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STUDY SYSTEM
ACCA
Paper P1 | GOVERNANCE, RISK AND ETHICS
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ACCA
GOVERNANCE, RISK AND ETHICS P1
STUDY SYSTEM
December 2014June 2015 Edition
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Paper
P1
Contents
Page
Introduction ...............................................................................................v
About This Study System ............................................................................v
Syllabus.....................................................................................................vi
ACCA Study Guide ......................................................................................ix
Examination Approach ............................................................................. xvi
Examination Technique .......................................................................... xvii
Sessions
1
10
11
12
iii
Contents
Sessions
iv
Page
13
14
15
16
17
18
19
20
21
Index ..................................................................................21-1
Introduction
Session Guidance
Visual Overview
Definitions
Terms are defined as they are introduced and larger groupings of terms will
be set forth in a Terminology section.
Illustrations
Exhibits
Examples
These should be attempted using the pro forma solution provided (where
applicable).
Key Points
Exam Advice
Commentaries
Session Summary
Session Quiz
These quick questions are designed to test your knowledge of the technical
content. A reference to the answer is provided.
Study Question
Bank
Example Solutions
Syllabus
Syllabus
Aim
To apply relevant knowledge, skills and exercise professional judgement in carrying out
the role of the accountant relating to governance, internal control, compliance and the
management of risk within an organisation, in the context of an overall ethical framework.
Rationale
The syllabus for Paper P1 Governance, Risk and Ethics acts as the gateway syllabus into the
professional level. It sets the other Essentials and Options papers into a wider professional,
organisational, and societal context.
The syllabus assumes essential technical skills and knowledge acquired at the Fundamentals
level where the core technical capabilities will have been acquired, and where ethics,
corporate governance, internal audit, control, and risk will have been introduced in a
subject-specific context.
The GRE syllabus begins by examining the whole area of governance within organisations
in the broad context of the agency relationship. This aspect of the syllabus focuses on the
respective roles and responsibilities of directors and officers to organisational stakeholders
and of accounting and auditing as support and control functions.
The syllabus then explores internal review, control and feedback to implement and support
effective governance, including compliance issues related to decision-making and decisionsupport functions. The syllabus also examines the whole area of identifying, assessing and
controlling risk as a key aspect of responsible management.
Finally, the syllabus covers personal and professional ethics, ethical frameworksand
professional valuesas applied in the context of the accountant's duties and as a guide to
appropriate professional behaviour and conduct in a variety of situations.
Main Capabilities
On successful completion of this paper, candidates should be able to:
A. Define governance and explain its function in the effective management and control of
organisations and of the resources for which they are accountable.
B. Evaluate the Governance, Risk and Ethics' role in internal control, review and
compliance.
C. Explain the role of the accountant in identifying and assessing risk.
D. Explain and evaluate the role of the accountant in controlling and mitigating risk.
E. Demonstrate the application of professional values and judgement through an ethical
framework that is in the best interests of society and the profession, in compliance with
relevant professional codes, laws and regulations.
vi
Syllabus
GRE
Professional
Module
Professional
Papers
AA (F8)
AB (F1)
vii
Syllabus
Detailed Syllabus
A. Governance and Responsibility
2. Categories of risk
4. Board committees
5. Directors' remuneration
D. Controlling Risk
1. Ethical theories
ACCA Support
For examiner's reports, guidance and technical articles relevant to this paper see:
www.accaglobal.com/en/student/acca-qual-student-journey/qual-resource/
acca-qualification/p1.html.
The ACCA's Study Guide which follows is referenced to the Sessions in this Study System.
viii
Ref.
Ref.
2. Agency relationships and theories
a) Define and explore agency theory.
b) Define and explain the key concepts in agency theory.
i) Agents
ii) Principals
iii) Agency
iv) Agency costs
v) Accountability
vi) Fiduciary responsibilities
vii) Stakeholders
c) Explain and explore the nature of the principal-agent relationship in the context of
corporate governance.
d) Analyse and critically evaluate the nature of agency accountability in agency
relationships.
e) Explain and analyse the following other theories used to explain aspects of the
agency relationship.
i) Transaction costs theory
ii) Stakeholder theory
3. The board of directors
a) Explain and evaluate the roles and responsibilities of boards of directors.
b) Describe, distinguish between and evaluate the cases for and against, unitary and
two-tier board structures.
c) Describe the characteristics, board composition and types of, directors (including
defining executive and non-executive directors (NED).
d) Describe and assess the purposes, roles and responsibilities of NEDs.
e) Describe and analyse the general principles of legal and regulatory frameworks
within which directors operate on corporate boards:
i) legal rights and responsibilities,
ii) time-limited appointments
iii) retirement by rotation,
iv) service contracts,
v) removal,
vi) disqualification
vii) conflict and disclosure of interests
viii) insider dealing/trading
f) Define, explore and compare the roles of the chief executive officer and company
chairman.
g) Describe and assess the importance and execution of, induction and continuing
professional development of directors on boards of directors.
h) Explain and analyse the frameworks for assessing the performance of boards and
individual directors (including NEDs) on boards.
i) Explain the meanings of "diversity" and critically evaluate issues of diversity on
boards of directors.
4. Board committees
a) Explain and assess the importance, roles and accountabilities of, board committees
in corporate governance.
b) Explain and evaluate the role and purpose of the following committees in effective
corporate governance:
i) Remuneration committees
ii) Nominations committees
iii) Risk committees.
iv) Audit committees
4
4
6
10
x
Ref.
5. Directors' remuneration
a) Describe and assess the general principles of remuneration.
i) purposes
ii) components
iii) links to strategy
iv) links to labour market conditions.
b) Explain and assess the effect of various components of remuneration packages on
directors' behaviour.
i) basic salary
ii) performance related
iii) shares and share options
iv) loyalty bonuses
v) benefits in kind
vi) pension benefits
c) Explain and analyse the legal, ethical, competitive and regulatory issues associated
with directors' remuneration.
6. Different approaches to corporate governance
a) Describe and compare the essentials of 'rules' and 'principles' based approaches to
corporate governance. Includes discussion of 'comply or explain'.
b) Describe and analyse the different models of business ownership that influence
different governance regimes (e.g. family firms versus joint stock company-based
models).
c) Describe and critically evaluate the reasons behind the development and use of
codes of practice in corporate governance (acknowledging national differences and
convergence).
d) Explain and briefly explore the development of corporate governance codes in
principles-based jurisdictions.
i) impetus and background
ii) major corporate governance codes
iii) effects of
e) Explain and explore the Sarbanes-Oxley Act (2002) as an example of a rules-based
approach to corporate governance.
i) impetus and background
ii) main provisions/contents
iii) effects of
f) Describe and explore the objectives, content and limitations of, corporate
governance codes intended to apply to multiple national jurisdictions.
i) Organisation for economic cooperation and development (OECD) Report
(2004)
ii) International corporate governance network (ICGN) Report (2005)
7. Corporate governance and corporate social responsibility
a) Explain and explore social responsibility in the context of corporate governance.
b) Discuss and critically assess the concept of stakeholders and stakeholding in
organisations and how this can affect strategy and corporate governance.
c) Analyse and evaluate issues of 'ownership,' 'property' and the responsibilities of
ownership in the context of shareholding.
d) Explain the concept of the organisation as a corporate citizen of society with rights
and responsibilities.
8. Governance: reporting and disclosure
a) Explain and assess the general principles of disclosure and communication with
shareholders.
b) Explain and analyse 'best practice' corporate governance disclosure requirements.
c) Define and distinguish between mandatory and voluntary disclosure of corporate
information in the normal reporting cycle.
7
2
2
7
8
Ref.
d) Explain and explore the nature of, and reasons and motivations for, voluntary
disclosure in a principles-based reporting environment (compared to, for example,
the reporting regime in the USA).
e) Explain and analyse the purposes of the annual general meeting and extraordinary
general meetings for information exchange between board and shareholders.
f) Describe and assess the role of proxy voting in corporate governance.
9. Public sector governance
a) Describe, compare and contrast public sector, private sector, charitable status
and non-governmental (NGO and quasi-NGOs) forms of organisation, including
purposes, ownership and stakeholders (including lobby groups).
b) Describe, compare and contrast the different types of public sector organisations at
subnational, national and supranational level.
c) Assess and evaluate the strategic objectives and governance arrangements specific
to public sector organisations as contrasted with private sector.
d) Discuss and assess the nature of democratic control, political influence and policy
implementation in public sector organisations including the contestable nature of
public sector policy.
B. Internal Control and Review
1
1
4
1
Ref.
10
9
10
11
11
9, 11
9
xii
Ref.
C. Identifying and Assessing Risk
1.
a)
b)
c)
d)
e)
2.
a)
b)
c)
d)
3.
a)
b)
c)
d)
e)
f)
g)
h)
Ref.
12
13, 14
14
14
14
12
13
13
13
11, 12
11
14
14
13
Ref.
14
14
Ref.
3. Risk avoidance, retention and modelling
a) Explain, and assess the importance of, risk transference, avoidance, reduction and
acceptance.
b) Explain and evaluate the different attitudes to risk and how these can affect
strategy.
c) Explain and assess the necessity of incurring risk as part of competitively managing
a business organisation.
d) Explain and assess attitudes towards risk and the ways in which risk varies in
relation to the size, structure and development of an organisation
E. Professional Values, Ethics and Social Responsibility
14
Ref.
1. Ethical theories
a) Explain and distinguish between the ethical theories of relativism and absolutism.
b) Explain, in an accounting and governance context, Kohlberg's stages of human
moral development.
c) Describe and distinguish between deontological and teleological/consequentialist
approaches to ethics.
d) Apply commonly used ethical decision-making models in accounting and
professional contexts
i) American Accounting Association model
ii) Tucker's 5-question model
2. Different approaches to ethics and social responsibility
a) Describe and evaluate Gray, Owen & Adams (1996) seven positions on social
responsibility.
b) Describe and evaluate other constructions of corporate and personal ethical stance:
i) short-term shareholder interests
ii) long-term shareholder interests
iii) multiple stakeholder obligations
iv) shaper of society
c) Describe and analyse the variables determining the cultural context of ethics and
corporate social responsibility (CSR).
d) Explain and evaluate the concepts of "CSR strategy" and "strategic CSR".
3. Professions and the public interest
a) Explain and explore the nature of a 'profession' and 'professionalism'.
b) Describe and assess what is meant by 'the public interest'.
c) Describe the role of, and assess the widespread influence of, accounting as a
profession in the organisational context.
d) Analyse the role of accounting as a profession in society.
e) Recognise accounting's role as a value-laden profession capable of influencing the
distribution of power and wealth in society.
f) Describe and critically evaluate issues surrounding accounting and acting against
the public interest.
4. Professional practice and codes of ethics
a) Describe and explore the areas of behaviour covered by corporate codes of ethics.
b) Describe and assess the content of, and principles behind, professional codes of
ethics.
c) Describe and assess the codes of ethics relevant to accounting professionals such
as the IFAC or professional body codes.
15
16
7
17
18
xiv
Ref.
5. Conflicts of interest and the consequences of unethical behaviour
a) Describe and evaluate issues associated with conflicts of interest and ethical conflict
resolution.
b) Explain and evaluate the nature and impacts of ethical threats and safeguards.
c) Explain and explore how threats to independence can affect ethical behaviour.
d) Explain and explore "bribery" and "corruption" in the context of corporate
governance, and assess how these can undermine confidence and trust.
e) Describe and assess best practice measures for reducing and combating bribery
and corruption, and the barriers to implementing such measures.
6. Ethical characteristics of professionalism
a) Explain and analyse the content and nature of ethical decision-making using
content from Kohlberg's framework as appropriate.
b) Explain and analyse issues related to the application of ethical behaviour in a
professional context.
c) Describe and discuss "rules based" and "principles based" approaches to resolving
ethical dilemmas encountered in professional accounting.
7. Integrated reporting and sustainability issues in the conduct of business
a) Explain and assess the concept of integrated reporting and evaluate the issues
concerning accounting for sustainability (including the alternative definitions
ofcapital):
i) Financial
ii) Manufactured
iii) Intellectual
iv) Human
v) Social and relationship
vi) Natural
b) Describe and assess the social and environmental impacts that economic activity
can have (in terms of social and environmental "footprints" and environmental
reporting).
c) Describe the main features of internal management systems for underpinning
environmental and sustainability accounting such as EMAS and ISO 14000.
d) Explain and assess the typical contents and guiding principles of an integrated
report, and discuss the usefulness of this information to stakeholders.
e) Explain the nature of social and environmental audit and evaluate the contribution
it can make to the assurance of integrated reports.
19
15, 19
19
19
20
Examination Approach
examination approach
The syllabus will be assessed by a three-hour paper-based examination. The examination
paper will be structured in two sections.
Time allowed: 3 hours
Section A:
Section B:
Number of marks
50
50
100
Section A
Section A will be based on a case study style question, with requirements based on several
parts with all parts relating to the same case information. The case study will usually
assess a range of subject areas across the syllabus and will require the candidate to
demonstrate high level capabilities to evaluate, relate and apply the information in the case
study to several of the requirements.
Section B
Section B comprises three questions of 25 marks each, of which the candidate must
answer two. These questions will be more likely to assess a range of discrete subject areas
from the main syllabus section headings, but may require application, evaluation and the
synthesis of information contained within short scenarios in which some requirements may
need to be contextualised.
Additional Information
The examiner has stated that some simple arithmetical calculations may be required when
dealing with risk. This will enable some aspects of risk to be examined that cannot be
examined in a solely narrative based examination.
