case of corporate governance, the principal is a shareholder and the
agents are the directors.
The directors are accountable to the principals
Agency Costs
A cost to the shareholder through having to monitor the directors

Over and above normal analysis costs

A result of comprised trust in directors
Transaction Cost Theory
Transaction cost theory
General
Transaction costs occur when dealing with another party.
If items are made within the company itself, therefore, there are no transaction
costs
Analysing these costs can be difficult because of:
Bounded rationality - our limited capacity to understand business situations
Opportunism - actions taken in an individuals best interests
Company will try to keep as many transaction as possible in-house in
order to:
reduce uncertainties about dealing with suppliers
avoid high purchase prices
manage quality
Are the transaction costs (of dealing with others and not doing the
thing yourself) worth it?
The 3 factors to take into account as to whether the transaction costs are
worthwhile are:

1. Uncertainty
Do we trust the other party enough?
The more certain we are, the lower the transaction / agency cost
2. Frequency
how often will this be needed
The less often, the lower the transaction/agency cost

3. Asset specificity
How unique is the item
The more unique the item, the more worthwhile the transaction / agency cost is
Applied to Agency theory
This can be applied to directors who may take decisions in their own
interests also:
1. Uncertainty - Will they get away with it?
2. Frequency - how often will they try it?
3. Asset specificity - How much is to gain?
Responsibilities of..
The Board of Directors
Board Committees

Board committees
Importance of committees
Many companies operate a series of board sub-committees responsible for
supervising specific aspects of governance.
Reduces board workload
Use inherent expertise
Communicates to shareholders that directors take these issues seriously.
Communicates to stakeholders the importance of remuneration and risk.
Nominations committee
Advises on:
1. The balance between executives and NEDs
2. The appropriate number and type of NEDs on the board.
Nominations committee - Roles
The nominations committee is usually made up of NEDs.
It establishes the skills, knowledge and experience possessed by current board
Notes any gaps that will need to be filled
Looks at continuity and succession planning, especially among the most senior
members of the board.
Is responsible for recommending the appointments of new directors to the board

Risk committee -Roles

Considered best practice by most corporate governance codes
Helps Investor confidence
Should be made up of NEDs
Requires good information systems to be in place
Reviews effectiveness of internal controls regarding risk
Is responsible for overseeing risk management
Remuneration Committee - Roles
Determine remunerations policy, acting on behalf of shareholders but benefitting
both shareholders and the other board members of the board
Ensure that each director is fairly but responsibly rewarded for their individual
contribution in terms of levels or pay and the components of each directors
package.
It is likely that discussions of this type will take place for each individual director
and will take into account issues including market conditions, retention
needs, long-term strategy and market rates for a given job.
Reports to the shareholders on the outcomes of their decisions, usually in the
corporate governance section of the annual report
Be compliant with relevant laws or codes of best practice.
Is responsible for advising on executive director remuneration policy
Board Of Directors
The board of directors

Roles and Responsibilities

1. Provide entrepreneurial leadership
2. Represent company view and account to the public
3. Determine the companys mission and purpose
4. Select and appoint the CEO, chairman and other board members
5. Establish appropriate internal controls
6. Ensure that the necessary financial and human resources are in place
7. Ensure that its obligations to its shareholders and other stakeholders are
understood and met
8. Set the company's strategic aims
In the UK listed companies have to state in their accounts that they
comply with the following regulations:

1. Separate MD & chairman

2. Minimum 50% non executive directors (NEDs)
3. Independent chairperson
4. Maximum one-year notice period
5. Independent NEDs (three-year contract, no share options)
Unitary Board
This is the single board structure with sub-committees.
This is where all directors, including managing directors, departmental directors
and NEDs all have equal legal and executive status in law.

This does not mean that all are equal in terms of the organisational hierarchy,
but that all are responsible and can be held accountable for board decisions.
Advantages
1. NEDs are empowered, being accorded equal status to executive directors.
2. The presence of NEDs can bring independence, experience and expertise
3. Board accountability is enhanced as all directors are held equally accountable
under a cabinet government arrangement
4. Reduced likelihood of abuse of power by a small number of senior directors
5. Often larger than a tier of a two-tier board so more viewpoints are expressed
and more robustly scrutinised
6. All participants have equal legal responsibility for management of the
company and strategic performance
Disadvantages
1. A NED or independent director can not be expected to both manage and
monitor
2. The time requirement on NEDs may be onerous
Two-tier boards
The board is split into multi-tiers, separating the executive from directors.
These are predominantly associated with France and Germany.
This two-tier approach can take the form of a:
Management or executive board
Responsible for managing the enterprise with the CEO to coord inate activity.
Responsible for the running of the business.
Composed entirely of executive directors.

Supervisory board
Appoints, supervises and advises members of the management board.
A separate chairman coord inates the work and members are elected by
shareholders at the AGM
Has no executive function.

It reviews the company's strategy.

Advantages of 2-tier boards
1. Clearly management and owners separation
2. Clear stakeholder involvement
3. Separate meetings means freedom of expression
4. Owners control management by power of appointment
Diversity on boards of directors
Diversity on boards of directors
DEFINITION OF BOARD DIVERSITY
means having a range of many people that are different from each other.
factors like age, race, gender, educational background and professional
qualifications of the directors to make the board less homogenous.
In implementing policies on board diversity, both the companys
chairman and the nomination committee play a significant role.
The chairman, being the leader of the board, has to facilitate new members
joining the team and to encourage open discussions and exchanges of
information during formal and informal meetings.
The nomination committee should give consideration to diversity and
establish a formal recruitment policy concerning the diversity of board members
with reference to the competencies required for the board, its business nature as
well as its strategies.
The committee members have to carefully analyse what the board lacks in skills
and expertise and advertise board

positions periodically.
BENEFITS OF BOARD DIVERSITY
1. More effective decision making.
2. Better utilisation of the talent pool (not only male involved, also woman).
3. Enhancement of corporate reputation and investor relations.

NEDs
Non Executive Directors (NEDs)
NEDs have no executive (managerial) responsibilities.
The key role is to reduce the conflict of interest between management (executive
directors) and shareholders by providing the balance to the board.
NEDs bring an independent viewpoint as they are not full time employees.
Roles and Responsibilities
The Higgs Report (2003) described the function of non-executive directors (NEDs)
in terms of four distinct roles.
1. Strategy role
NEDs are full members and thus should contribute to strategy. They may
challenge any aspect of strategy they see fit, and offer advice
2. Scrutiny role
NEDs should hold executive directors to account for decisions taken.They should
represent the shareholders interests

3. Risk role
NEDs should ensure the company adequate internal controls and risk
management systems
This is often informed by prescribed codes (such as Turnbull) but some industries,
such as chemicals, have other systems in place, some of which fall under
International Organisation for Standardisation (ISO) standards.
4. People role
NEDs should oversee issues on appointments and remuneration, but might also
involve contractual or disciplinary issues.
Independence
The Code states as a principle that the board should include a balance of NEDs
and executives.
The board should ensure any NED is truly independent in character and
judgement by:
not being an employee of the company within the last 5 years
not having a material business relationship with the company in the last 3 years
not receiving any remuneration except a directors fee
not having any family ties with the firm
not holding cross directorships with other directors
Cross directorships

When two (or more) directors sit on the boards of the other.
In most cases, each directors second board appointment is likely to be nonexecutive.
This can compromise the independence of the directors involved. For example, a
director deciding the salary of a colleague who, in turn, may play a part in
deciding his own salary
It is for this reason the cross directorships are explicitly forbidden by many
corporate governance codes
Advantages of NEDs

The main advantages of bringing NEDs onto a board are as follows:

1. Monitoring to reduce the excesses of executives.
2. External expertise
3. Perception: Company is perceived more trustworthy
4. Communication: improvement in communication between shareholders
interests and the company.
5. Independent view
6. compliance with corporate governance code
Disadvantages of NEDs
1. Lack of trust can affect board operations
2. Quality: there may not be many appropriately qualified NEDs around
3. Liability: Poor remuneration and liability in law might reduce potential NEDs
further
Role of CEO
CEO - Chief executive officer
Role of CEO
1. To lead the company and to protect shareholder interests above all others
2. To develop and implement polices and strategies capable of delivering
superior shareholder value
3. To assume full responsibility for all aspects of the companys operations
4. To manage the financial and physical resources of the company, monitor
results, and ensure that effective operational and risk controls are in place
5. To oversee the management team, co-ordinating the interface between the
board and the other employees in the company, and assisting in the
appointment of directors to the board

6. Communicating effectively with significant stakeholders including the

companys shareholders, suppliers, customers and

state authorities
Role of the Chairman
Roles of the chairman in corporate governance
Roles and Responsibilities
1. Provide leadership to the board
The chairman is responsible for ensuring the boards effectiveness for
shareholders, by setting the agenda and ensuring meetings occur regularly
2. The chairman represents the company to investors and other outside
stakeholders/constituents.
3. Effective communication with shareholders
The public face of the organisation So, the chairmans roles include
communication with shareholders.
This occurs in a statutory sense in the annual report and at annual and
extraordinary general meetings.
4. Finally, the co-ordinating of NEDs and facilitating good relationships
between them and executives
5. Ensuring the board receives accurate and timely information
Benefits of separation of roles of Chair & CEO
1. Frees up the chief executive to fully concentrate on the management of the
organisation
2. Allows chair to represent shareholders interests
3. Removes the risks of unfettered powers in one individual
4. Reduces the risk of a conflict of interest in a single person being responsible
for company performance whilst also reporting on that performance to markets
5. Chairman provides a conduit for the concerns of non-executive directors
6. Ensures the CEO is responsible to someone named directly
7. Agrees with most best practice codes

Importance of the chairmans statement

An important and usually voluntary item, typically at the very beginning of an
annual report.
Conveys important strategic messages

Allows chairman to inform shareholders about issues Legal rights and

responsibilities of Directors (Breach of responsibility can leave director open to
criminal prosecution)
Disclosures
Mandatory & Voluntary Disclosures
Chairman and CEO statements
Voluntary but to not include this would be unimaginable.
Operating and Financial Review (OFR)
This detailed report is written in non financial language.
Its narrative is forwardloo king rather than historical.
Stakeholders hoped the OFR would be a vehicle for:
1. risk disclosure
2. social and environmental reporting
Others

There are also:

The accounts
Press releases
AGM
Annual General Meeting
The AGM is a formal part of a company financial year.
Purpose:
1. Present the years results
2. Discuss the outlook for the coming year
3. Present the audited accounts and
4. To have the final dividend and directors emoluments approved by
shareholders.
Shareholder approval is signalled by the passing of resolutions in which
shareholders vote in proportion to their holdings.
It is usual for the board to make a recommendation and then seek approval of
that recommendation by shareholders.
The dividend per share, for example, is recommended by the board but only paid
after approval by the shareholders at the AGM.

Institutional shareholders may employ proxy voting if they are unable to attend
in person.
The chairman should arrange for the chairmen of the audit, remuneration and
nomination committees to be available to answer and for all directors to attend.
Notice of the AGM to be sent to shareholders at least 20 working days before the
meeting
Extra-ordinary General Meeting
Extraordinary meetings are called when issues need to be discussed and
approved that cannot wait until the next AGM. When events necessitate
substantial change or a major threat, an EGM is called.

Management may want:

a shareholder mandate for a particular strategic move, such as for a merger or
acquisition.
Other major issues that might threaten shareholder value may also lead to an
EGM such as a whistleblower disclosing information that might undermine
shareholders confidence in the board of directors
They also occur for many irregular events for special issues such as takeovers
The issue is basically too serious to wait for the next AGM
Proxy Voting
Ensures that shareholders unable to attend meetings can still vote
The Combined Code 2006 requires that:
After a vote has been taken the number of proxy votes should be stated in terms
of:
1. number of votes for the resolution
2. number of votes against the resolution, and
3. number of votes withheld
Individual Directors
Directors Rights and Duties
Directors Rights and Duties
These are:
Rights
The first thing to understand is that directors do not have unlimited power. They
are limited by:

1. Articles of association

These prescribe how directors operate including the need to be re-elected every
3 years
2. Shareholder resolution
This can stop the directors acting for them
3. Provisions of law
Eg health and safety or the duty of care.
4. Board decisions
Boards make decisions in the interests of shareholders not directors
Fiduciary Duties
1. Act in good faith:
as long as directors motives are honest
2. Duty of skill and care
This is a legal requirement.
The amount of skill expected depends on your expertise and experience
Penalties for acting without due skill and care
Any contract made by the director may be void
Directors may be personally liable for damages if negligent
May be forced to restore company property at their own expense
Directors Service Contract
Directors service contract

This should Include:

key dates
duties
remuneration details
termination provisions (notice
constraints
other ordinary employment terms
Directors Induction & CPD
Induction
Depends on their background

It is important, for effective participation in board strategy development, not only

for the board to get to know the new director, but also for the director to build
relationships with the existing board and employees below board level.
Induction Process
Highly tailored to the individual but will include the following
1. Company structure
2. Company values
3. Company strategy
4. Markets and key players

5. Day to day job details

6. Reporting lines
7. Information about Board operations
It can be given as a presentation by other directors or as an induction pack also
Objectives of CPD
1. Maintain sufficient skills and ability
2. To communicate challenges and changes within the business environment
3. Improve board effectiveness
4. Support personal development of directors
Conflicts of Interest
Conflict and disclosure of interests
Key areas
Directors contracting with their own company (However, the articles may allow if
disclosed)
Substantial property transactions: These need approval
Loans to directors: generally prohibited
Insider dealing/trading

Here a director uses information (not known publicly) which if publicly available
would affect the share price
Trading in own shares with this knowledge is fraud
Directors are often in possession of market-sensitive information ahead of its
publication and they would therefore know if the current share price is under
or over-valued given what they know about forthcoming events.

If, for example, they are made aware of a higher than expected performance, it
would be classed as insider dealing to buy company shares before that
information was published.
Why is insider trading unethical and often illegal?
Directors must act primarily in the interests of shareholders.
If insider dealing is allowed, then it is likely that some decisions would have
a short-term effect which would not be of the best long-term value for
shareholders.
This can become particularly important at times of takeovers where inside
information could mean big profits for the director and not necessarily in the
longer term interests of the shareholder
There is also the potential damage that insider trading does to the reputation
and integrity of the capital markets in general which could put off investors who
would have no such access to privileged information and who would perceive
that such market distortions might increase the risk and variability of returns
beyond what they should be.
Director's Remuneration
Director's Remuneration
The purpose of directors' remuneration is:
to attract and retain individuals
motivate them to achieve performance goals
Components of a rewards package

These include:
1. Basic salary , which is paid regardless of performance;
It recognises the basic market value of a director. (Not linked to performance in
the short run but year-to-year changes in it may be linked to some performance
measures)
2. Short and long-term bonuses and incentive plans which are payable
based on pre-agreed performance targets being met;
3. Share schemes
which may be linked to other bonus schemes and provide options to the
executive to purchase predetermined numbers of shares at a given favourable
price;
4. Pension and termination benefits including a pre-agreed pension value
after an agreed number of years service and any golden parachute benefits
when leaving;
5. Pension contributions

are paid by most responsible employers, but separate directors schemes may be
made available at higher contribution rates than other employees.
6. Other benefits in kind such as cars, health insurance, use of company
property, etc.
Balanced package
This is needed for the following reasons:
A reduction of agency costs
These are the costs the principals incur in monitoring the actions of agents
acting on their behalf.
The main way of doing this is to ensure that executive reward packages are
aligned with the interests of principals (shareholders) so that directors are
rewarded for meeting targets that further the interests of shareholders.
A reward package that only rewards accomplishments in line with shareholder
value substantially decreases agency costs and when a shareholder might own
shares in many companies, such a self-policing agency mechanism is clearly of
benefit.
Typically, such reward packages involve abonus element based on
specific financial targets in line with enhanced company (and hence shareholder)
value.
Director's removal

