P1 All notes

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 principles-based approaches.
Smaller companies have more leeway than would be the case in a rules-based 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 coordinate 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
reelection (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 subboard management, that implement strategies, meet compliance targets and collect the
information and data on which boardlevel 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 fixedreturn bondholders

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 non-governmental 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 audit-type 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

Typical
governance
arrangements

Public listed
companies

Maximisation
of long-term
shareholder
returns

Directors

Shareholders

Executive board
monitored by nonexecutive directors
and non-executive
chairman.

Public sector

Implementation
of government
policy

Various
layers of
service and
departmental
managers

Ultimately,
taxpayers and,
in a
democracy,
voters (the
two are often
similar)

Complex political
structures seeking
to interpret the
wishes of taxpayers
and the best way
to deliver services

Charities and
voluntary
organisations

Achievement of
benevolent
purposes

Directors and
service
managers

Donors and
other
supporters
provide the

Ideally, an
executive board
accountable to
independent

provide the
resources.
Service users
or consumers
benefit from
charities.

independent
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 coordinate 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 coordinates 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 non-executive.
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 forwardlooking 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 a bonus 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 externallyimposed 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, socio-demographic 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, socio-demographic 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 principles-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, whistle-blowing

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-owned enterprises 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 readjustment 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 mid-1980s, 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.

Learn more list

Lauren Laverne on Ethical trade
Nice article

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.