The study guide offers more detailed guidance on the depth and level at which the
examinable documents will be examined.
xvi
Examination Technique
Examination technique
Aim of Paper P1
"To apply relevant knowledge, skills and exercise professional judgement in carrying out
the role of the accountant relating to governance, internal control, compliance and the
management of risk within an organisation, in the context of an overall ethical framework."
It is widely recognised that there is more to passing exams than recalling facts, terms,
definitions, etc. You must practise your examination technique to convey the skills other
than knowledge (i.e. comprehension, application and analysis) which the examiners and
their markers will be looking for when assessing the quality (rather than the quantity) of
your answers.
The examiner has made it clear that he expects you to read around and research the topic
and be aware of current issues related to the syllabus.
This will mean reviewing appropriate websites and key documents referred to in this Study
System (e.g. the UK Corporate Governance Code and the UK Stewardship Code) and major
listed companies' websites (e.g. business reviews, corporate governance statements,
sustainability reports, risk reports, investors' pages) and generally keeping up to date on
current corporate governance issues (e.g. research the Examples and Illustrations given in
this Study System).
Examination Technique
Instructions
< "Construct" (i.e. build up from basics) an argument. Lay the foundation and then
< Ethical positions of the company and its directorsoften one director will have a
conflicting ethical view to that of another. How can they be reconciled and how can
the ethical conflict be resolved? Identify from the scenario the ethical drivers and the
factors that determine the ethical position. Most situations can easily have an ethical
element.
< Corporate governancethe scenario is likely to present weaknesses that must be
identified and then resolved through recommendations. These may be based at a
national level or they may be based around cultural differences. Best practice has to be
identified.
< Agency and stakeholdersthe scenario will give plenty of detail of the environment
that the entity operates in. If directors are mentioned (as they probably will be) then
consider potential agency problems and costs. Not all of the stakeholders may be
specifically mentionedpractical experience and extrapolation may be necessary.
< As with Paper F8 Audit and Assurance control systems usually implies design,
application, weaknesses and impact on risks. Whenever something has gone wrong,
then consider the control implications (i.e. a control failed or was missing).
< With risks, look out for the most significant risksthese may relate to strategy,
operations and change. Having identified them, you will probably need to assess their
impact and how to respond to thempractical and cost effective solutions are expected.
< Look for clues indicating the use of a particular modelif the requirement does not
mention any by name, the scenario will give good clues if the examiner expects you to
use them.
xviii
Examination Technique
< Be aware of the underlying moral and ethical frameworksjust as you may think about
them in real life, do the same when answering questions. For example, is it acceptable
to favour one stakeholder over another?
< "Underpinning confidence"the examiner's "pet" phrases include "sound application
of corporate governance principles underpins market confidence in an entity";
"good controls that are relevant to the information needs of management, underpin
management's confidence in the information received"; "a good control environment
underpins regulatory confidence in the entity". Be alert to opportunities to "underpin".
Examination Technique
< Use underlined HEADINGS and subheadings (generated by the requirement and any
breakdown of the scenario into parts) to produce a logical and structured answer. This
is particularly important if you have been asked to present your answer in the form of a
report, for example.
< The examiner positively discourages rewording of requirements into introductory
sentences as recommended by some (former) examiners because, not only is it timeconsuming, it does not earn marks and candidates fail to identify the key words and so
fail to focus on the question set.
< Maintain a sentence structure and keep sentences and paragraphs short and succinct.
Look to suggested solutions of past examinations for appropriate style.
Explain and define where necessary (e.g. if asked to be writing to a layman, explain phrases
such as "business risk" briefly: "business risk, that is the risk that the business will not
achieve its objectives ..."). This is particularly important, if for example you are asked to
prepare a briefing note for the CEO to explain a position to shareholders. If being explained
to institutional investors, then an explanation would not be necessary.
< Try to achieve a good standard of English. Although you will not lose marks for spelling
mistakes and poor grammar, you may lose marks if your answer points cannot be
understood by the marker.
< Allow plenty of space to present your answer and, if your writing is difficult to read,
write on
every
other
WARNING: Restrict the use of underlining to headings and sub-headings (and use a
ruler). Do not waste time underlining what you consider to be the "key" wordsit is quite
unnecessary and may interfere with the marking process.
< Candidates often ask, "How much should I write". The examiner is not interested in
volume, he does not weigh scripts and marking is an arduous task. So do yourselves
(and your markers) a favouranswer the Q set and think about the relevance of what
you are writing. Look back to the answer plan (above).
Summary
When attempting an exam style and standard question, always practise exam technique so
that it is second nature to you by the time of the real exam.
< Spend time thoroughly reviewing your answer against the "model" answer and make
a note of the points you missed. (Do not be despondent if some of the answers you
encounter do not follow this guidancehistorically "model" answers are written solely to
convey technical content rather than exam technique.)
< Study the examiner's comments on candidates' performance in previous exams, areas of
weakness and suggestions for improvements.
< Practice "effective writing" throughout your studiesit is not unique to answering
auditing questions!
Remember the key elements to examination technique:
Read: This provides the facts to trigger your knowledge.
Think: without this planning process you will not be able to convey the skills of
comprehension, application and analysis which are expected of you.
Write: concentrate on your style of writing to address the examiners' requirements as
directly as possible.
xx
Examination Technique
NOTES
Session 1
Scope of Governance
FOCUS
This session covers the following content from the ACCA Study Guide.
A. Governance and Responsibility
1. The scope of governance
a) Define and explain the meaning of corporate governance.
b) Explain and analyse the issues raised by the development of the joint
stock company as the dominant form of business organisation and the
separation of ownership and control over business activity.
c) Analyse the purposes and objectives of corporate governance.
d) Explain, and apply in context of corporate governance, the key
underpinning concepts.
e) Explain and assess the major areas of organisational life affected by issues
in corporate governance.
f) Compare, and distinguish between, public, private and non-governmental
organisations (NGO) sectors with regard to the issues raised by, and scope
of, governance.
9. Public sector governance
a) Describe, compare and contrast public sector, private sector, charitable
status and non-governmental (NGO and quasi-NGOs) forms of
organisation, including purposes, ownership and stakeholders (including
lobby groups).
b) Describe, compare and contrast the different types of public sector
organisations at subnational, national and supranational level.
d) Discuss and assess the nature of democratic control, political influence
and policy implementation in public sector organisations including the
contestable nature of public sector policy.
(see ACCA Study Guide for expanded learning objectives)
Session 1 Guidance
Read the Introduction (s.1) and Organisational Impact (s.3).
Understand the various meanings of corporate governance (s.2.1) and the key concepts (s.2.3) as
all are highly examinable. The King Report (s.2.4) provides a link to corporate social responsibility
(Session 7).
VISUAL OVERVIEW
Objective: To provide a basic understanding of the scope of corporate governance.
CORPORATE DEVELOPMENT
Introduction
A Brief History
MEANING OF
CORPORATE
GOVERNANCE
Terminology
Best-Practice Elements
Key Underpinning
Concepts
King Report
ORGANISATIONS
Listed Companies
Private Companies
(Non-listed)
Public Sector
Non-governmental
Organisations
Quangos
Lobby Groups
Public Sector Debate
Session 1 Guidance
Understand how concepts of governance apply to public sector organisations (e.g. Q1 June 2010)
and charities (see Q1 June 2011).
1-1
Corporate Development
1.1
Introduction
1.2
definitions and
descriptions of
Corporate Governance.
A Brief History
1-2
existed since the first civilisation. Although initiated by soletraders and merchant guilds (effectively groupings of specialist
traders and craftsmen in a locality), the financing required to
expand trade and develop new markets outgrew the capacity
of the guilds. They began to seek finance through investment
by wealthy individuals, not connected with the guild, into
"joint stock". This eventually led to the formation of regulated
companies whose members could trade their shares in that
company. In theory, such members controlled the guild.
Also, governments issued charters to organisations to allow
them to raise public funding for particular risky ventures. An
early example of this was the East India Company formed by
Royal Charter in 1600 for the Merchant Guild of London to
develop trade into the East Indies.
*The UK Corporate
Governance Code was,
prior to 2010, called
the UK Combined
Code. The current
edition of "the Code"
was published in
September 2012 and
applies to accounting
periods beginning on
or after 1 October
2012 and applies to
all companies with
a Premium listing
of equity shares
regardless of whether
they are incorporated
in the UK or elsewhere.
1-3
*"CNN world" refers to the ease with which corporations are being
held to account by the public airing of their actions/inactions by
global media (e.g. use of child labour, the poor treatment of workers
in developing nations).
It may take 20 years to build a good reputation, but only 20 seconds
for bad publicity through the global media to destroy it. Reputation
risk is now taken very seriously.
2.1
Terminology
*Participants include
the board, managers,
shareholders and
other stakeholders
(e.g. employees,
suppliers, customers,
government, local
communities)hence
"society" in the
broader definition.
1-4
2.2
1-5
2.3
Reputation
Innovation
Integrity
Judgement
CORPORATE GOVERNANCE
KEY UNDERPINNING
CONCEPTS
Independence
Accountability
Responsibility
2.3.1
Scepticism
Fairness
2.3.2
Openness/Transparency
*Stakeholders also
include board members
(executives and NEDs)
and management who
implement the board's
decisions. Board
meetings and actions
should be open and
transparent within the
confines of the board.
1-6
2.3.3
Innovation
Scepticism
1-7
2.3.5
Independence
1-8
2.3.6
2.3.7
Responsibility
1-9
2.3.8
Accountability
2.3.9
Judgement
2.3.10 Integrity
Example 1 Integrity
Describe the concept of integrity and its context in corporate governance.
Solution
2.3.11 Reputation
1-11
2.4
King Report
Discipline
2.4.2
Social Responsibility
Organisations
3.1
Listed Companies
1-12
*Integrated reporting
<IR> requires
those charged with
governance to
acknowledge their
responsibilities to
stakeholders in order
to ensure the integrity
of information provided
in the report (see
Session 20).
3.2
*Corporate reporting
must be relevant and
reliable.
1-13
3.3
3.3.1
*Not to be confused
with "public
companies" (which
describes the
public availability of
shares).
*A state is not to
be confused with a
government.
1-14
*Public sector
organisations may
be at the national,
sub-national or supranational level (see
s.3.3.23.3.4 below).
3.3.2
*This process is
an example of the
application of a "social
contract" between
the people and the
government (i.e. the
state only exists to
serve the will of the
people and the people
are the source of all
political power enjoyed
by the state). The
people can choose to
give or withhold this
power.
1-15
Illustration 1 Healthcare
In many countries general healthcare is one of the tasks devolved to
local authorities, as they are usually in possession of the particular
statistics and needs analyses that are necessary for effective
planning of local health services. If a large housing project is
planned, or if there has been a significant influx of people because
of employment opportunities, the local authority can ensure that
appropriate health services are added or expanded to serve the
increase in the local population. Similarly, local demographic trends
and particular health service needs may be better understood by
sub-national authorities than by national government. In such
cases, individual health centres and general hospitals must report
to the local authority on selected metrics, which might include
budgetary compliance, patient statistics, bed occupancy rates, and
operation statistics. This would also mean that specialist medical
needs (e.g. heart surgery) or very expensive equipment (e.g. brain/
body scanners) could be centralised in each local authority (or a
group of local authorities) to ensure value for money application.
1-16
3.3.4
3.3.5
1-17
Integrity
Objectivity
Accountability
Openness
Honesty
Leadership
3.3.6
1-18
Putting
being
ensuring
1-19
3.4
1-20
Non-governmental
organisation"An
independent voluntary
association of people
acting together on a
continuous basis, for
some common purpose
other than achieving
government office,
making money or
illegal activities."
*Medicins sans
Frontiers ("Doctors
Without Borders") is a
huge, well-structured
organisation, that
delivers emergency
medical aid to
people affected by
conflict, epidemics,
disasters, etc.
2.Effective
governance
3.Strong
financial
oversight
4.Responsible
fundraising
The board in
control
The high
performance
board
Board review
and renewal
Board
delegation
The board should set out the functions of subcommittees, officers, the chief executive, other
staff and agents in clear delegated authorities
and monitor their performance.
Board and
trustee integrity
Board openness
1-21
3.5
An NGO may be funded by a government but remain semiindependent of the government in its activities. For example,
a government may want to provide an important service (e.g.
regional support of businesses) but ensure that its delivery is
free from (and seen to be free from) political interference. To
avoid accusations that a business-support decision was based
on political advantage, the governing party may give a publicly
funded organisation effective autonomy in its decision-making,
even though it is helping to implement government policy.
There are two main problems with quangos:
They may be accused of being unaccountable for their
decisions because they only weakly report to the government
(and the taxpayers) who fund their decisions.*
They can be politically awkward and, accordingly, their use in
the public sector changes over time.
3.6
Although their activities are legal, some argue that they may
not be helpful because the best-funded are most likely to be
heard. This can be against the public interest and in favour
of sectional interests (which is not always helpful to the
democratic process).
1-22
1-23
Questions are regularly set that cover the governance issues of public
sector and non-corporate organisations. Such questions require an
understanding of the stakeholders involved and their issues/claims,
a realisation that the organisation is not controlled by shareholders,
agency relationships (see Session 2), the various governing bodies
and how they are overseen. In addition, a question could cover the
impact of moving from a public body (controlled by government)
to a listed private enterprise (accountable to shareholders) through
privatisation. Not only would governance procedures change but
there would also be significant changes in risks and culture.
1-24
Session 1
Summary
Corporate governance is the system by which firms are directed and controlled within a
distribution of rights and responsibilities among directors, managers and stakeholders.