There are 3 main methods

Retire by Rotation
At AGM, every 3 years
Longest serving director retires first
Means a nice phased retirement of directors
Directors can be replaced in an orderly manner
Termination
1. Death
2. Resignation
3. Not seeking re-election (see above)
4. Bankruptcy
5. Disciplinary procedures
Disqualification
The reasons can be:
Wrongful trading - allowing the company to trade while knowing its insolvent

Not keeping proper accounting records

Failing to prepare & file accounts. 3+ defaults in filing documents in 5 years
Failing to send tax returns and pay tax

Stakeholders
Corporate Social Reponsibility
CSR Introduction
Corporate Social Responsibility (CSR)
CSR is a concept whereby organisations consider the interests of society by
taking responsibility for the impact of their activities on wider stakeholders.
Milton Friedman
Only humans have moral responsibilitiesnot companies
Enlightened Self Interest
By looking after society also, society will respond and look after your company
Carrolls view on CSR
1. Economic
Economic responsibilty towards shareholders, employees etc -eg Maximise EPS,
be consistently profitable
Eg.

Shareholders demand a good return

Employees want fair employment
Customers seek good quality products
2. Legal
Legal responsibility to operate within the laws of society e.g.. Health and safety
Laws codify society's moral views
3. Ethical
Ethical responsibility to act fairly e.g..Do not put profits before ethical norms
4. Philanthropic
Philanthropic responsibility to give to charities, sponsor art events etc
Social responsiveness of a company
1. Reaction (deny all responsibility to society)
2. Defence (Accept responsibility but do the minimum)

3. Accommodation (Do what is demanded of them)

4. Proaction (Go beyond the norm)
Definition and categories
The Mendelow Framework
Understanding the Influence of each Stakeholder (MENDELOW)
This framework is used to attempt to understand the influence that each
stakeholder has over an organisations strategy.
The idea is to establish which stakeholders have the most influence by
estimating each stakeholders individual power over and interest in the
organisations affairs.
The stakeholders with the highest combination of power and interest are likely to
be those with the most actual influence over

objectives.
The Mendelow Framework
Power
Is the stakeholders ability to influence objectives
Interest
is how much the stakeholders care
Influence
= Power x Interest
However it is very hard to effectively measuring each stakeholders power and
interest.
The map is not static; changing events can mean that stakeholders can move
around the map

Mendelow Framework - explanation

1. A) Low power, low Interest - Minimal effort
These can be largely ignored, although this does not take into account any moral
or ethical considerations.
It is simply the stance to take if strategic positioning is the most important
objective
2. B) Low power, high interest - Keep informed
Can increase their overall influence by forming coalitions with other stakeholders
in order to exert a greater pressure and thereby make themselves more
powerful.

The management strategy for dealing with these stakeholders is to keep

informed
3. C) High power, low interest - Keep satisfied
All these stakeholders need to do to become influential is to re-awaken their
interest.
This will move them across to the right and into the high influence sector, and so
the management strategy for these stakeholders is to keep satisfied.
4. D) High power, high interest - Key players
Those with the highest influence.
The question here is how many competing stakeholders reside in that quadrant
of the map.
If there is only one (eg management) then there is unlikely to be any conflict in a
given decision-making situation.
If there are several and they disagree on the way forward, there are likely to be
difficulties in decision making and strategic direction
Stakeholders Definitions and Influence

Stakeholders Definitions and Influence

Definition
Freeman,1984 defined a stakeholder as:
Any group or individual who can affect or [be] affected by the achievement of an
organisations objectives.
This definition shows important bi-directionality of stakeholders - that they can
be affected by - and can affect - an organisation.
Small v large companies stakeholders
Compare, for example, the different complexities of a small organisation, such as
a corner shop with a large international organisation as a major university.
The stakeholders can be:
1. shareholders
2. management
3. employees
4. trade unions
5. customers
6. suppliers
7. communities

Stakeholder Theory
Business are now so large and pervasive they are accountable to more than just
direct shareholders; they are also accountable to other stakeholders

STAKEHOLDER CLAIMS
A stakeholder makes demands of an organisation.
Some shareholders want to influence what the organisation does (those
stakeholders who want to affect) and the others are concerned with the way they
are affected by the organisation.
Some stakeholders may not even know that they have a claim against an
organisation, this brings us to the issue of..
Direct stakeholder claims
Direct stakeholder claims are made by those with their own voice.
These claims are usually unambiguous, and are made directly between the
stakeholder and the organisation.
Stakeholders making direct claims will typically include:
1. trade unions
2. shareholders
3. employees
4. customers
5. suppliers
6. in some instances, local communities
Indirect stakeholder claims
Indirect claims are made by those stakeholders unable to make the claim directly
because they are, for some reason, inarticulate or voiceless.
This does not invalidate their claim however.
Typical reasons for this include the stakeholder being:
(apparently) powerless (eg an individual customer of a very large organisation)
not existing yet (eg future generations)

having no voice (eg the natural environment), or

being remote from the organisation (eg producer groups in distant countries).
The claim of an indirect stakeholder must be interpreted by someone else in
order to be expressed, and it is this interpretation that makes indirect
representation problematic.

How do you interpret, for example, the needs of the environment or future
generations?
The example is an environmental pressure group
Categories of Stakeholder
HOW TO CATEGORISE STAKEHOLDERS
Internal and external stakeholders
1. Internal stakeholders
Will typically include employees and management
2. External stakeholders
Will include customers, competitors, suppliers, and so on.
Some will be more difficult to categorise, such as trade unions that may have
elements of both internal and external membership
Narrow and wide stakeholders
1. Narrow stakeholders
Most affected by the organisations policies and will usually include shareholders,
management, employees, suppliers, and customers who are dependent upon the
organisations output.

2. Wider stakeholders
Less affected and may typically include government, less-dependent customers
and the wider (non local) community
An organisation may have a higher degree of responsibility and accountability to
its narrower stakeholders.
Primary and secondary stakeholders
1. Primary stakeholder
Without whom the corporation cannot survive
Do influence the organisation
2. Secondary stakeholders
Those that the organisation does not directly depend upon for its immediate
survival
Do not influence the organisation
Active and passive stakeholders
1. Active stakeholders
Those who seek to participate in the organisations activities.

Management and employees obviously fall into this active category, but so may
some parties from outside an organisation, such as regulators and environmental
pressure groups
2. Passive stakeholders
Are those who do not normally seek to participate in an organisations policy
making.
This is not to say that passive stakeholders are any less interested or less
powerful, but they do not seek to take an active part in the organisations
strategy.
Will normally include most shareholders, government, and local communities.
Voluntary and involuntary stakeholders
1. Voluntary stakeholders
Voluntary stakeholders are those that engage with an organisation of their own
choice and free will. They are ultimately (in the long term) able to detach and
discontinue their stakeholding if they choose.
They will include employees with transferable skills (who could work elsewhere),
most customers, suppliers, and shareholders.

2. Involuntary stakeholders
Involuntary stakeholders have their stakeholding imposed and are unable to
detach or withdraw of their own volition.
Do not choose to be stakeholders but are so nevertheless
Includes local communities, the natural environment, future generations, and
most competitors.
Legitimate and illegitimate stakeholders
Legitimacy depends on your viewpoint (one persons terrorist, for example, is
anothers freedom fighter).
1. Legitimate
Those with an active economic relationship with an organisation will almost
always be considered legitimate.
For example suppliers, customers
2. Illegitimate
Those that make claims without such a link, or that have no mandate to make a
claim, will be considered illegitimate by some.
This means that there is no possible case for taking their views into account
when making decisions.
Recognised and unrecognised (by the organisation) stakeholders

The categorisation by recognition follows on from the debate over legitimacy. If

an organisation considers a stakeholders claim to be illegitimate, it is likely that
its claim will not be recognised.
This means the stakeholders claim will not be taken into account when the
organisation makes decisions.
Known about and unknown stakeholders
It is very difficult to recognise whether the claims of unknown stakeholders (eg
nameless sea creatures, undiscovered species, communities in close proximity to
overseas suppliers, etc) are considered legitimate or not.
It may be a moral duty for organisations to seek out all possible stakeholders
before a decision is taken and this can sometimes result in the adoption of
minimum impact policies.
For example, even though the exact identity of a nameless sea creature is not
known, it might still be logical to assume that low emissions can normally be
better for such creatures than high emissions.

Theory
Stakeholder Theory
Stakeholder Theory
Proponents of shareholder theory
The agents (directors) have a moral and legal duty to only take account of
principals claims when setting objectives and making decisions.
A business is a citizen of society, enjoying its protection, support and benefits so
it has a duty to recognise a plurality of claims
INSTRUMENTAL AND NORMATIVE
MOTIVATIONS OF STAKEHOLDER THEORY
Some people are concerned about others opinions, while other people seem to
have little regard for others concerns. Why is this so?
1. The instrumental view of stakeholders
That organisations take stakeholder opinions into account only insofar as they
are consistent with profit maximisation So, a business acknowledges
stakeholders only because to do so is the best way of achieving other business
objectives.
If the loyalty of an important primary stakeholder group is threatened, it is likely
that the organisation will recognise the groups claim
It is therefore said that stakeholders are used instrumentally in the pursuit of
other objectives.
2. The normative view of stakeholders

Describes not what is, but what should be, deriving from the philosophy of the
German ethical thinker Immanuel Kant (1724 1804).
Kants argued civil duties were important in maintaining and increasing overall
good in society. We each have a moral duty to

each other in respect of taking account of each others concerns and opinions.
The normative view argues that organisations should accommodate stakeholder
concerns because by doing so the organisation observes its moral duty to each
stakeholder.
The normative view sees stakeholders as ends in themselves and not just
instrumental to the achievement of other ends.
Internal Control and Review
Internal Control
Objectives of Internal Control
General objectives of internal control
To ensure the orderly and efficient conduct of business in respect of systems
being in place and fully implemented.
To safeguard the assets of the business. Assets include tangibles and intangibles
To prevent and detect fraud
To ensure the c ompleteness and a ccuracy of accounting records.
To ensure the t imely preparation of financial information
Internal controls can be at the strategic or operational level.
At the strategic level, controls are aimed at ensuring that the organisation does
the right things;
at the operational level, controls are aimed at ensuring that the organisation
does things right.

Internal Control Failure

Internal Control Failure
Typical causes of internal control failure are:
1. Poor judgement in decision-making
2. Human error
3. Control processes being deliberately circumvented
4. Management overriding controls
5. The occurrence of unforeseeable circumstances

Internal Controls Importance

Internal Controls Importance
Importance of internal control
1. Underpins investor confidence
2. Risks would not be known about and managed without adequate internal
control
3. Helps to manage quality
4. Provides management with information on internal operations and compliance
5. Helps expose and improve underperforming internal operations
6. Provides information for internal and external reporting

However, internal control systems are only as good as the people using them.
No system is infallible
Responsibility for internal control is not simply an executive management role.
Though they should set the tone
All employees have some responsibility for monitoring and maintaining internal
controls
Effective Systems of Internal Control
Effective systems of Internal Control
These are:
Principles of internal control embedded within the organisations structures,
procedures and culture.
Capable of responding quickly to evolving risks.
Any change in the risk profile or environment of the organisation will necessitate
a change in the system
Include procedures for reporting failures immediately to appropriate levels of
management
Internal Control and Reporting
Internal control and reporting

The United States Securities and Exchange Commission (SEC)

guidelines are to disclose in the annual report as follows:
A statement of managements responsibility for establishing and maintaining
adequate internal control over financial reporting for the company.

This will always include the nature and extent of involvement by the chairman
and chief executive, but may also specify the other members of the board
involved in the internal controls over financial reporting.
The purpose is for shareholders to be clear about who is accountable for the
controls.
A statement identifying the framework used by management to evaluate the
effectiveness of this internal control.
Managements assessment of the effectiveness of this internal control as at the
end of the companys most recent fiscal year.
This may involve reporting on rates of compliance, failures, costs, resources
committed and outputs (if measurable) achieved.
Internal Audit
Internal Audit - What and When
Internal Audit - What and When
Internal Audit
What is Internal audit?
Internal audit is a management control, where all other controls are reviewed
Sometimes it is a statutory requirement
Codes of corporate governance strongly suggest it
The department is normally under the control of a chief internal auditor who
reports to the audit committee.
When is internal audit needed?

1. Large, diverse and complex organisation

2. Large number of employees
3. Cost benefit analysis required
4. Changes in organisational structure
5. Changes in key risks
6. Problems with existing internal control
7. Increased number of unexplained events
IA and Effective Internal Controls
IA and Effective Internal Controls
Role of internal audit in ensuring effective internal controls
Internal audit underpins the effectiveness of internal controls by performing
several key tasks:

1. Reviews and reports on controls

The controls put in place for the key risks that the company faces in its
operations are reviewed.
This will involve ensuring that the control (i.e. mitigation measure) is capable of
controlling the risk should it materialise.
This is the traditional view of internal audit. A key part of this role is to review the
design and effectiveness of internal controls.
2. Follow up Visits

Many organisations also require internal audit staff to conduct follow-up visits to
ensure that any weaknesses or failures have been addressed since their report
was first submitted.
This ensures that staff take the visit seriously and must implement the findings.
3. Examine Information
Internal audit may also involve an examination of financial and operating
information to ensure its accuracy, timeliness and adequacy.
In the production of internal management reports, for example, internal audit
may be involved in ensuring that the information in the report is correctly
measured and accurate.
Internal audit needs to be aware of the implications of providing incomplete or
partial information for decision-making.
4. Compliance to standards checks (Internal variance analysis)
It will typically undertake reviews of operations for compliance against standards.
Standard performance measures will have an allowed variance or tolerance and
internal audit will measure actual performance against this standard.
Internal compliance is essential in all internal control systems.
Examples might include safety performance, cost performance or the
measurement of a key environmental emission against a target amount (which
would then be used as part of a key internal environmental control).
5. Compliance with regulations
Internal audit is used to review internal systems and controls for compliance with
relevant regulations and externally- imposed targets.
Often assumed to be of more importance in rules-based jurisdictions such as the
United States, many industries have upper and lower limits on key indicators and
it is the role of internal audit to measure against these and report as necessary.
In financial services, banking, oil and gas, etc, legal compliance targets are often
placed on companies and compliance data is required periodically by
governments.

Audit Committee
Audit Committee & Internal Control
Audit Committee & Internal Control

Who is in the Audit Committee?