Corporate governance provides the structure for determining strategy and setting, monitoring
and achieving corporate objectives.
Corporate governance principles are also applicable to private firms and public entities.
The UK Corporate Governance Code recognises the key issues of corporate governance to be
leadership, effectiveness, accountability, remuneration, relations with shareholders and the
functions and duties of directors.
Corporate governance may also be applied to public sector organisations. The Committee
on Standards in Public Life adds selflessness (i.e. acting in the public interest rather than to
receive personal financial gain).
Session 1 Quiz
Estimated time: 15 minutes
1.
Priority
Q1
Estimated Time
Completed
Additional
Q2
Public Service
1-25
EXAMPLE SOLUTION
Solution 1Integrity
Under the ACCA Code of Ethics and Conduct, integrity requires that
"in all professional, business, personal and financial relationships,
members should be straightforward and honest. This implies
honesty, fair dealing and truthfulness. Members should not be
associated with (e.g. sign off) reports, returns, communications or
other information where they believe that the information:
contains materially false or misleading statements;
contains statements or information furnished recklessly; or
omits or obscures information required to be included where such
omission or obscurity would be misleading."
This understanding of the concept of integrity is fundamental for
strong corporate governance. The perceived integrity of the entity
(e.g. as a corporate body), the integrity of the actions taken by the
management and employees of the entity, the integrity of its external
and internal reports and information cannot be greater than the
integrity of those involved.
1-26
NOTES
1-27
Session 2
Session 2 Guidance
Read Session 2 thoroughly; you may need to read this session more than once.
Understand the concepts of agency and stakeholder theory as both are key to the syllabus, are
always examined and will be covered in greater depth in later sessions.
VISUAL OVERVIEW
Objective: To consider the application of agency theory and stakeholder theory in the
context of corporate governance.
THEORIES
AGENCY
Development
Key Concepts
Fiduciary Duties
Agency Problem
Agency Costs
Aligning Interests
Public Sector
TRANSACTION COST
Development
Comparison to
Agency Theory
INFLUENCE
Risk
Mendelow
STAKEHOLDER
Application
Development
Boardroom Impact
Stakeholder
Classification
Public Sector
ROLES
Internal Stakeholders
External Stakeholders
Session 2 Guidance
Read section 2 on transaction costs theory.
Work through all the Examples.
2-1
Agency Theory
1.1
Development
Agency theory
duties and conflicts that
occur between parties
who have a relationship
in which one or
more persons (the
principals) delegate
some decision-making
authority to another
person (the agent) in
order for the agent to
perform some service
on behalf of the
principals.
1.2
Key Concepts
2-2
Questions may
clearly be set on
agency theory
(e.g. definitions,
explanations,
analysing agency
relationships in a
given scenario).
However, even if
there is no specific
reference to agency,
agency relationships
can often be identified
in a scenario and
incorporated into
an answer, where
relevant. For
example, directors
will always have
a fiduciary duty
explaining that in
the context of the
question set would
earn marks.
Solution
1.
2.
3.
4.
1.3
Fiduciary Responsibilities
1.4
Fiduciary means
"trust". A fiduciary
relationship arises
when the faith and
confidence given
by one person is
accepted by the other
person. Fiduciary
responsibilities/duties
can be legal or ethical
in nature. Although
fiduciary duties apply
to directors, they
equally apply to any
agent.
2-3
2-4
1.5
Agency Costs
1.6
Agency theory
assumes that it is
costly and difficult for
the principal to verify
what the agent is
doing.
*Monitoring expenses
also include the
principal's time (e.g.
reading and analysing
reports, travelling to
and attending AGMs).
These costs are the
"other side" of some of
the bonding costs.
*Bonding costs also
include costs of stock
options and other
structures which
incentivise agents to
act in the principal's
best interests.
Residual costs also
include costs of agent
misbehaviour such
as using corporate
funds for private
purposes (e.g.
club memberships,
"meetings" in exotic
locations, employing
unqualified relatives at
high rates, etc).
*Many of these
"solutions" are
discussed in greater
detail in later sessions:
remuneration in
Session 5, AGMs in
Session 8 and the
board in Session 3.
*Many corporate
scandals centre on the
greed and arrogance
of the directors.
Despite being highly
remunerated, their
egos tend to get the
better of them.
2-5
1.6.3
Board Composition
Shareholder Resolutions
1.6.5
Selling Shareholdings
One-to-One Meetings
2-6
*There is a danger
that one-to-one
meetings may result
in the divulgence
of price sensitive
information to the
investor, who will then
be committing a crime
(insider trading) should
the investor act upon
the information before
it becomes public
knowledge.
Solution
1.
2.
3.
1.7
2-7
2.1
Development
2-8
2.2
economic benefits.
Considers the individual person (and the
costs of controlling and monitoring them).
Stakeholder Theory
3.1
Application
society); and
in current thinking, the environment (incorporating animals,
vegetables and minerals) and future generations.
Agency theory only considers the relationship between directors
and shareholders with the need to maximise shareholders'
wealth. Stakeholder theory establishes the need for the directors
to consider all stakeholders in their decision making in order to
maximise the value of the company, thus effectively maximising
the wealth of the shareholders.
Stakeholder"Any
group or individual
who can affect or
be affected by the
achievement of
an organisation's
objectives."
Freeman, 1984
2-9
3.2 Development
Stakeholder theory is not strictly a theory in the traditional
2-10
3.3.1
Instrumental Approach
3.4
Stakeholder Classification
2-11
3.4.1
*Primary/secondary
relate to the
impact that the
stakeholder has on
the organisation,
whereas narrow/wide
considers the impact
the organisation has
on the stakeholder.
2-12
3.4.6
3.4.8
2-13
3.5
*A private business
receives revenue from
customers willingly
to buy its goods or
services.
2-14
Stakeholder Influence
4.1
Risk
Business risk is "the risk that the business will not achieve
its objectives".
considered as the risk that the business will not maximise its
wealth because of the lack of understanding of the impact of
stakeholders on the business by the directorsa failure by
the directors to make the appropriate business case.
Under stakeholder theory, it is essential for directors to identify all
stakeholders, assess their level of interest and their level of power
when developing the company's strategy.
4.2
Mendelow
POWER
High
Keep satisfied
(L,H)
Key players
(H,H)
Minimal effort
(L,L)
Keep informed
(H,L)
Low
INTEREST
High
2-15
4.2.1
4.2.3
4.2.4
*From an ethical/
moral view, lowinterest/low-power
stakeholders should
still be considered
because to ignore
them could result in
negative consequences
in the future if their
power and interest
increase. It is also
important to identify
when interest/power of
a stakeholder changes
and the effect on the
entity that this may
have.
2-16
Solution
POWER
High
Low
INTEREST
High
5.1
Internal Stakeholders
5.1.1
Directors
2-17
5.1.2
Company Secretary
*Company secretaries
are usually a named
representative of the
company on legal
documents and it is
their responsibility
to ensure that the
company and its
directors operate
within the law.
Sub-board Management
General Employees
2-18
5.2
External Stakeholders
There are many and varied external stakeholders that are affected
by corporate governance. Each stakeholder will influence the
operation of the firm as well as having its own interests and
stakeholder claims on the firm.
5.2.1
Trade Unions
External Auditors
strong lobbyists at
the governmental
level, such as, in
developing employment
law and when their
members have become
disadvantaged because
of bad corporate
behaviour (e.g. collapse
of corporate pension
funds such as Maxwell
and Enron). They may
also lobby on behalf of
weaker stakeholders on
CSR matters.
2-19
5.2.3
Regulators
2-20
*Regulatory capture
this was a case in point
with Enron, where
the regulator for the
California electricity
market was ineffective
in dealing with the
practices used by
Enron to control the
market.
5.2.4
Stock Exchanges
Governments
2-21
5.2.6
Shareholders
5.2.7
Institutional Investors
*While shareholders
have rights, they also
have responsibilities.
This was made
clear during the
banking crisis when
many institutional
shareholders
admitted that they
had failed to take
their responsibilities
seriously enough
as shareholders
in engaging and
overseeing CEOs,
directors and boards.
This is discussed in
greater detail below
when considering the
UK Stewardship Code.
Solution
1.
2.
3.
4.
5.
6.
2-22
Small Investors
2-23
Summary
Agency theory addresses situations in which decision makers (principal or owner) must
delegate their authority to another person (agent). Corporate governance concerns two basic
types of principal-agent relationship:
Some agency relationships also establish a fiduciary duty (i.e. a higher duty to conduct affairs
for the benefit of the entity).
Agency costs include monitoring costs, bonding (contracting) costs and residual costs.
To mitigate principal-agent costs, shareholders (principals) will typically vote to establish
corporate governance structures that address their interests (shareholder rights).
Shareholders will also typically vote on:
Transactions cost theory identifies three types of costs: for search and information,
bargaining and policing and enforcement.
Agency theory concerns the principal's desire to maximise wealth; stakeholder theory
concerns more than the profit motive. There is empirical evidence that firms adopting a
stakeholder-friendly approach earn higher profits.
Stakeholder risk arises if directors fail to make an appropriate business case to stakeholder
groups. Mendelow's matrix of stakeholder power and interests can help directors to avoid
offending one group with decisions favouring another group. High interest, high power
stakeholders are "key players".
UK Corporate Code, OECD corporate governance principles and other codes typically require
2-24
Session 2
Session 2 Quiz
Estimated time: 15 minutes
Priority
Q4
Estimated Time
Stakeholder Theory
Completed
40 minutes
Additional
Q3
2-25
EXAMPLE SOLUTIONS
Solution 1Agency Costs
1.
2.
3.
4.
2.
3.
2-26
POWER
High
Low
Sponsors
Taxman
Fans
Shareholders
Media
Controlling regulators
Other clubs
Public institutions
Government
Banks
Employees
Players / coaches
Players' agents
Interest groups
INTEREST
High
Notes: High/High
Controlling regulators (e.g. FIFA, UEFA and Premier League) have significant
influence over clubs through setting the rules, arbitrating disputes and
punishing clubs who break the rules and "bring the game into disrepute".
Fans, as for every customer, expect good quality and a high level of service
for the price they pay. Fans are a critical commercial opportunity. Clubs need
to attract and keep the fans. Fans often place managers and players under
extreme pressure to perform. If managers or players do not meet the fans'
expectations, then significant pressure can be placed on the club to release
the manager/player.
In football clubs, it is not unusual for one person to own a controlling interest.
The individual, therefore, has significant power and interest. Often the
interest is not financial but a passion. The individual bought the club because
he or she is a lifelong fan of the club.
Media can be divided into two elementsTV and press. TV has significant
power and interest in the higher levels of football (e.g. the English Premier
League). BSkyB invested significant money into buying the sole television
rights to premier club matches. They assisted the clubs in developing a
positive and "easy-to-sell" image and encouraged clubs to invest in key
players (e.g. those who would win games and attract viewers).
2-27
2.
3.
4.
5.
6.
7.
2-28
NOTES
2-29
Session 3
ii)
time-limited appointments
iii)
retirement by rotation
iv)
service contracts
v)
removal
vi)
disqualification
Session 3 Guidance
Understand the role of bank boards and NEDs during the banking crisis. This content is highly
examinable and very topical.
Download for reference the UK Corporate Governance Code and the London Stock Exchange (LSE)
publication Corporate Governance: A Practical Guide.
VISUAL OVERVIEW
Objective: To examine the role, structure and composition of boards of directors following
good corporate governance principles.
THE BOARD
BOARD
STRUCTURES
Forms
Unitary Boards
Tiered Boards
Role
Governance
Legal Framework
Composition
CEO and Chairman
Separation of Roles
NON-EXECUTIVE DIRECTORS
(NEDs)
Role
Skills
Independence
Advantages and Disadvantages
INDUCTION,
CPD AND
PERFORMANCE
Induction
Education
Performance
Appraisal
Session 3 Guidance
Research the Walker review into the governance of UK banks. www.hm-treasury.gov.uk/
walker_review_information.htm. Although relating to banks, the subject material and
recommendations are highly topical for all companies. Browse the web to find summaries/quick
reads as the full report is 140 pages.
3-1
The Board
1.1
Role
1.2
Governance
3-2
Exhibit 1
EFFECTIVE BOARD *
CHARACTERISTICS
1.3
*An effective
board may not be
a "comfortable
place". Challenge
of the executive and
teamwork are essential
features.
Legal Framework
1.3.1
*Communication to
shareholders includes
an explanation in the
annual report of how
the company generates
or preserves value
over the longer term
(the business model)
and the strategy for
delivering the objectives
of the company.
3-3
Solution
1.3.2
Time-Limited Appointments
1.3.3
Retirement by Rotation
3-4
Service Contracts
3-5
1.3.5
1.3.6
3-6
1.3.7
Insider Dealing
1.4
Composition
1.4.1
3-7
1.4.2
Board Diversity
3-8
*It is part of a
company's social
contract, that it
should "reflect
back" to society its
own demographic
diversity (e.g. a board
comprising 100%
white, male directors
with a minimum age
of 50 is unlikely to
understand the needs
of mixed gender,
mixed race, teenage
customers).
1.5
The chief executive officer (CEO) and the chairman of the board
(company chairman) are the two key roles in companies. The
chairman heads the board of directors and the CEO leads the
management team at and below board level in implementing and
managing the entity's strategy.
1.5.1
CEO
1.5.2
Chairman
*The chairman of
each board committee
should apply a
similar leadership
role, particularly in
creating conditions
for overall committee
and individual director
effectiveness.
3-9
of the board;*
making certain that the board has effective decision-making
processes and applies sufficient challenge to major proposals;
ensuring that the board's committees are properly structured
with appropriate terms of reference;
encouraging all board members to engage in board and
committee meetings by drawing on their skills, experience,
knowledge, diversity and, where appropriate, independence;
fostering relationships founded on mutual respect and open
communication (both in and outside the boardroom) between
the NEDs and the executive team;
consulting the senior independent director on board matters
where appropriate (see below);
ensuring his own and other directors' development, including
induction programmes for new directors and regular reviews
with all directors;
acting on the results of board evaluation; and
*This is especially
important in relation to
a new CEO and to the
diversity of the board.
1.5.3
3-10
1.6
*Unfettered power
should be avoided
so that it cannot be
abused as in the case
of Maxwell.
*It used to be
common practice
for a retiring CEO to
become the Chairman.
Clearly, this could
easily lead to conflicts
over strategy between
the new CEO and the
Chairman (ex-CEO).
*Some governance
codes also require the
chairman to represent
the interests of other
stakeholders, such as
employees.
3-11
Putting Sir Stuart up for re-election at the July 2008 AGM and then every year
(rather than every three years as is normal for all directors);
While these measures were reluctantly accepted at the July 2008 AGM, on the
basis that keeping Sir Stuart until 2011 was in the company's best interests, many
shareholders stated that they would be closely monitoring what they perceived to
be an unprecedented bid (at least in the UK) for company and boardroom power.
Because Sir Stuart felt hindered by the close monitoring of his dual roles, he stepped
down as CEO in May 2010 and as executive chairman in July 2010 (one year earlier
than expected) but continued as a non-executive chairman until January 2011.
3-12
Board Structures
2.1
Forms
2.2
Unitary Boards
2.2.1
Advantages
*A jurisdiction's
corporate governance
requirements often
will be based on these
criteria.
3-13
2.2.2
Disadvantages
2.3
Tiered Boards
2.3.1
Management Board
3-14
2.3.2
Supervisory Board
3-15
2.3.3
3-16
3.1
Role
4. People
3.1.1
Strategy
3.1.2
Performance (Scrutiny)
3.1.3
Risk
3-17
3.1.4
People
3.2
Skills
*The willingness to
confront management
and raise difficult
issues with executive
management is
often cited as one of
the most important
characteristics of an
effective NED.
3-18
3.3
Independence*
Under the Code, " the board should identify in the annual
report each NED it considers to be independent. The board
should determine whether the director is independent in
character and judgment and whether there are relationships
or circumstances which are likely to affect, or could appear to
affect, the director's judgment."
Threats to independence include:*
Being a former employee of the company within the last
five years.
Material business relationships with the company in the past
three years.
Remuneration paid (apart from the director's fee) by the
company.
Participation in the company's share option scheme or a
performance-related pay scheme, or being a member of the
company's pension scheme.
Close ties with the company's advisors, directors or senior
employees.
Having been a member of the board for more than nine years.
Being, or representing, a major shareholder.
Holding too many non-executive directorships in various
companies.
Not being able to devote enough time to the tasks in hand.
3.4
3.4.1
Advantages
*Historically, former
CEOs have been asked
to stay on the board
either as chairman or
in another important
non-executive role
so their expertise
and knowledge of the
business would not be
lost. This would now
be a direct threat to
independence.
Independent monitoring.
External expertise and knowledge, yet with insider knowledge
of the business.
Wider perspective.
Perception and comfort factor for third parties (e.g. investors,
regulators).
Wider "gene pool" (e.g. gender, culture, ethnicity, age)
representative of major stakeholders.
3-19
3.4.2
Disadvantages
With 17 directors, the board was too big for effective discussion
Most on the board did not fully understand the bank's products
and the risks they posed. All they seemed to understand was
that whilst other banks were doing the same, they (RBS) needed
to be the leader in being quicker and doing more. This resulted
in a "Titanic effect" of full steam ahead regardless of the warning
signs (that were not recognised or accepted until it was too late).
*The RBS CEO's blind belief in himself, his arrogance and the failure
of the board to rein him in resulted in RBS in 2008 running up the
UK's largest-ever corporate loss of $35 billion, mainly due to the writedown of its investments. Without government assistance the bank
(and with it the UK's banking system) would have collapsed. The UK
government currently owns over 80% of the share capital of RBS.
3-20
*Prior to the Higgs and Tyson reports, it was not unusual for new
directors to "learn the ropes" by doing the job. Only a few of the
larger, listed companies had any form of induction for new directors,
training for all directors and performance reviews.
New directors could be relatively ineffective in their roles for some
time and unwittingly exposed to breaching laws and regulations.
Other directors could easily become out of date and fail to keep up
with emerging issues and the best way to deal with them. There
also was the risk that new directors would be "house trained" by an
aggressive CEO and not protected by a weak chairman.
4.1
Induction
3-21
4.1.1
*Obviously, where
the director has been
appointed internally,
much of this detail
may already be known.
recovery plans.
Key performance indicators.
Regulatory constraints.
4.1.2
Board Issues
3-22
4.1.3
4.1.4
Auditors;
Major customers;
Major suppliers;
Major shareholders and capital investors;
Shareholder relations policy;
Meeting with shareholders.
4.1.5
4.2
3-23
Example 2 CPD*
Suggest the CPD requirements.
Solution
a general board
director of a listed
bank;
an NED on the
audit committee;
and
a director on
the nominations
committee.
3-24
4.3
Performance Appraisal
3-25
4.3.1
*The questions
phrased for the
assessment of NEDs
are also relevant for
appraising executive
directors.
4.3.2
constructive?
Are the processes for setting the agenda working? Do they
enable board members to raise issues and concerns?
Is the company secretary being used appropriately and to
maximum value?
3-26
4.3.3
NEDs*
How well prepared and informed are NEDs for board meetings
3-27
Summary
Every company should have an effective board which is collectively responsible for the
company's success.
The board's role is to provide entrepreneurial leadership of the company within a framework
of prudent and effective controls which enables risk to be assessed and managed.
There should be a clear division of responsibilities at the head of the company between
the running of the board (chairman) and the executive responsibility for the running of the
company's business (CEO). No one individual should have unfettered powers of decision.
At least half the board, excluding the chairman, should be independent NEDs.
The board and its committees should have the appropriate balance of skills, experience,
independence and knowledge of the company to enable them to discharge their respective
duties and responsibilities effectively.
There should be a formal, rigorous and transparent procedure for the appointment of new
directors to the board.
All directors should be able to allocate sufcient time to the company to discharge their
responsibilities effectively.
All directors should receive induction on joining the board and should regularly update and
refresh their skills and knowledge.
The board should be supplied in a timely manner with information in a form and of a quality
appropriate to enable it to discharge its duties.
The board should undertake a formal and rigorous annual evaluation of its own performance
and that of its committees and individual directors.
All directors should be submitted for re-election at regular intervals, subject to continued
satisfactory performance.
3-28
As part of their roles as members of a unitary board, NEDs should constructively challenge
and help develop proposals on strategy.
Session 3
Session 3 Quiz
Estimated time: 15 minutes
1.
2.
3.
Briefly explain the roles of the CEO and the chairman. (1.5)
4.
List the areas that a typical director's induction should cover. (4.1)
5.
Explain how external consultants can be used to assist in the appraisal of the board. (4.3)
Priority
Q5
Estimated Time
Alliya Yongvanich
Completed
50 minutes
Additional
Q6
TQ Company
3-29
EXAMPLE SOLUTIONS
Solution 1Board Directors' Fiduciary Duty
The need to foster the company's business relationships with suppliers, customers
and others.
The effect of the company's operations on the community and the environment.
3-30
Solution 2CPD
General Director of a Bank*
While the Code requires at least one member of the audit committee
to have had recent relevant experience, all of the committee
members should ideally have relevant knowledge of audit and
financial statements. For example, a general understanding of the
roles of internal and external auditors, an understanding of control
procedures and an up-to-date understanding of GAAP (e.g. IFRS).
Nominations Committee*
*Nominations
Committee is detailed
in Session 4.
3-31
Session 4
Board Committees
FOCUS
This session covers the following content from the ACCA Study Guide.
A. Governance and Responsibility
4. Board committees
a) Explain and assess the importance, roles and accountabilities of, board
committees in corporate governance.
b) Explain and evaluate the role and purpose of the following committees in
effective corporate governance:
i)
Remuneration committees
ii)
Nominations committees
Session 4 Guidance
Note that board committees are regularly the subject of an examination question.
Note that a fourth committee, the audit committee, is covered in Session 10. You should be familiar
with the role of this committee from your Paper F8 studies.
VISUAL OVERVIEW
Objective: To explain the role and purpose of the main board committees in corporate
governance.
BOARD COMMITTEES
Introduction
Governance
REMUNERATION
COMMITTEE
PUBLIC SECTOR
ORGANISATIONS
Background
The Code
Principal Duties
NOMINATIONS
COMMITTEE
Background
The Code
Principal Duties
Strategic Objectives
Governance
Arrangements
RISK COMMITTEE
Background
Role
Composition
Issues
Session 4 Guidance
Understand each committee's composition and role, which vary and can easily be mixed up.
See the Illustrations for good examples of the scope of each committee.
4-1
Board Committees
1.1
Introduction
4-2
*The board of
directors is a form
of committee
established by the
shareholders to run
the business on their
behalf.
*Corporate
governance
committees (including
the main board)
should have some
representation by
NEDs. This enhances
the accountability of
each committee to
the shareholders.
1.2
Governance
Remuneration Committee
2.1
Background
4-3
committee include:
an organisation's remuneration policy for
executive directors;
making recommendations of executive remuneration and its
cost to the board;
deciding on the different types of reward;
deciding on the time period within which performancerelated packages become payable; and
guaranteeing the transparency of directors' compensation.
establishing
4-4
Exhibit 1
REMUNERATION COMMITTEE
The following is taken from the Institute of Chartered Secretaries and Administrators (ICSA)
Guidance on Terms of ReferenceRemuneration Committee (www.icsa.org.uk).
Determine and agree with the board the framework or broad policy for the remuneration of the
company's chief executive, chairman, the executive directors, the company secretary and such
other members of the executive management as it is designated to consider.
In determining such policy, take into account all factors which it deems necessary.
The objective of such policy shall be to ensure that members of the executive management of the
company are provided with appropriate incentives to encourage enhanced performance and are,
in a fair and responsible manner, rewarded for their individual contributions to the success of the
company.
Review the ongoing appropriateness and relevance of the remuneration policy, approve the design
of, and determine targets for, any performance related pay schemes operated by the company and
approve the total annual payments made under such schemes.
Review the design of all share incentive plans for approval by the board and shareholders. For
any such plans, determine each year whether awards will be made, and if so, the overall amount
of such awards, the individual awards to executive directors and other senior executives and the
performance targets to be used.
Determine the policy for, and scope of, pension arrangements for each executive director and
other senior executives.
Ensure that contractual terms on termination, and any payments made, are fair to the individual,
and the company, that failure is not rewarded and that the duty to mitigate loss is fully recognised.
Within the terms of the agreed policy and in consultation with the chairman and/or chief executive
as appropriate, determine the total individual remuneration package of each executive director
and other senior executives including bonuses, incentive payments and share options or other
share awards.
In determining such packages and arrangements, give due regard to any relevant legal
requirements, the provisions and recommendations of corporate governance codes and the
appropriate Listing Rules and associated guidance.
Review and note annually the remuneration trends across the company or group.
Oversee any major changes in employee benefits structures throughout the company or group.
Agree the policy for authorising claims for expenses from the chief executive and chairman.
Ensure that all provisions regarding disclosure of remuneration, including pensions, are fulfilled.
Be exclusively responsible for establishing the selection criteria, selecting, appointing and setting
the terms of reference for any remuneration consultants who advise the committee.
Obtain reliable, up-to-date information about remuneration in other companies. The committee
shall have full authority to commission any reports or surveys which it deems necessary to help it
fulfil its obligations.
4-5
Nominations Committee
3.1
Background
3.2
3.2.1
*This is now
incorporated in the
Code.
Perceived Advantages
3.3
Principal Duties
4-6
Exhibit 2
NOMINATION COMMITTEE
The following is taken from the Institute of Chartered Secretaries and Administrators
(ICSA) Guidance on Terms of ReferenceNomination Committee (www.icsa.org.uk)
It incorporates and enhances (for current practice) the original guidance issued in the
Higgs Report (2003).
Regularly review the structure, size and composition (including the skills,
knowledge and experience) required of the board compared to its current
position and make recommendations to the board with regard to any changes.
Give full consideration to succession planning for directors and other senior
executives in the course of its work, taking into account the challenges and
opportunities facing the company and what skills and expertise are therefore
needed on the board in the future.
Be responsible for identifying and nominating for the approval of the board,
candidates to fill board vacancies as and when they arise.
Before any appointment is made by the board, evaluate the balance of skills,
knowledge and experience on the board and, in the light of this evaluation, prepare
a description of the role and capabilities required for a particular appointment.
use open advertising or the services of external advisers to facilitate the search;
Keep under review the leadership needs of the organisation, both executive and
non-executive, with a view to ensuring the continued ability of the organisation
to compete effectively in the marketplace.
Keep up-to-date and fully informed about strategic issues and commercial
changes affecting the company and the market in which it operates.
Review annually the time required from non-executive directors. Performance
evaluation should be used to assess whether the non-executive directors are
spending enough time to fulfil their duties.