Entirely NEDs (at least three in larger companies), of whom at least one has had
recent and relevant financial experience
What is its Key roles?
1. Oversight
2. Assessment
3. Review
of other functions and systems in the company.
What is the Most important areas for attention regarding IC?
Monitoring the adequacy of internal controls involves analysing the controls
already in place to establish whether they are capable of mitigating risks
To check for compliance with relevant regulation and codes
Playing a more supervisory role if necessary, for example reviewing major
expenses and transactions for reasonableness
Checking for fraud
Audit Committee and External Audit
Audit Committee & External Audit
Audit committee must oversee the relationship between external auditors and
the company

Key roles
So the role is to OVERSEE the external audit relationship, I want you to therefore
visualise windscreen wipers when you think of audit committee and external
audit.
Visualise the committee as windscreen wipers - helping the external auditors to
see things more clearly.
This will help you understand their key role in this respect:
W ork plan of auditors is reviewed
I independence is maintained
P rep are for the audit

E engagement terms approved

R ecommend and review audits and their work
S election process involvement
Audit Committee and Internal Audit
Audit Committee & Internal Audit
As part of the overseeing internal controls the audit committee must also
oversee the internal audit function
This time I want you to appreciate the difference between how an audit
committee would deal with an external auditor compared to an internal one.
To make that distinction clear for your memory - understand that the internal
audit department work for the same company as

the committee.
They share the same goals therefore. In fact picture the internal auditor as one
man only.
After all the head of IA is in fact appointed by the audit committee.
Remember though that he works for the same company as the audit committee.
So they like him. In fact they often say We are Him!.
This will help you memorise those key roles..
Key roles
W ork plan reviewed
E ffectiveness assessed
A ccountable for the Internal Controls
R ecommendations are actioned
E fficiency of IA ensured
H ead of IA appointed
I ndependence preserved
M onitor IA
Risk
Process and Indentifaction
Identifying Risk
Identifying Risks

Management must be aware of potential risks

They change as the business changes
So this stage is particularly important for those in turbulent environments
Uncertainty can come from any of the political, economic, natural, sociodemographic or technological contexts in which the organisation operates.
Categories of risk
1. Strategic risks
Refers to the positioning of the company in its environment.
Typically affect the whole of an organisation and so are managed at board level
2. Operational risks
Refers to potential losses arising from the normal business operations.
Are managed at risk management level and can be managed and mitigated by
internal controls.
3. Financial risks
= are those arising from a range of financial measures.
The most common financial risks are those arising from financial structure
(gearing), interest rate risk, liquidity
4. Business risks
The risk that the business won't meet its objectives.
If the company operates in a rapidly changing industry, it probably faces
significant business risk.
5. Reputation risk
Any kind of deterioration in the way in which the organisation is perceived
When the disappointed stakeholder has contractual power over the organisation,
the cost of the reputation risk may be material.
6. Market risk
Those arising from any of the markets that a company operates in, such as
where the business gets its inputs, where it sells its products and where it gets
its finance/capital
Market risk reflects interest rate risk, currency risk, and other price risks
7. Entrepreneurial risk

The risk associated with any new business venture

In Ansoff terms, it is expressed the unknowns of the market reception

It also refers to the skills of the entrepreneurs themselves.

Entrepreneurial risk is necessary because it is from taking these risks that
business opportunities arise.
8. Credit risk
Credit risk is the possibility of losses due to non-payment by creditors.
9. Legal, or litigation risk
arises from the possibility of legal action being taken against an organisation
10. Technology risk
arises from the possibility that technological change will occur
11. Environmental risk
arises from changes to the environment over which an organisation has no direct
control, e.g. global warming, or occurrences for which the organisation might be
responsible,
e.g. oil spillages and other pollution.
12. Business probity risk
related to the governance and ethics of the organisation.
13. Derivatives risk
due to the use of underperforming financial instruments
14. Fiscal risks
risk that the new taxes and limits on expenses allowable for taxation purposes
will change.
Risk Management Process
Risk and the risk management process
4 step process:
1. Identify Risk
Make list of potential risks continually

2. Analyse Risk
Prioritise according to threat/liklihood
3. Plan for Risk
Avoid or make contingency plans (TARA)
4. Monitor Risk
Assess risks continually

Why do all this?

To ensure best use is made of opportunities
Risks are opportunities to be siezed
Can help enhance shareholder value
Related risks
Related and correlated
Related risks
These are risks that vary because of the presence of another risk.
This means they do not exist independently and they are likely to rise and fall in
importance along with the related one.
Risk correlation is a particular example of related risk.

Positively Correlated
Risks are positively correlated if one will fall with the reduction of the other and
increase with the rise of the other.
Negatively correlated
They would be negatively correlated if one rose as the other fell.
Example
Often environmental and reputation risks are positively correlated - the more
attention spent on how the business interacts with the environment means their
environmental risk is lower and also their reputation risk
Risk Analysis

Risk Analysis
Risk Analysis
Use a Risk map like the one below
This helps management analyse risks according to their probability / likelihood of
happening, and the potential threat they carry
Board Evaluation of risk
Depends on:
Risk appetite of company
Maximum risk a business can take (capacity)
Risk that cant be managed (residual risk)
Risk Exposure Assessment

Risk assessment can be broken down into 5 steps:

1. Identify risks facing the company - through consultation with stakeholders
2. Decide on acceptable risk - and the loss of return/ extra costs associated
with reduced risks
3. Assess the likelihood of the risk occurring - management attention obviously
on the higher probability risks
4. Look at how impact of these risks can be minimised - through consultation
with affected parties
5. Understand the costs involved in the internal controls set up to manage
these risks - and weighed against the benefits

Risk Attitudes
Risk Attitudes
Risk Attitudes / Appetite
The overall risk strategy determines the overall approach to risk.
1. Risk Appetite
This determines how risks will be managed.
Some will be risk averse and some will be risk seekers, younger companies often
need to be risk seekers and more established companies risk averse
2. Risk Capacity
Risk capacity indicates how much risk the organisation can accept.
The overall strategy of an organisation will therefore be affected by risk strategy,
risk appetite and risk capacity.
Risk is a good thing because
Makes a business more competitive
Prevents just following the leader
Comes with rewards
ALARP
(As low as reasonable practicable)
A risk is more acceptable when it is low (and less acceptable when it is high).
Risks cannot be completely eliminated, so each risk is managed so as to be as
low as is reasonably practicable because we can never say that a risk has a zero
value.

For example, It would be financially and operationally impracticable to

completely eliminate health and safety risks
This does not mean becoming complacent, so we maintain a number of controls
that should reduce the probability of the risks materialising,
Risk Planning and Control
Risk Control
Risk Planning and Control strategies
TARA
There are four strategies for managing risk and these can be undertaken in
sequence. It is sometimes called the TARA framework.
1. Transfer
This means passing the risk on to another party which, in practice means an
insurer or a business partner such as a supplier or a customer
2. Avoid
This means asking whether or not the organisation needs to engage in the
activity where the risk is.
If it is decided that the risk cannot be transferred nor avoided, it might be asked
whether or not something can be done to reduce the risk.
3. Reduce
This means diversifying the risk or re-engineering a process to bring about the
reduction.
It can also include Risk sharing.
This involves finding a party that is willing to enter into a partnership so that the
risks of a venture might be spread
4. Retain
This means believing there to be no other feasible option. Such retention should
be accepted when the risk and return characteristics are clearly known

Embedded Risk
Embedded risk
It is important to embed awareness at all levels to reduce the costs of risk
In practical terms, embedding means introducing a taken-for-grantedness of risk
awareness into the culture of an organisation
Culture, defined in Handys terms as the way we do things round here
underpins all risk management activity as it defines attitudes, actions and
beliefs.