Ensure that on appointment to the board, non-executive directors receive a
formal letter of appointment setting out clearly what is expected of them in terms
of time commitment, committee service and involvement outside board meetings.
Make recommendations to the board concerning:
formulating plans for succession for both executive and non-executive
directors and in particular for the key roles of chairman and chief executive;
suitable candidates for the role of senior independent director;
(continued on next page)
4-7
Exhibit 2
NOMINATION
COMMITTEE (continued)
Risk Committee
4.1
Background
Exhibit 3
*The general
concepts of risk and
identifying, assessing
and controlling risk
are dealt with in
Sessions 12 to 14.
RISK COMMITTEE
In determining its policies with regard to internal control, and thereby assessing what
constitutes a sound system of internal control in the particular circumstances of the
company, the board's deliberations regarding risks should include consideration of the
following factors:
4-8
4.2
Role
organisation.*
Provide general and explicit guidance to the main board on
emerging risks and to report on existing risks.
Identify actual risks and the control deficiencies in the
organisation.
Oversee management's responsibilities and review the risk
profile of the organisation to ensure that risk is not higher
than the risk appetite determined by the board.
Receive and review risk reports from functions, divisions,
subsidiaries and other components of the business.
Ensure that infrastructure, resources and systems are in
place for risk management and are adequate to maintain a
satisfactory level of risk management discipline.
Monitor overall exposure and specific risks.
Monitor the effectiveness of independence risk management
functions throughout the organisation.
*Risk appetite is
the level and nature
of exposure to
risks that the board
considers acceptable.
See Session 14
Controlling Risk.
4.3
Composition
4.3.1
Advantages
Independent scrutiny.
Vested interests of executive directors would not be present.
Specific external expertise that may be more relevant to a
risk.
Ability to stand back and see "the wood from the trees".
4-9
4.3.2
Disadvantages
Solution
4.4
Issues
4-10
5.1
Strategic Objectives
4-11
5.2
Governance Arrangements
4-12
4-13
Summary
Some board committees are established through legal or regulatory requirements. Other
committees may be desirable (e.g. if its subject matter calls for specialist knowledge).
Most corporate governance codes specify remunerations, nominations, risk and audit
committees.
Many companies have an executive committee (excluding the chairman and NEDs) which has
responsibility for operations.
The audit committee is particularly important as it deals with the integrity of financial reporting,
controls and risk management processes. It may be combined with the risk committee.
4-14
Remuneration committeeat least two independent NEDs for small companies; three for
larger companies.
Nominations committeea majority of independent NEDs. The chairman may chair the
committee but not the meeting to determine his successor.
Session 4
Session 4 Quiz
Estimated time: 10 minutes
Priority
Q8
Estimated Time
Tomato Bank
Completed
50 minutes
Additional
Q7
Nominations Committee
4-15
EXAMPLE SOLUTIONS
Solution 1Remuneration Committee*
Rewards that are too high (or too easy to obtain) and that fail to
generate equivalent increases in shareholders wealth and/or relevant
benefits to other stakeholders (e.g. employees) will attract criticism
and negative press of the company and its remuneration policy
from shareholders and other stakeholders (e.g. trade unions). In
particular the board of the company could find itself under close
scrutiny from society through lobbyists (e.g. The High Pay Centre
www.highpaycentre.org).
Rewards that are set too low (or too difficult to obtain) may not
retain the directors that the company needs. This will result in an
outflow of the skills needed by the company in order to achieve its
objectives and maintain appropriate levels of shareholder wealth.
A majority of NEDs.
4-16
NOTES
4-17
Session 5
Directors' Remuneration
FOCUS
This session covers the following content from the ACCA Study Guide.
A. Governance and Responsibility
5. Directors' remuneration
a) Analyse and assess the general principles of remuneration.
i)
purposes
ii)
components
iii)
links to strategy
iv)
basic salary
ii)
performance related
iii)
iv)
loyalty bonuses
v)
benefits in kind
vi)
pension benefits
c) Explain and analyse the legal, ethical, competitive and regulatory issues
associated with directors' remuneration.
Session 5 Guidance
Note that this is another highly contentious issue, especially relating to banks and the
financial services industry.
Read through all of the sections, as they summarise best practice. Refer to the Code and
the LSE publication as necessary (s.1).
VISUAL OVERVIEW
Objective: To assess the governance issues relating to the remuneration of directors.
COMPENSATION PRINCIPLES
Background
Corporate Governance Guidance
COMPENSATION PACKAGES
Components
Basic Salary
Performance-Related Bonus
Transaction and Loyalty Bonus
Share Options
Shares
Benefits-in-Kind
Pensions
Termination
OTHER ISSUES
Legal
Ethical
Competitive
Regulatory
NEDS
Principles
Guidelines
Session 5 Guidance
Consider the questions, "How much are executives worth?" and "How should
executives be paid?" (s.2), as well as the legal and regulatory environment that affects
compensation options (s.4).
Know best-practice guidelines for each type of compensation (s.2).
Understand the compensation principles specific to non-executive directors (s.3).
5-1
Compensation Principles
1.1 Background
< Remuneration and compensation of directors is a hotly
5-2
1.2
1.2.1
The Code
<
<
<
5-3
Exhibit 1
SAY
AY ON PAY: BOARDS LISTEN WHEN
SHAREHOLDERS SPEAK
5-4
1.2.2
<
<
<
<
<
<
<
5-5
1.2.3
<
5-6
Compensation Packages
2.1
Components
<
2.2
Basic Salary
<
<
*Some commentators
argue that basic
salary is for turning
up each day and doing
the administration.
Thus it should be
as insubstantial as
possible compared to
the whole package.
Obviously, where
a director does
not receive any
performance-related
element or options,
basic salary will be a
far higher proportion
of the total package.
5-7
2.3
Performance-Related Bonus
2.3.1
Background
<
5-8
2.3.2
Best-Practice Guidelines
<
<
<
<
<
<
<
<
<
*Traditional share
option schemes
should be weighed
against other kinds of
long-term incentive
schemes.
5-9
2.4
2.4.1
Transaction Bonus
<
2.4.2
Loyalty Bonus
<
<
<
5-10
2.5
Share Options
2.5.1
Background
<
<
2.5.2
Best-Practice Guidelines
*Performance
measures (e.g.
total shareholder
return, earnings per
share (EPS) and
net profits) must be
carefully defined by
the remuneration
committee. It is far
too easy to define and
set very low hurdles
for such measures.
5-11
<
<
<
<
<
<
2.6
Shares
5-12
Illustration 3 Participation in
Performance
At a number of UK banks, the executive directors followed the lead
of the CEO and invested at least 50% (in some cases 100%) of their
cash bonus in the shares of the bank. Following the market crash
(2008), when many banks lost up to 80% of their share value and
have since required government bailouts, these directors suffered
significant financial losses.
In the ongoing (2009) investigations (e.g. the House of Commons
Finance Committee), these CEOs have been able to look the
investigating committee and bank shareholders "in the eye", and say
that they "put their money where their mouth was" and suffered just
as much as others.
However, as one member of the House of Commons committee
said, "you are all still in bloody denial" in accusing the CEOs of not
accepting that their "decisions, greed, poor governance and lemming
mentality" resulted in the near collapse of their banks.
2.7
Benefits-in-Kind
2.8
Pensions
2.8.1
Background
< Pension schemes are often open to abuse, in that the scheme
<
<
5-13
Illustration 4 WorldCom
During the year-long investigation into WorldCom's accounts, $9
billion in discrepancies were found.
The SEC levied charges against the corporation's CEO and several
executives. Among these, Scott Sullivan (WorldCom's chief financial
officer) was indicted on charges of securities fraud, and David Myers
(WorldCom's controller) pleaded guilty to committing securities fraud
and falsifying SEC filings.
In order to present a successful face to investors when company
profits began to wane, Sullivan, then CFO, made a series of
accounting adjustments. Over five financial quarters, Sullivan
masked $3.8 billion in WorldCom operation costs.
Another charge against WorldCom centres on the fact that the
corporation's CEO, Bernard Ebbers, illegally took $408 million in
personal loans from the corporation's funds.
2.8.2
Best-Practice Guidelines
<
<
2.9
Termination
2.9.1
Background
< All governance codes make it clear that directors should not be
<
<
2.9.2
Best-Practice Guidelines
5-14
<
<
<
<
<
*Such "golden
parachutes" provide
compensation in
addition to any
normal termination
entitlement when
directors lose their
jobs in a takeover.
5-15
NEDs
3.1
Principles
1. The remuneration committee is usually made up of nonexecutive directors (NEDs) and, therefore, should not set their
own compensation.
2. The alternative is for the main board, or a separate committee
of the board (made up of executive directors), to set the
annual salary of the NEDs.
3. As the NEDs should be independent, most governance codes
do not allow any other compensation apart from salary.
3.2
Best-Practice Guidelines
<
5-16
Other Issues
4.1
Legal
<
<
4.2
Ethical
< There is a traditional view that ethics and business do not mix.
<
<
*The ethical
arguments about
"what is a person
worth" is not
just confined to
directors. Footballers,
performers, actors,
singers, DJs and
even professional
accountants have
all been subject to
scrutiny.
5-17
4.3
Competitive
<
<
4.4
Regulatory
<
5-18
=
=
=
=
Pensions.
Excess retirement benefits of directors and past directors.
Compensation for past directors.
Sums paid to third parties in respect of a director's services.
<
< The Code requires that the board chairman should arrange
5-19
5-20
while the 1980 multiple was 16.5. His % increase was 3006%.
income, but by 2007 this had grown to 6.5%. At the current rate
of increase the top 0.1% would take home 14% of income by
2035equivalent to that last seen in Victorian Britain.
5-21
Summary
<
The UK Code recommends that firms set remuneration levels sufficiently high to attract the
talent required to successfully run the company, but avoid paying more than is necessary.
Directors retain responsibility for positioning the firm with regard to remuneration. A significant
proportion should reward corporate and individual achievement (i.e. low salary with significant
performance-based pay).
<
<
<
The ABI indicates that benchmarks may be appropriate, but that firms should avoid
"ratcheting up".
<
ESOPs should not offer shares at a discount to market price. Share availability should be
phased in over time. Sliding-scale performance targets generally result in greater motivation.
Early termination should result in loss of options. Committed shares should not exceed 10%
of the issued ordinary share capital in any rolling 10-year period.
<
Benefits-in-kind (e.g. company car, pension scheme, private health insurance, life insurance,
club memberships, etc) should not be excessive.
<
The remuneration committee should include only NEDs, who set annual bonuses based on
challenging goals with an eye towards enhancing shareholder value (i.e. not just short-term
based). Share awards to executives should vest only after three years. Rewards on longerterm incentives should be phased in over time. Only basic salary should be pensionable.
<
NEDs should be independent and compensated with salary only. The salary should reflect the
time commitment and responsibilities. Salary should be set by a separate board committee,
which may include the CEO.
<
The UK Companies Act 2006 requires a certain detail of disclosure regarding board and
executive compensation. The 2002 Directors Remuneration Report Regulations require
additional levels of disclosure.
5-22
The ICGN, however, suggests that peer-relative analysis should have minimal influence in
establishing pay.
Session 5
EXAMPLE SOLUTIONS
Solution 1Benefits of PRP
=
*Increasing the
alignment with
shareholders interests
should reduce agency
costs.
5-23
Session 6
Approaches to Corporate
Governance
FOCUS
This session covers the following content from the ACCA Study Guide.
A. Governance and Responsibility
6. Different approaches to corporate governance
a) Describe and compare the essentials of rules- and principles-based
approaches to corporate governance. Includes discussion of "comply or
explain".
b) Describe and analyse the different models of business ownership that
influence different governance regimes (e.g. family firms versus joint stock
company-based models).
c) Describe and critically evaluate the reasons behind the development and
use of codes of practice in corporate governance (acknowledging national
differences and convergence).
d) Explain and briefly explore the development of corporate governance
codes in principles-based jurisdictions.
i)
ii)
iii)
effects of
ii)
main provisions/contents
iii)
effects of
ii)
Session 6 Guidance
Note the commentary made in section 1.1.
Note that the key elements to understand are:
the differences between principles-based and rules-based approaches and between insider and
outsider systems (s.2);
the SOX approach (s.4); and
the OECD approach to developing a broad-based set of corporate governance (CG) principles (s.5).
(continued on next page)
P1 Governance, Risk and Ethics
VISUAL OVERVIEW
Objective: To assess the factors which influence governance regimes and evaluate
development of different approaches to corporate governance.
DEVELOPMENT OF CODES
Background
National Differences
Convergence
BASIS OF CODES
Principles-Based
Rules-Based
Ownership
Insider Systems
Outsider Systems
UK CORPORATE
GOVERNANCE CODE
SARBANES-OXLEY
ACT (2002)
Cadbury (1992)
Greenbury (1995)
Hampel (1998)
Turnbull (1999)
Higgs and Smith
(2003)
Rules-Based
Regulation
Impact
Key Requirements
Criticisms
INTERNATIONAL
OECD
Background
Principles
ICGN
Background
Principles
Session 6 Guidance
Read section 3, as this shows how the UK Corporate Governance Code developed (note the
Illustrations).
Read section 5 (OECD) and section 6 (ICGN) to obtain a general understanding. Appreciate that
the OECD is a framework that can be used by a developing nation as the basis for its own code.
6-1
1.1
Development of Codes
Background
Example 1 Influences
Suggest SIX influences on the development of corporate
governance codes.
Solution
1.
2.
3.
4.
5.
6.
6-2
Illustration 1 Timeline
The following table indicates the timeline for the development of
codes around the world. Many codes have since been updated.
1992
1994
1995
1997
1998
1999
2001
2002
1.2
National Differences
Although a detailed
knowledge of all the
various codes is not
expected the P1 exam
calls for knowledge
(e.g. of the Code) and
application of "best
practice". As the
Sarbanes-Oxley Act
of 2002 (SOX), the
OECD and the ICGN
codes are specifically
mentioned in the
syllabus, they may
be referred to in an
examination question,
although it is highly
unlikely that you will
be asked for specific
details on a particular
section of these codes
(e.g. see Question
4(b) June 2008).
6-3
1.3
Convergence
Basis of Codes
2.1
Principles-Based Approach
2.1.1
Characteristics
6-4
be achieved.
Ensures all situations can be covered through applying the
appropriate principle in the code.
6-5
2.1.2
Advantages
*Explanations about a
particular requirement
that would not be
cost effective (e.g.
internal audit) are
better accepted by
shareholders and stock
markets for smaller
companies.
2.1.3
Criticisms
6-6
Solution
2.2
2.2.1
Rules-Based Approach
Characteristics
2.2.2
Advantages
2.2.3
Criticism
6-7
2.3
Ownership
2.4
Insider Systems
2.4.1
Advantages
6-8
*Outsider systems
tend to develop in
jurisdictions where
there is a strong legal
protection of minority
shareholders.
*"Insider" systems
may take different
institutional forms.
For example:
In Germany, banks
or other industrial
firms are often the
main shareholders;
In Sweden and
Italy, families are the
main shareholders
the Wallenbergs in
Sweden (estimated
to control 40% of the
wealth of the Swedish
stock market) and the
Agniellis in Italy (Fiat,
Juventus, Cushman &
Wakefield);
In France, the
largest shareholding
role is usually taken
by the state.
2.4.2
Disadvantages
2.5
Outsider Systems
*Parmalat (Italy) is
an example of insider
system abuse, where
family members
siphoned off money
borrowed by Parmalat
for personal use and
for investing in other
family business.
Another example is
Satyam (India), where
similar techniques (such
as siphoning USD4
million each month for
13,000 non-existent
employees) appear to
have been used.
6-9
2.5.1
Advantages
2.5.2
Disadvantages
6-10
It is important to
appreciate how the
Code was developed
based on principles
rather than rules.
Many of the original
recommendations
have been
incorporated into,
and enhanced in,
the current UK Code.
Questions will not be
set on the old reports
now incorporated
in the Code, but on
current best practice
and application of
the Code's principles
(e.g. advantages
of principles-based
codes in developing
nations, benefits
of separating the
roles of the CEO
and chairman and
the impact of the
principles-based
system on an insider
(or family) dominated
company when
listed).
3.1
3.2
6-11
3.3
3.4
3.5
Illustration 4 Higgs
"The comply or explain approach offers flexibility and intelligent
discretion and allows for valid exception to the sound rule. The
brittleness and rigidity of legislation cannot dictate the behaviour, or
foster the trust, I believe is fundamental to the effective unitary board
and superior corporate performance."
Higgs, Higgs Report, 2003
6-12
*Higgs also
reconsidered, in the
light of SOX, the
continued use of
a principles-based
approach.
4.1
*Because of its mandatory nature and the severe penalties for noncompliance, an extensive compliance consultancy industry evolved
around accountants and management consultants. Companies had
to get their SOX detail right the first time; there was no leeway for
error. The introduction of SOX for most companies was therefore a
very costly exercise.
4.2
Impact
4.3
Key Requirements
4.3.1
PCAOB
*Many of the
requirements in SOX
mirror those already
in other corporate
codes but put them
into a rules-based
framework.
6-13
4.3.2
4.3.3
Audit Committees
4.3.4
4.3.5
6-14
4.3.6
4.4
Criticisms
*In the area of auditor regulation and inspection, progress was made
in 2005 by the UK and European authorities in getting the PCAOB to
accept that a number of European auditor regulatory authorities were
equivalent to the PCAOB and did not therefore require a full PCAOB
inspection. Even so, in some areas a PCAOB inspector may accompany
local national inspectors when they hold meetings with auditors.
6-15
5.1
OECD
Background
For more than 40 years, the OECD has been one of the world's
6-16
5.2
Principles
6-17
of shares.
Receive relevant information on the corporation on a timely
and regular basis, including the voting procedures that govern
general shareholder meetings.
To participate in, and to be sufficiently informed on, decisions
concerning fundamental corporate changes, including effective
participation in general shareholder meetings.
5.2.2 Equitable Treatment of All Shareholders
rights.
All shareholders of the same series of a class are treated
equally.
Minority shareholders are protected from abusive actions of
the majority holders.
Any changes in voting rights are approved by those classes of
shares which are negatively affected.
Processes and procedures for general shareholder meetings
allow for equitable treatment of all shareholders.
Insider trading and abusive self-dealing is prohibited.
Members of the board and key executives disclose to the
board whether they, directly, indirectly or on behalf of third
parties, have a material interest in any transaction or matter
directly affecting the corporation.
5.2.3 Role of Stakeholders
5.2.4
Disclosure and Transparency
6-18
6-19
6.1
ICGN
Background
6.1.1
Primary Purposes
6.1.2
Committees
6.2
Principles
6-20
Solution
6-21
Summary
Strong corporate governance encourages investment, strengthens the capital markets and
invites foreign capital.
Codes may be influenced by the advantages of diversity of human capital on the board,
independence from executive management, promotion of shareholder activism and
increased public communication. Codes of ethics can be accomplished through a variety
of processes, including a competent, strong audit function, a transparent and independent
remunerations process and employee participation in financial outcomes.
Rules-based systems tend to have much higher implementation and ongoing costs.
The Code places responsibility for internal controls with the board of directors. SOX
established the Public Company Accounting Oversight Board (PCAOB) with power to
set auditing, quality control, independence and ethics standards. The PCAOB also has
inspection and disciplinary powers.
Session 6 Quiz
Estimated time: 15 minutes
Priority
Q9
6-22
Estimated Time
Corporate Governance Standards
Completed
30 minutes
Session 6
EXAMPLE SOLUTIONS
Solution 1Influences
Legal system
Government policies
History
Capital inflows
6-23
The codes will have no legislative power and may not even be
supported by national stock exchanges or governments.*
*The concept
of International
Accounting Standards
was first established
in the mid-1970s.
It took at least 30
years for them to
become, more or
less, the de facto set
of financial reporting
standards (IFRS)
acceptable around the
world. Similarly with
International Auditing
Standards (ISAs).
*In spite of the above limitations, the OECD and the ICGN codes have:
6-24
NOTES
6-25
Session 7
Corporate Social
Responsibility
FOCUS
This session covers the following content from the ACCA Study Guide.
A. Governance and Responsibility
7. Corporate governance and corporate social responsibility
a) Explain and explore social responsibility in the context of corporate
governance.
d) Explain the concept of the organisation as a corporate citizen of society
with rights and responsibilities.
Session 7 Guidance
Study carefully! Many of the ideas in this session are developed in Session 20. Appreciate that there
are contrasting and opposing views on corporate social responsibility (CSR) and you could be required
to discuss both sides of the CSR argument and, perhaps, build a case for a particular approach.
VISUAL OVERVIEW
Objective: To appreciate the concepts of corporate social responsibility and
corporate citizenship.
CORPORATE SOCIAL
RESPONSIBILITY
Background
Development
The Business in Society
Business Case
CSR strategy
Strategic CSR
Coverage
Carroll
Perceived Advantages
Perceived Disadvantages
STAKEHOLDERS
CORPORATE CITIZENSHIP
Approach
Codes and Guidelines
Reasoning
Perspectives
Principles
Management Framework
SOCIAL AND
ENVIRONMENTAL ISSUES
Session 20
Session 7 Guidance
Note that the guidelines of ABI, a key driver for socially responsible investments, are provided for
illustration. Review the CSR articles on Chris MacDonald's blog (www.businessethicsblog.com) and
Mallen Baker's website (www.mallenbaker.net). Think about how, for example, CSR is applied at
McDonald's or Nike compared to, say, Enron and the sub-prime banks.
7-1
1.1 Background
As with corporate governance, corporate social responsibility
(CSR) evades a strict, universal definition. "It is all things, to
all men."
CSR will be shaped, throughout the world, by the legal
jurisdictions, corporate structures, cultures, moral and ethical
beliefs and conditions under which corporations operate. As such,
it has been defined in many ways.
1.2
Development
1.3
7-3
Customers
Unions
e
lac
p
et
Wo
rk
e
ac
pl
Financial
analysts
Employees
Ma
rk
Shareholders
un
m
n
ir o
Env
ity
Quality of
Management
en
t
Government
m
Co
Impact on
Society
Local communities
NGOs
Mallen Baker
1.4
Business Case
7-4
7-5
1.5
CSR Strategy
7-6
1.6
Strategic CSR
CSR that supports core business activities and thereby contributes to the
firm's effectiveness in accomplishing its mission.
Halme and Kourula
CSR that goes beyond good corporate citizenship, and mitigating
harmful value-chain impacts, by mounting a small number of initiatives
whose social and business benefits are large and distinctive.
Porter and Kramer
7-7
Centrality
Closeness of fit to the
firm's mission and
objectives
Visibility
Recognisable,
observable credit by
stakeholders for
the firm
Specificity
Ability to capture
private benefits by
the firm
Strategic
CSR
Voluntarism
Scope of
discretionary
decision-making and
lack of externally
imposed compliance
requirements
Proactivity
Degree to which
the programme is
planned in anticipation
of emerging trends
and in the absence
of crises
Visibility
7-8
1.7
Coverage
7-9
Employees
Fair treatment and equal employment opportunity
Respectful, harassment-free workplace
Privacy and employee confidentiality
Business partners
Receiving and giving gifts and entertainment
Conflicts of interest
Competition and antitrust
Trade restrictions, export controls and boycott laws
Money laundering
Working with suppliers
7-10
Solutions
1.
2.
3.
4.
1.
2.
3.
4.
Exhibit 1
NEXT STEPS
"Today, CSR goes far beyond the old philanthropy of the past
donating money to good causes at the end of the financial year
and is instead an all year round responsibility that companies
accept for the environment around them, for the best working
practices, for their engagement in their local communities and for
their recognition that brand names depend not only on quality,
price and uniqueness but on how, cumulatively, they interact with
companies' workforce, community and environment. Now we need
to move towards a challenging measure of corporate responsibility,
where we judge results not just by the input but by its outcomes:
the difference we make to the world in which we live, and the
contribution we make to poverty reduction."
Gordon Brown, as UK Chancellor
7-11
1.8
Carroll
PHILANTHROPIC
ETHICAL
LEGAL
ECONOMIC
*Traditionally in the US, CSR has been defined much more in terms of
a philanthropic model. Companies make profits, unhindered except
by fulfilling their duty to pay taxes. Then they donate a certain share
of the profits to charitable causes. It is seen as tainting the act for
the company to receive any benefit from the giving.
The European model is more focused on operating the core
business in a socially responsible way, complemented by community
investment for business case reasons.
7-12
covers:
Economiccustomers, suppliers, employees, providers of
capital;
Environmentalmaterials, energy, water, biodiversity,
emissions, suppliers, compliance, transport;
Labour practicesemployment, relations, health and
safety, training, education, diversity, opportunities;
Human rightsstrategy, development, non-discrimination,
freedom of association, child labour, indigenous rights;
Societycommunity, bribery and corruption, political
contributions, competition and pricing;
Product responsibilitycustomer health and safety,
advertising, respect for safety.
Solution
1.
2.
3.
4.
5.
1.9
7-13
Illustration 4
*A number of projects
have been, and are
being, undertaken in
an attempt to codify
the disclosure and
measurability of CSR
elements (e.g. the
GRI discussed in
Session 20).
Smokescreen
7-14
Illustration 5
Insincerity
CSR evolved as a response to the threat anti-corporate campaigns posed to companies' licence
to operate. But corporate social responsibility is a contradiction in terms.
Companies are legally bound to maximise profits to shareholders. This duty to make money
above all other considerations means that corporations can only be "socially responsible" if they
are being insincere. Any doubtful social benefits from CSR are outweighed by the losses to
society in other areas.
CSR is an effective strategy for:
bolstering a company's public image;
avoiding regulation; and
gaining legitimacy and access to markets and decision-makers.
Also, CSR enables business to propose ineffective, voluntary, market-based solutions to social and
environmental crises under guise of being responsible.
This deflects blame for problems caused by corporate operations away from the company and
protects companies' interests while hampering efforts to tackle the root causes of social and
environmental injustice.
CSR does not pose any sustainable solutions. It can easily be reversed if the economic
climate changes. As well as being voluntary, it reinforces rather than challenges the power of
corporations. A genuinely socially responsible company would look so different from today's
corporations as to be unrecognisable. Tackling the big issues of overconsumption, climate change
and massive economic inequality requires major shifts in our lifestyles and systems of social
organisation. CSR seems to present us with an easy alternativeusing corporate power as a
lever for social change rather than seeing it as an obstacle. Ultimately, CSR is not a step towards
a more fundamental reform of the corporate structure but a distraction from it.
Exposing and rejecting CSR is a step towards addressing corporate power.
Claire Fauset, Corporate Structures researcher, Corporate Watch
Stakeholders
2.1
Approach
7-15
2.2
2.2.1
2.2.2
7-16
Has the company made any reference to each of environmental, social and governance
(ESG) matters? If so, does the Board take these regularly into account?