How?
Introduce risk controls into the process of work and the environment in which it
takes place.
So that people assume such measures to be non-negotiable components of their
work experience.
Risk management becomes unquestioned, taken for granted, built into the
corporate mission and culture and may be used as part of the reward system.
Risk Monitoring
Risk Manager
Risk management committee

Risk management committee Role

1. To agree the risk management
2. Review risk reports from affected department
Provide board guidance on emerging risks
Work with the audit committee on designing and monitoring internal controls
3. Monitor overall exposure and specific risks. Strategic risk monitoring could
occur frequently
4. Assess the effectiveness of risk management systems
Roles of a risk manager
1. Providing overall leadership, vision and direction, involving the establishment
of risk management (RM) policies
2. Seeking opportunities for improvement of systems.
3. Developing and promoting RM competences
Arguments against Risk management
1. Cost
2. Disruption to normal organisational practices
3. STOP errors - where a practice has been stopped when it should have been
allowed to proceed
4. Slowing the seizing of new business opportunities
Risk Audits
Risk Audit
Internal and external risk audit

Risk audit and assessment is a systematic way of understanding risks

Features
1. Complicated
It can be a complicated and involved process. Some organisations employ teams
of people to monitor and report on risks.
2. Voluntary
Risk audit is not a mandatory requirement for all organisations but, importantly,
in some highly regulated industries (such as banking and financial services), a
form of ongoing risk assessment and audit is compulsory
Process
1. Identify risk
Management must be aware of potential risks
They change as the business changes
So this stage is particularly important for those in turbulent environments
Uncertainty can come from any of the political, economic, natural, sociodemographic or technological contexts in which the organisation operates.
2. Assess risks
The probability and the impact of the risk needs assessing
( sometimes not possible to gain enough information about a risk to gain an
accurate picture of its impact and/or probability)
This strategy is often, from share portfolio management to terrorism prevention.
Businesses then come up with strategies to deal with the risks (TARA) but thats
for a different part of the syllabus In a risk audit, the auditor now reviews the
organisations responses to each identified and assessed risk.
3. Review controls over risk
Here, the controls used are reviewed
For example, insurance cover or diversification of the portfolio
In the case of accepted risks, a review is made of things such as
evacuation, clean-up and so on,
4. Report on inadequate controls

Finally, a report is produced and submitted, in most cases, to the Board

Management will want to know about the key risks; the quality of existing
assessment and the effectiveness of controls currently in place.
Any ineffective controls would be the subject of urgent management attention.

Internal Risk Audit

Advantages
Those conducting the audit will be familiar with the systems, environment and
culture.
So an internal auditor should be able to carry out a highly context-specific risk
audit.
The audit assessments will therefore use appropriate technical language and in a
management specified form
Disadvantages
Impaired independence and overfamiliarity
External Risk Audit
Advantages
Reduces the independence and familiarity threats.
Higher degree of confidence for investors and regulators.
A fresh pair of eyes to the task
Best practice and current developments often used
Ethics
Professional
Professions and the Public Interest

Professions and the public interest

Profession
Has two essential and defining characteristics:
1. A body of theory
2. Knowledge which guides its practice and commitment to the public interest
Professionalism
Professionalism may be interpreted more as a state of mind while the profession
provides the rules that members of that profession must follow.
Over time, the profession appears to be taking more of a proactive than a
reactive approach. This means seeking out the public interest and positively
contributing towards it
The Public Interest
Providing information that society as a whole should be aware of in many cases
public interest disclosure is used to establish that disclosure is needed although
there is no law to confirm this action

A professional accountant
Society accords professional status to those that both possess a high level of
technical knowledge in a given area of expertise (accounting, engineering, law,
dentistry, medicine) on the understanding that the expertise is used in the public
interest.
The body of knowledge is gained through passing examinations and gaining
practical expertise over time. Acting in the public interest means that the
professional always seeks to uphold the interests of society and the best
interests of clients (subject to legal and ethical compliance).
Fundamental principles (responsibilities) as a professional
Society has reasonable expectations of all professionals. The major professional
responsibilities of any professional are as follows:
1. Integrity

The highest levels of probity in all personal and professional dealings.

Professionals should be straightforward and honest in all relationships.
2. Objectivity
Professionals should not allow bias, conflicts of interest or undue influence to
cloud their judgements or professional decisions.
3. Professional competence and due care
Professionals have a duty to ensure that their skills and competences are
continually being updated and developed to enable them to serve clients and the
public interest.
4. Confidentiality
Professionals should, within normal legal constraints, respect the confidentiality
of any information gained as a result of professional activity or entrusted to them
by a client.
5. Professional behaviour
Professionals should comply fully with all relevant laws and regulations whilst at
the same time avoiding anything that might discredit the profession or bring it
into disrepute.
Responsibilities to employer
Acting with diligence, probity and care in all situations.
Absolute discretion of all sensitive matters both during and after the period of
employment.
To act in shareholdersinterests as far as possible and that he or she will show
loyalty within the bounds of legal and ethical good practice.
Responsibilities as a professional

To observe the letter and spirit of the law in detail and of professional ethical
codes where applicable
If no codes, apply pr inciples-basedethical standards (such as integrity and
probity) such that they would be happy to account for their behaviour if so
required.
To act in the public interest
Accounting has a large potential impact on the public - the working of capital
markets and hence the value of tax revenues, pensions and investment rests
upon accountantsbehaviour.
The stability of business organisations and hence the security of jobs and the
supply of important products also depends

on the professional behaviour of accountants.

Ethical threats
Ethical threats
You are an ASS IF you get caught doing any of these ;-)
A dvocacy
S elf-interest
S elf-review
I ntimidation
F amiliarity
Safeguards against these threats:
1. Be professional
CPD; Corporate governance regulations; professional monitoring and discipline
2. Create the right environment
Internal controls, reviews, ethics codes, discipline and reward systems
3. Individual ethics
comply with profession standards; mentoring, contact ACCA if in doubt, whistleblowing
Bribery and corruption
Bribery and corruption

Bribery
= "the offering, giving, receiving or soliciting of any item of value to influence the
actions of an official or other person in charge of a public or legal duty."

Bribing another person

You are guilty of this if you:
1. Offer
2. Promise or
3. Give an advantage
... to someone who you want to act improperly.
Being bribed
The recipient is also guilty.
If a person in your business bribes another personal to give your business an
advantage - the business is guilty then too.
How the business can avoid conviction
Must demonstrate that it had adequate procedures (see later) in place designed
to prevent bribery.
Practical steps to take
Small and medium-sized enterprises will inevitably have fewer resources to
counter bribery than larger companies.
Director-level and senior management support.
Make sure that all senior managers and directors understand that they could be
personally liable.

It is important that senior management lead the anti-bribery culture of the

business, especially if it wants to take advantage of the adequate procedures
defence to the offence of failing to prevent bribery.
Risk assessment
1. Make sure the risks that the business may be exposed to, are understood.
For example, certain industry sectors (such as construction, energy, oil and gas,
defence and aerospace, mining and financial services) and countries present a
greater risk as employees are more likely to engage in bribery in these areas.
2. Review how potential customers are entertained, especially those from
government agencies or state-ownedenterprises or charitable organisations.
Routine or inexpensive corporate hospitality is unlikely to be a problem, but have
clear guidelines in place that everybody understands.
3. If the business operates in foreign jurisdictions, always check local laws.
4. Think about the types of transactions that the business engages in; who the
transactions are with and how they are undertaken.
High- risk transactions include:

procurement and supply chain management;

involvement with regulatory relationships (for example, licences or permits); and
charitable and political contributions.
Dealing with third parties
Review all relationships with any partners, suppliers and customers.
For example, if an agent or distributor uses a bribe to win a contract for the
business, the business could be liable.
Ensure background checks are carried out on any agents or distributors before
engaging them.