Has the company identified and assessed significant risks and opportunities affecting its
long- and short-term value arising from its handling of ESG matters?
Does the annual report contain a forward-looking assessment of ESG and other risks
facing the company?
Does the annual report describe the role of the Board in overseeing risk management?
Does the company state that it has adequate information for identification and
assessment?
Does the Remuneration Committee take account of the handling of ESG risks when
setting performance targets?
Does the company disclose significant short- and long-term risks and opportunities arising
from ESG issues? If so, how many different risks/opportunities are identified?
Does the company state whether it has followed ASB guidance on narrative reporting?
Does the company produce KPIs on material ESG risks for each business unit?
Does the company report on the effectiveness of the ESG strategy through a review of
these KPIs?
2.2.3
Illustration 7
British Telecom
7-17
Corporate Citizenship
3.1
Reasoning
3.2
Perspectives
*Corporate citizenship
(CC) is effectively an
"emerging technology"
and there are different
perspectives on its
concepts in different
jurisdictions.
Equivalent Perspective
7-18
3.2.2
Extended Perspective
Social rights
Civil rights
Political rights
7-19
Illustration 8 Use of CC
"We pledge to be a good corporate citizen in all the places we operate worldwide. We will
maintain the highest ethical standards, comply with all applicable laws and regulations, and
respect local and national cultures. We are dedicated to running safe and environmentally
responsible operations."
Exxon Mobil Corp
"Corporate citizenship has become an integral part of every decision and action we take. We
believe corporate citizenship is demonstrated in who we are as a company, how we conduct our
business and how we take care of our employees, as well as in how we interact with the world at
large."
Ford Motor Co
"Our vision is to be an innovative and inspirational global citizen in a world where our company
participates. Every day we drive responsible business practices that contribute to profitable and
sustainable growth."
Nike Inc
"Our goal is to be a good corporate citizen wherever we operate, as a responsible and
contributing member of society."
Nokia
"With the aim of becoming a corporate citizen respected by international society, Toyota is
conducting a wide range of philanthropic activities throughout the world. Its activities cover five
major areas: education, the environment, culture and the arts, international exchange and local
communities."
Toyota Motor Corp
3.3
Principles
3.3.1
Minimise Harm
operate ethically;
support efforts to stop corruption;
champion human rights;
prevent environmental harm;
enforce good conduct from suppliers;
treat employees responsibly;
ensure the safety of employees;
ensure that marketing statements are accurate; and
deliver safe, high-quality products.
3.3.2
Maximise Benefit
7-20
3.3.3
3.3.4
3.4
Products
& Services
Community
Values
Mission
Principles
Policies
Operations
7-21
3.4.1
3.4.2
3.4.3
3.4.4
7-22
Session 7
Summary
CSR engenders the idea that corporations should make a positive contribution to society;
manage the social, environmental and economic impacts of the firm on the world; and be
responsive to stakeholders.
The firm should engage in CSR issues only if they create business value and improve
sustainability. The business case for CSR emphasises:
The firm's CSR agenda should identify stakeholders and address their needs. The UK
Code does not address CSR, but indicates that firms should state organisation values and
standards and ensure that it meets stakeholder obligations.
Boards tend to prefer the concept of "corporate citizenship" rather than CSR.
The equivalent perspective (Carroll) is CSR but with self-interest replaced by legal and
ethical fullment.
The extended perspective addresses social rights, civil rights and political rights in the
context of improving the world.
7-23
Session 7 Quiz
Estimated time: 15 minutes
1.
Define CSR, CSR strategy and Strategic CSR. (1.1, 1.5 and 1.6)
True or False? The ABI represents a powerful group of stakeholders and is a key driver for
socially responsible investments. (2.2)
5.
6.
Explain the differences between the equivalent perspective and extended perspective on
corporate citizenship. (3.2)
7.
List the FOUR core principles identified by the Boston Centre for Corporate Citizenship. (3.3)
Priority
Q10
Estimated Time
Objectives of Companies
Completed
30 minutes
Additional
Q11
7-24
Principles of CSR
EXAMPLE SOLUTIONS
Solution 1Community Investment
Community investment covers a range of initiatives including:
1.
2.
sponsoring schools;
3.
4.
2.
recycling waste;
3.
4.
5.
2.
3.
4.
5.
7-25
Session 8
Session 8 Guidance
Read this through a couple of timesnote that voluntary disclosure links into CSR. Although AGMs
may seem just a regulatory thing, they have "livened up" a bit recently (e.g. Marks & Spencer, and the
UK bank AGMs, especially over bonuses).
Understand the advantages and disadvantages of mandatory, as well as voluntary, disclosures (s.2).
VISUAL OVERVIEW
Objective: To assess the general disclosure and reporting requirements to shareholders
under corporate governance.
DISCLOSURES
Meaning
Aim
MANDATORY AND
VOLUNTARY
Mandatory
Voluntary
Principles-Based Approach
SHAREHOLDER MEETINGS
Session 8 Guidance
Recognise the link between good corporate governance and the flow of information provided by
annual general meetings and general meetings of shareholders (s.3).
8-1
Disclosures
1.1
Meaning
responsibilities;
internal control, corporate responsibility, sustainability,
integrated report ("IR");
additional shareholders' information;
profit warnings;
stakeholder meetings, annual general meetings; and
corporate websites, stakeholder websites.
One of the key agency problems is the knowledge gap between
directors and shareholders. Appropriate and timely disclosures by
the company help narrow that gap.
Illustration 1 Information
Sharing
"The lifeblood of markets is information and barriers to the flow of
relevant information represent imperfections in the market. The
need to sift and correct the information put out by companies adds
cost and uncertainty to the market's pricing function. The more the
activities of companies are transparent, the more accurately will their
securities be valued."
Cadbury Report, 1992
"Companies should engage in regular, effective and fair
communication with shareholders. In disclosing information,
companies should be as descriptive, detailed and forthcoming as
possible and avoid boilerplate disclosures."*
Singapore Code
"The statutory and regulatory corporate governance framework*
should ensure that timely and accurate disclosure is made on all
matters regarding the company, including its financial situation,
performance, ownership, and governance.
Disclosure should include, but not be limited to, material information
on:
the financial and operating results of the company;
company objectives;
major share ownership and voting rights;
members of the board and key executives and their remuneration;
material foreseeable risk factors;
material issues regarding employees and other stakeholders; and
governance structures and policies."
8-2
*"Boilerplate"
disclosure refers
to the practice of
taking examples from
regulations, guidelines,
etc without tailoring
them to the specific
nature of the business.
They may comply with
the law or disclosure
requirement, but not
its "spirit".
*A corporate
governance framework
relates to all
regulations (e.g.
statutory, listing
rules, governance
codes) that apply to
corporate entities.
As voluntary codes
and frameworks may
also be applied (e.g.
integrated reporting)
care must be taken
to avoid unnecessary
duplication and
blurring of disclosure.
1.2
Aim
Illustration 2 Disclosure
"For 'comply or explain' to work, clear and well-supported
explanations are needed, with the users of reports taking these
explanations into account and not demanding a box to tick.
"In reporting, companies need to remember its overriding purpose
is to communicate the nature and quality of the strategic leadership
and control exercised by the board.
"The board is at the heart of value creation and it is what investors
and other stakeholders want to read about. But, in the eyes of the
users, few companies manage to report effectively on governance
and board performance."
Independent Audit Ltd (www.independentaudit.com)
8-3
2.1
Mandatory
example:
law (e.g. Companies Act 2006, Sarbanes-Oxley 2002);
regulation (e.g. Directors' Disclosure Regulations 2002,
London Stock Exchange Listing Rules);
governance codes (e.g. the UK Code's "comply or explain"
approach); and
financial reporting standards (e.g. IFRS or US GAAP).
Mandatory disclosures seek to satisfy stakeholders'
information needs, ensuring quality control through the
observance of laws and standards.
Mandatory disclosure refers to:
Issuercompany.
Receiversshareholders, employees, creditors, customers
and other stakeholders.
Regulationscommercial law, accounting law, accounting
standards: IFRS, US GAAP, European Accounting Directives,
national accounting standards, etc.
Contentformat and object of disclosed statements.
Period of disclosureannual, biannual, quarterly or
occasionally.
Disseminationprinted or website.
Illustration 3 Mandatory
Elements
The mandatory elements in a set of financial statements may include:
Statement of comprehensive income, statement of financial
2.1.1
Advantages of Mandatory
Disclosure
8-4
2.1.2
Disadvantages of Mandatory
Disclosure
2.2
Voluntary
8-5
2.2.1
Solution
1.
2.
3.
4.
5.
6.
2.2.2
8-6
*Global Reporting
Initiative (GRI)
guidelines recognise
this difficulty and
therefore aim to
promote comparability.
Remember that CSR,
sustainability and
integrated reporting
are relatively new
"technologies" and
so will be refined as
"bugs" are removed
from future releases.
2.3
Principles-Based Approach
must explain the reason why it did not comply with a reporting
issue (i.e. "comply or explain").*
Shareholder Meetings
3.1
*Specific disclosure
requirements under
the Code are referred
to throughout this
Study System. A
complete summary
of the disclosures can
be found in Schedule
C of the Code, along
with other disclosure
requirements on
governance as required
by the London Stock
Exchange Listing Rules.
8-7
the 2011 Annual General Meeting and setting out the business to be
conducted at the AGM.
1.
2.
3.
4.
To receive the Annual Financial Report for the year ended 31 December 2010.
To re-appoint the following Directors.
To authorise the Directors to determine the remuneration of the Auditor.
The Directors have received notice from a shareholder of her intention to
propose a resolution that Mr Niall Murphy be appointed a Director of the
Company.
Extract showing AGM business:
All shareholders are invited to attend the AGM and to participate in the
proceedings. Shareholders are invited to submit written questions in advance
of the AGM, to which the Chairman responds in writing following the meeting.
At the AGM, it is practice to give a brief update on the Group's trading
performance and developments of interest for the year to date. Separate
resolutions are proposed on each separate issue.
The proportion of proxy votes lodged for, against, and withheld relating to
each resolution is indicated; this shows what the voting position would be if all
votes cast, including votes cast by shareholders not in attendance, were taken
into account.
The Chairmen of the Board's Committees are available to answer questions
about the Committees' activities. It is usual for all Directors to attend the
AGM and to be available to meet shareholders before and after the Meeting.
A Help Desk facility is available to shareholders attending.
8-8
3.2
General Meeting
*The UK Companies
Act 2006 now refers to
all meetings other than
the AGM as a "general
meeting". Although
the previous term
"extraordinary general
meeting" (EGM) has
been removed from
statute it is still widely
referred to.
*In the above illustration, the EGM was held on the same day as
the AGM as it was convenient to do so. But even though held on
the same day, they were not combined as one meeting. Both have
separate legal purpose, procedures, requirements and content.
The full (extensive) detail including explanations of proxy votes can
be found on the AIB Investor Relations webpage
(see www.aibgroup.com).
8-9
3.3
Proxy Voting
3.3.1
Concept
3.3.2
8-10
*Under UK law, if a
resolution is by a show
of hands, proxy votes
cannot be counted.
Only if a poll is called
can proxy votes count.
3.4
3.4.1
Background
8-11
3.4.2
Recommendations
8-12
Session 8
Summary
Good corporate governance relies upon a strong disclosure regime as a method of marketbased monitoring that allows effective shareholder rights exercise. These can be:
The AGM is the general meeting of shareholders which meets the legal requirement for
companies to communicate with investors. The agenda typically includes the appointment
of directors and auditors and consideration of their reports, approval of the accounts and
the declaration of dividends.
Directors may vote for shareholders who cannot attend a general meeting through the use
of the shareholder's proxy to vote.
Session 8 Quiz
Estimated time: 10 minutes
1.
2.
3.
Give FIVE examples of matters that may be decided upon by an AGM. (3.1)
4.
5.
8-13
EXAMPLE SOLUTION
Solution 1Voluntary DisclosureAdvantages
Reduces the information asymmetry between managers
and owners.
Increases a company's credibility in the eyes of many
stakeholders.
Underpins the confidence of the market in the company.
Provides a fuller picture of the state of the company.
Increases the number of potential investors by enabling
them to match the company against their social, ecological,
sustainability, risk, ethical and strategic benchmarks.
Encourages a more forward-looking perspective as the
financial reporting data is often historical.
Adds to transparency.
Enables qualitative data (e.g. strategy, ethical content,
social reporting, business expectations) to be presented to
stakeholders.
Enables directors to respond to specific stakeholder concerns
as they arise.
Opens additional opportunities to capital (e.g. from
"green" investors).
Improves relationship with stakeholders.
Reduces the risk of political intervention in the market.
8-14
NOTES
8-15
Session 9
FOCUS
This session covers the following content from the ACCA Study Guide.
B. Internal Control and Review
1. Management control systems in corporate governance
a) Define and explain internal management control.
b) Explain and explore the importance of internal control and risk
management in corporate governance.
c) Describe the objectives of internal control systems.
d) Identify, explain and evaluate the corporate governance and executive
management roles in risk management (in particular the separation
between responsibility for ensuring that adequate risk management
systems are in place and the application of risk management systems and
practices in the organisation).
e) Identify and assess the importance of the elements or components of
internal control systems.
2. Internal control, audit and compliance in corporate governance
e) Explore and evaluate the effectiveness of internal control systems.
3. Internal control and reporting
c) Explain and assess how internal controls underpin and provide information
for accurate financial reporting.
4. Management information in audit and internal control
a) Explain and assess the need for adequate information flows to
management for the purposes of the management of internal control and
risk.
b) Evaluate the qualities and characteristics of information required in internal
control and risk management and monitoring.