Policies and procedures

Review any existing policies and procedures that the business has on preventing
bribery and corruption and decide whether they need to be updated.
If the business operates in a high-risk industry sector or country, consider
introducing a compulsory training programme for all staff.
Corruption
= "the abuse of entrusted power for private gain".
Ethical Codes
Ethical Codes
Purposes of codes of ethics
To convey the ethical values of the company to employees, customers,
communities and shareholders.
To control unethical practice by limiting and prescribing behaviour in given
situations
To stimulate improved ethical behaviour by insisting on full compliance with the
code.
Contents of a corporate code of ethics
Remember this by the useful acronym ETHICS..
E mployees policies eg equal opportunities policies, training etc
T ransparent & Truthful Treatment of shareholders
H ow customers are treated (complaint procedures etc)
I nclude everyone affected (e.g. Community and wider society)
C ompany Values

S ourcing of products/ materials done ethically

Professional Codes of Ethics
Content
1. Introduction
(Background and disciplinary measures)
2. Fundamental Principles
(Summary)
3. Conceptual Framework
(How principles are applied)
4. Detailed Application
(Specific circumstances)
Principles
1. Integrity
2. Objectivity
3. Professional Competence
4. Confidentiality
5. Professional BehaviourLimitations of Codes
Limitations
They can convey the (false) impression that professional ethics can be reduced
to a set of rules contained in a code.
Personal integrity is needed also emphasised.
Ethical codes do not and cannot capture all ethical dilemmas that an accountant
will encounter.

Regional variations mean that such codes cannot capture important differences
in emphasis in some parts of the world.
The moral right cannot be prescribed in every situation.
Professional codes of ethics are not technically enforceable in any legal manner
Ethical decision making
Ethical decision making
Ethical decision making and Kohlbergs 4 steps
1. Recognise the moral issue
2. Make moral judgement

3. Establish intent
4. Engage in moral behaviour
Lets take the example of petty cash lying around:
1. Moral issue
Could spend it on getting myself (employee) a coffee
2. Moral Judgement
It is immoral to do so as the money is not mine
3. Intent
I should put the petty cash where it belongs
4. Be Moral!
Ensure I do put it back and not buy myself a coffee!
What influences economic behaviour?

Issue related factors

How important it is to the decision maker eg, The more intense it is, the more
likely the decision will be ethical
Intensity is affected by:
Affects few
The affected are nearby
The affect is soon
The effect is huge
Most people agree on this
The affect of the decision will probably happen
Context Related
Certain behaviours are always rewarded or punished
It is the norm for this action to happen
Depends on culture and religion
Theories and Models
Deontological vs Teleological ethics
Deontological ethics
It originates from the Greek word deon, meaning "duty or obligation" (logos,
"science").
It is based on the concept of duty.

e.g. an obligation to tell the truth, not to harm others

An action is considered morally good because of some characteristic of the
action itself, not because the product of the action (consequence) is good
Teleological ethics ("Consequentialist")

This derives from the Greek word teos, meaning "end", since the end result of
the action is the sole determining factor of its morality.
A decision is right or wrong depends on its consequences or outcome.
As long as the consequences of the action taken are more favourable than
unfavourable, then the action can be considered as morally right.
The teleological theory comprises two approaches:
The consequentialist or teleological perspective is based on utilitarian or egoist
ethics meaning that the rightness of an action is judged by the quality of the
outcome.
1. Egoism
The quality of the outcome refers to the individual (what is best for me?).
2. Utilitarianism
The quality of outcome in terms of the greatest happiness of the greatest
number (what is best for the majority?).
Consequentialist ethics are therefore situational and contingent, and not
absolute.
Deontological vs Teleological ethics
Deontological ethics
1. This is where the means are judged more important than the ends.
2. The rightness of an action is judged by its intrinsic virtue
3. Morality is seen as absolute and not situational. An action is right if it would,
by its general adoption, be of net benefit to society.
Lying, for example, is deemed to be ethically wrong because lying, if adopted in
all situations, would lead to the deterioration of society.

Teleological ethics
1. This is where the ends are judged more important than the means.
2. An act is right or wrong depending on the favourableness of
the outcome (consequences)
3. In the teleological perspective, ethics is situational and not absolute.
Absolutism vs Relativism

Absolutism and relativism

Absolutism
Right and wrong are objective qualities that can be rationally determined and do
not change regardless of the person, culture or environment
Believes that there are eternal rules that guide all decision making in all
situations.
There is one right course of action regardless of the outcome.
This action should be chosen regardless of the consequences
A Dogmatic approach means accepting without discussion or debate and is an
example of absolutism
Relativism
A relativist will adopt a pragmatic approach and decide, in the particular
situation, what is the best outcome.
This involves a decision on what outcome is the most favourable and that is a
matter of personal judgment.

Three Kohlberg levels

Three Kohlberg levels
This is a framework for classifying a range of responses to ethical situations.
Kohlberg argued that the moral development of the individual determines how
one will react.
He stated 3 separate levels:
1. Pre-Conventional
At the preconventional level of moral reasoning, morality is conceived of in terms
of rewards, punishments and instrumental motivations.
Rules and norms are discarded as the individual opts for more self serving
attitudes.
Think children.
Stage/Plane 1 : Punishment-obedience orientation
Children do not yet speak as members of society.
Morality is seen as something imposed by grown-ups.
It often is seen in terms of reward and punishment.
Punishment "proves" that disobedience is wrong so to obey is to avoid
punishment.
"Will I be punished, if I am caught?" "Will I be rewarded, if I obey?"

Stage/Plane 2 : Instrumental relativist orientation

This stage recognises different sides to any issue.
Because everything is relative, each person is free to pursue his individual
interests. e.g. "you scratch my back and I will scratch yours"

2. Conventional
At the conventional level, morality is understood in terms of compliance with
either or both of peer pressure/social expectations or regulations, laws and
guidelines.
The more compliant you are with norms, the moral you see yourself as being.
Views the moral right as being compliant with legal and regulatory frameworks /
norms of society
Stage/Plane 3 : Good boy-nice girl orientation
"Good" behaviour is that which pleases, impresses or helps others and is
approved by them (i.e. "What will people think of me?").
Stage/Plane 4 : Law and order orientation
"Right" behaviour is about doing one's duty, showing respect for authority and
maintaining the given social order, regardless of peer pressure.
3. Post-Conventional
At the postconventional level, morality is understood in terms of conformance
with perceived higher or universal ethical principles.
Postconventional assumptions often challenge existing regulatory regimes and
social norms and so postconventional behaviour can often be costly in personal
terms.
Morality is conformance with higher or universal ethical principles.
Assumptions often challenge existing regulatory regimes and social norms and
so is often costly in personal terms.
Stage/Plane 5 : Social contract orientation
"Right" is defined in terms of protecting individual rights according to standards
which have been agreed on "in the public interest".
Stage/Plane 6 : Universal ethical principle orientation
Right" is defined by conscience according to self-chosen ethical principles
appealing to logical comprehensiveness, universality and consistency.
American Accounting Association Model (AAA)
THE AMERICAN ACCOUNTING ASSOCIATION (AAA) MODEL

Suggests a logical, seven-step process for decision making, which takes

ethical issues into account.
1. Establish the facts of the case. To ensure there is no ambiguity about what
is under consideration.
2. Identify the ethical issues in the case, by asking what ethical issues are at
stake.
3. Identify the norms by placing the decision in its social, ethical, and
professional behaviour context.
Professional codes of ethics are taken to be the norms, principles, and values.
4. Identify alternative courses of action by stating each one, without
consideration of the norms, in order to ensure that each outcome is considered,
however inappropriate it might be.
5. What is the best course of action that is consistent with the norms.
Then it should be possible to see which options accord with the norms and which
do not.
6. Consider consequences of the outcomes.
The purpose of the model is to make the implications of each outcome
unambiguous so that the final decision is made in full knowledge and recognition
of each one.
7. The decision is taken
The American Accounting Association model invites the decision maker to
explicitly outline their norms, principles, and values, while Tuckers model (next)
allows for discussion and debate over conflicting claims.
Tucker's Model
Tuckers 5-question model
Is the decision:
profitable? legal? fair? right?
sustainable or environmentally sound?

This model can require more thought than when using the AAA model in some
situations.
It might be the case that not all of Tuckers criteria are relevant to every ethical
decision.
The reference to profitability means that this model is often more useful for
examining corporate rather than professional or individual situations.
When the model asks, is it profitable?, it is reasonable to ask, compared to
what?

Similarly, whether an option is fair depends on whose perspective is being

adopted.
This might involve a consideration of the stakeholders involved in the decision
and the effects on them.
Whether an option is right depends on the ethical position adopted.
USING THESE MODELS
In the exam you may be asked to assess a situation using one of these models.
Although some marks will be available for remembering the questions in the
model used, the majority of marks will be assigned for its application.
If the situation is relatively complex, exam answers should reflect that
complexity, showing, for example, the arguments for and against a given
question in the model and also showing this in the final decision.
In most situations, the models can be used as a basis for identifying the factors
that need to be addressed.
In only the most clear-cut cases, or when the case provides a minimum of
information, will the decision be straightforward.
Gray, Owens and Adams
SEVEN POSITIONS ALONG THE CONTINUUM: GRAY, OWEN AND ADAMS
These are
1. Pristine Capitalists
The value underpinning this position is shareholder wealth maximisation, and
implicit within it is the view that anything that reduces potential shareholder
wealth is effectively theft from shareholders
2. Expedients

Also believe in maximising shareholder wealth, but recognise that some social
responsibility may be necessary
So, a company might adopt an environmental policy or give money to charity if it
believes that by so doing, it will create a favourable image that will help in its
overall strategic positioning
3. Proponents of social contract
Businesses enjoy a licence to operate and that this licence is granted by society
as long as the business acts deserving of that licence.
So, businesses need to be aware of the norms in society so that they can adapt
to them.
If an organisation acts in a way that society finds unacceptable, the licence can
be withdrawn by society, as was the case with Arthur Andersen after the collapse
of Enron.

4. Social ecologists
Recognise that business has a social and environmental footprint and therefore
bears some responsibility in minimising the footprint it creates.
An organisation might adopt socially responsible policies because it feels it has a
responsibility to do so.
5. Socialists
Those that see the actions of business as manipulating, and even oppressing
other classes of people.
Business is a concentrator of wealth in society and so the task of business,
social, and environmental responsibility is very large much more so than
merely adopting token policies
Business should recognise and redresses the imbalances in society and provides
benefits to stakeholders well beyond the owners of capital.
6. Radical feminists
Also seek a significant re-adjustment in the ownership and structure of society.
They argue that society and business are based on values that are usually
considered masculine in nature such as aggression, power, assertiveness,
hierarchy, domination, and competitiveness.
It would be better if society and business were based instead on connectedness,
equality, dialogue, compassion, fairness, and mercy (traditionally seen as
feminine characteristics).
7. Deep ecologists
The most extreme position, strongly believing that humans have no more
intrinsic right to exist than any other species
The worlds ecosystems of flora and fauna are so valuable and fragile that it is
immoral for these to be damaged simply for the purpose of human economic
growth.
Social and Environment Issues
Economic Sustanability

BENEFITS TO A RANGE OF STAKEHOLDERS

Economic sustainability is the term used to identify various strategies that make
it possible to utilise available resources to best advantage.
The idea is to promote usage of those resources that is both efficient and
responsible, and likely to provide long-tem benefits.
In the case of a business operation, economic sustainability calls for using
resources so that the business continues to function over a number of years,
while consistently returning a profit.

Economic sustainability forces a company to look on the internal and external

implications of sustainability management.
This means that managing economic sustainability must consider:
the financial performance of a company;
how the company manages intangible assets;
its influence on the wider economy; and
how it influences and manages social and environmental impacts
There is some consensus that sustainability is desirable for individual businesses
to prevent the devastating and inefficient impacts of corporate premature death,
and to enable and protect social and environmental initiatives, which tend to be
the product of more mature businesses.
Economic sustainability can be seen as a tool to make sure the business does
have a future and continues to contribute to the financial welfare of the owners,
the employees, and to the community where the business is located.
Environmental and Social Audits

Environmental and Social Audits

The social and environmental accounting movement began in the mid1980s, when it was argued that there was a moral case for businesses, in
addition to reporting on their use of shareholders funds, to account for their
impact on social and natural environments.
How, though for example, could you attribute a cost to the loss of species habitat
when building a new factory?
The full cost, then, should include the cost to the environment.
What has all this got to do with audit?
Many investors now want to know about the organisations environmental
footprint and represents risk in terms of reputational damage, or similar.
Some consumers will not buy from companies with poor ethical reputations. The
same can be said with employees
Social Audit
A process that enables an organisation to assess and demonstrate its social,
economic, and environmental benefits and limitations.
Also measures the extent to which an organisation achieves the shared values
and objectives set out in its mission statement.
Provides the process for environmental auditing
Environmental audit

This allows an organisation to produce an environmental report dealing with the

concerns above
This is generally voluntary
It means organisations must start collecting appropriate data: agreed metrics
(what should be measured and how) performance measured against those
metrics
and reporting on the levels of variance.
The problem is though what to measure and how to measure it.

An organisation can use whatever it chooses

Frameworks do exist, such as the data-gathering tools for the Global Reporting
Initiative (GRI), AA1000, and the ISO 14000 collection of standards, but
essentially there is no underpinning compulsion to any of it.
Entirely voluntary?
Not always as stakeholder pressure may demand it
Most large organisations collect a great deal of data, many have environmental
and produce an annual environmental report.
Social and Environmental Issues
Social and Environmental Issues
Social and environmental issues in the conduct of business and of
ethical behaviour
Economic activity is only sustainable where its impact on society and the
environment is also sustainable.
Sustainability can be measured empirically or subjectively
Environmental Footprint
Measures a companys resource consumption of inputs such as energy,
feedstock, water, land use, etc.
Measures any harm to the environment brought about by pollution emissions.
Measures resource consumption and pollution emissions in either qualitative,
quantitative or replacement terms.
Together, these comprise the organisations environmental footprint.
A target may be set to reduce the footprint and a variance shown.
Not all do this and so this makes voluntary adoption controversial

Sustainable development

The development that meets the needs of the present without compromising the
ability of future generations to meet their own needs.
Energy, land use, natural resources and waste emissions etc should be
consumed at the same rate they can be renewed
Sustainability affects every level of organisation, from the local neighborhood to
the entire planet.
It is the long term maintenance of systems according to environmental,
economic and social considerations.
Full cost accounting
This means calculating the total cost of company activities, including
environmental, economic and social costs
TBL (Triple bottom line) accounting
TBL accounting means expanding the normal financial reporting framework of a
company to include environmental and social performance.
The concept is also explained using the triple P headings of People, Planet and
Profit
The principle of TBL reporting is that true performance should be measured in
terms of a balance between economic (profits), environmental (planet) and social
(people) factors; with no one factor growing at the expense of the others.
The contention is that a corporation that accommodates the pressures of all the
three factors in its strategic investment decisions will enhance shareholder
value, as long as the benefits that accrue from producing such a report exceeds
the costs of producing it.

Environmental Accounting Systems

Environmental Accounting Systems
EMAS
EMAS compliance is based on ISO 14000 recognition although many
organisations comply with both standards
EMAS focuses on the standard of reporting and auditing of that reported
information.
Many companies refer to the standards in their CSR reports
ISO 14000
ISO 14000 focuses on internal systems although it also provides assurance to
stakeholders of good environmental management.