Session 9 Guidance
Note that much of this will be familiar from your F8 studies (s.1, s.2).
Recognise and be able to differentiate the CoCo framework (s.3).
VISUAL OVERVIEW
Objective: To discuss the need for effective management control systems in entities.
INTERNAL CONTROL
MANAGEMENT
Terminology
Elements
Importance
Risk Management
Frameworks
COSO
CoCo
Overview
The Control
Environment
Risk Assessment
Procedures
Information and
Communication
Control Activities
Monitoring Controls
Criteria
Controls
ASSESSING CONTROL
EFFECTIVENESS
Overview
Board Questionnaire
Session 9 Guidance
Understand the process of assessing control effectiveness (s.4), especially the information
recommended in the board questionnaire (s.4.2).
9-1
1.1
Terminology
<
<
<
<
<
<
1.2
Elements
<
9-2
Whenever the
examiner uses the
phrase "sound system
of internal control",
think "Turnbull".
control should:
be embedded in the operations of the company and form
part of its culture;
= be capable of responding quickly to evolving risks to the
business arising from factors within the company and to
changes in the business environment; and
= include procedures for reporting immediately, to appropriate
levels of management, any significant control failings or
weaknesses that are identified together with details of
corrective action being undertaken.
=
When something
has gone wrong in
a scenario, it will
usually be due to
a breakdown in
controls. Remember
that for strategic
decisions, controls
will often be based
on subjective
judgement; poor
judgement (at any
level) will be a control
weakness.
Solution
1.
2.
3.
4.
5.
1.3
Importance
emerging risks;
helps to manage and embed quality and risk awareness
throughout the firm;
provides reliable management information on internal
operations and compliance with laws and regulations;
identifies and enables appropriate action to be taken on
underperforming internal operations;
reduces management time spent in "firefighting";
places focus internally on doing the right things properly;
provides the necessary reliable information for internal
and external reporting, not only for the legal and GAAP
requirements but also for CSR; and
underpins investor confidence, which potentially achieves a
lower cost of capital and higher relative share prices over the
longer term.
A sound system
of internal control
contributes to
safeguarding the
shareholders'
investment and the
companys assets.
9-3
1.4
Risk Management
<
<
<
<
1.5
Frameworks
*Employee
participation in
internal control will
require appropriate
understanding by
the employee of
the company, its
objectives, the
industries and its
markets and the
risks it faces.
<
<
9-4
COSO Framework
n
at
io
ic
Activities
io
at
m
r
fo
Monitoring
In
ENTITY LEVEL
FUNCTION
PL
CO
OPERATING UNIT
RE
ol Env
ironm
ent
Risk A
ssess
ment
Contr
ol Act
ivities
Inform
ation
& Com
munic
Monit
ation
oring
Activi
ties
2.1
CE
N
IA
PO
m
m
un
RT
DIVISION
Contr
IN
PE
I
AT
Co
Risk
Assessment
Environment
Overview
9-5
2.2
<
9-6
*The effectiveness of
internal control cannot
rise above the integrity
and ethical values of
the people who create,
administer and monitor
the controls.
*Not only should the board be concerned with the entity's internal
control, but the board should also consider the internal controls
operated by autonomous operating divisions, foreign and domestic
subsidiaries, major suppliers and customers. Many organisations
now extend their control environment factors to other connected
parties (e.g. through supply agreements). This aspect is considered
further in Sessions 1214 (e.g. an entity's reputation risk can be
damaged because of the use of child labour and poor employment
practices operated by a foreign supplier).
2.3
=
=
<
<
<
<
9-7
2.3.1
Operational Objectives
< These are not extensively based on external standards but are
<
2.3.2
2.4
2.4.1
Information
9-8
< The information systems must also be able to deal with errors
9-9
2.4.2
Communication
<
<
<
<
<
2.5
Control Activities
<
9-10
A mnemonic for
remembering
control procedures is
SOAPMAPS:
Segregation of duties
Organisation
Authorisation and
approval
Physical
Management
Arithmetic and
accounting
Personnel
Supervision
Solution
Control objectives:
Control activities:
< There are many and varied classifications of controls, the most
common being:
Corporate, management, process and transaction controls;
= Administration and accounting controls;
= Preventive, detective and corrective controls;
= Discretionary and non-discretionary controls;
= Voluntary and mandated controls;
= Financial and non-financial controls; and
= Manual and automated controls.
Automated controls can be further sub-classified as:
= general controls (e.g. operations, software, access,
development and maintenance); and
= application controls (e.g. regarding completeness, accuracy,
authorisation, validity of processing data).
=
<
2.6
Monitoring Controls
<
*Failures in control
systems must be
reported to (and
acted upon) by those
responsible for taking
corrective action.
This includes senior
management and the
board of directors.
Part of the role of the
audit committee is to
ensure that the board
does take appropriate
action. This is also a
control.
9-11
Prioritise risks
Identify controls
Identify persuasive information about controls
Implement monitoring procedures
the board in regard to monitoring, and places people with appropriate capabilities,
objectivity, authority and resources in monitoring roles; and
components;
effectiveness; and
evaluations.
Assess and Report results in order to:
= Prioritise findings;
= Provide support at the appropriate organisational level for conclusions regarding the
*In other words, controls over high-risk areas are closely monitored.
Sessions 12, 13 and 14 deal with risk.
9-12
IMPLEMENT
MONITORING
Develop and
implement cost-effective
procedures to evaluate that
persuasive information
PRIORITISE
RISKS
Understand
and prioritise risks to
organisational objectives
IDENTIFY
INFORMATION
Identify information
that will persuasively indicate
whether the internal control
system is operating effectively
IDENTIFY
CONTROLS
prioritised risks.
= Identify information which will persuasively indicate whether the internal control
information.
2.6.1
9-13
< External audit management letters and reports (e.g. not only
<
CoCo Framework
3.1
Criteria
ACTION
=
=
9-14
9-15
3.2
Controls
<
4.1
Overview
*TARRA is a key
element in risk control
and is explained
further in Session 14
Controlling Risk.
< Turnbull, COSO and CoCo all make very clear that effective
<
9-16
4.2
Board Questionnaire
< Both Turnbull and COSO contain extensive detail on how the
effectiveness of a control system can be assessed.*
<
4.2.1
Risk Assessment
< Does the company have clear objectives and have they been
<
<
4.2.2
*It is essential to
ensure that any
contingency plans
will actually function
when needed. In
many cases, the
only way to find out
will be to initiate (or
simulate) events
which will lead to the
plan being activated
(e.g. setting off fire
alarms in a hotel to
test evacuation and
emergency services
procedures).
< Does the board have clear strategies for dealing with the
<
<
<
<
<
<
9-17
4.2.3
2.
3.
4.
4.2.4
Monitoring
<
<
<
<
9-18
The examiner is
unlikely to ask for a
specific "checklist"
approach but will
expect candidates to
be able to analyse
a scenario and
identify particular
weaknesses. The
"checklists" presented
could therefore be
used to identify
particular weaknesses
(or strengths).
Session 9
Summary
<
Internal control is the process designed and implemented by those charged with governance
and management to provide assurance about reporting, operational effectiveness and
efficiency, and legal and regulatory compliance. Internal controls safeguard company assets
on behalf of shareholders.
<
The Turnbull report further suggests that the system of internal controls should be able to
respond quickly to emerging risks and that statements of corrective action should be part of
the control process.
<
Employees should understand the board's tolerance for risk, company objectives and
operating environment in order to properly design internal controls.
<
The major frameworks for internal control consist of two elements; the control environment
and control procedures:
<
<
COSO framework
CoCo framework
Risk assessment;
Information systems;
Control activities; and
Purpose;
Commitment;
Capability; and
Monitoring and learning.
Control monitoring.
CoCo identifies
The essence of control through TARRA
Transfer;
Avoid;
Reduce consequences;
Reduce likelihood; and
Accept/retain.
Directive;
Preventive;
Detective;
Corrective; and
Recovery.
Turnbull, COSO and CoCo all recognise that organisations must regularly assess their
internal control effectiveness. The basic assessment areas include:
<
Control environment;
Turnbull also suggests that the board ask questions related to the areas of risk assessment,
control environment, management information and monitoring.
9-19
Session 9 Quiz
Estimated time: 10 minutes
Priority
Q12
Estimated Time
Completed
50 minutes
Additional
Q13
9-20
VCF
EXAMPLE SOLUTIONS
Solution 1Sound Control Systems*
1. Poor judgement in decision-making.
2. Human error.
3. Control processes being deliberately circumnavigated by employees.
4. Management overriding controls.
5. Occurrence of unforeseeable circumstances.
*The failure of a
number of banks
during the sub-prime
and credit crunch
crisis of 2007 and later
was due to the poor
judgement of their
CEOs who ignored the
advice of their risk
managers (given as
part of the internal
control procedures).
They also failed
to understand the
financial products their
traders had developed
and were prepared to
deal in the products,
allowing traders to
override trading
controls that would
have restricted the
process.
9-21
Control Activities
< Authorisation (basically, "if it can move, authorise it").
For example:
purchase or disposal of non-current assets;
new suppliers;
journals;
payments;
writing off irrecoverable debts.
Performance reviews, for example:
actual against budget, prior year and variance analysis;
analytical review, internal versus external data;
functional or activity performance in that activities that should take
place, did take place.
< Information processing (accuracy, completeness and
authorisation), for example:
checking arithmetical accuracy (e.g. of documents, records);
maintaining and reviewing accounts and trial balances;
carrying out reconciliations (e.g. bank, supplier statements);
sequence checks of pre-numbered documents (e.g. despatch notes);
completeness checks (e.g. that all documents have been processed);
follow-up of error reports (includes taking appropriate action);
IT application controls;
IT general controls.
<
<
9-22
2.
3.
4.
9-23
Session 10
Internal Audit
and Compliance
FOCUS
This session covers the following content from the ACCA Study Guide.
#. Governance
A.
Focus List Subhead
and Responsibility
4. List
1.
Board
text
committees
b) Explain
a) Focusand
list evaluate
2nd levelthe role and purpose of the following committees in
effective corporate governance:
iv)
Audit committees
Session 10 Guidance
Note that this is another area with which you should be familiar from your F8 studies. Refresh your
understanding, bearing in mind that P1 deals with the subject in a much broader sense.
Understand the scope and forms of work performed in the internal audit function (s.1.2).
Recognise the nature of, threats to and safeguards appropriate for auditor independence (s.2).
VISUAL OVERVIEW
Objective: To discuss the functions and role of internal audit and the audit committee.
INTERNAL AUDIT
Audit and Compliance
Scope and Forms of
Work
Assessing Need
AUDITOR
INDEPENDENCE
IIA Definition
Code of Ethics and
Rules of Conduct
Ethical Threats
Ethical Safeguards
IIA Standards
AUDIT COMMITTEE
Composition and
Role
Internal Audit
External Audit
Session 10 Guidance
Know the composition and role of audit committees (s.3.1).
Differentiate between internal (s.3.2) and external (s.3.3) audit services and responsibilities.
10-1
Internal Audit
1.1
Internal Audit
"An independent, objective assurance and consulting activity designed
to add value and improve an organisation's operations. It helps
an organisation accomplish its objectives by bringing a systematic,
disciplined approach to evaluate and improve the effectiveness of risk
management, control and governance processes ... ."
Institute of Internal Auditors (IIA)
"Internal auditing, which is ultimately responsible to the owners of the
enterprise, is a service to senior management that includes:
monitoring management controls;
anticipating, identifying and assessing risks to assets and activities;
investigating actual and potential lapses of control and incidents of
risk; and
making recommendations for improvement of control, the response
to risk and the attainment of enterprise objectives."*
Mautz
10-2
*As previously
explained internal
audit is at the core of
the control monitoring
component of internal
control (see Session 9).
1.2
Recommend
controls
Due diligence
Evaluate
risks
Operational audits
Analyse
operations
Conrm information
Assure safeguards
IT/IS audits
Review compliance
Education
10-3
1.3
Need Assessment
10-4
Auditor Independence
2.1
IIA Definition
2.2
Integrity;
Objectivity;
Confidentiality; and
Competency.
2.2.1
Integrity
2.2.2
Objectivity
10-5
2.2.3
Confidentiality
2.2.4
Competency
2.3
Ethical Threats
self-interest;
self-review;
familiarity; and
intimidation.
2.3.1
Self-Interest Threat
10-6
10-7
10-8
Solution
1.
2.
3.
4.
5.
2.5
IIA Standards
internal auditing;
provide a framework for performing and promoting a broad
range of value-added internal auditing;
establish the basis for the evaluation of internal audit
performance; and
foster improved organisational processes and operations.
The standards are principles-focused, mandatory requirements
consisting of:
*The requirements
of the attribute and
performance standards
are very similar to
those of International
Standards of Auditing
(ISAs) for external
auditors. Practice
Advisories are
separate notes issued
to support each
Standard. Although
not mandatory,
they represent best
practice endorsed by
IIA to implement the
Standards.
10-9
Practice Advisories
Solution
10-10
Leeson was quoted as saying that the internal auditor was "an
idiot". He was easily able to direct the auditor away from areas
which may have given some indication of the trouble he was
in. He also gave technically complex answers to the auditor's
questions, knowing that the auditor did not understand his
answers nor wanted to show ignorance.
Audit Committee
3.1
*Only independent
NEDs should
be on the audit
committee. The fact
that NEDs form this
committee enhances
accountability to
shareholders.
10-11
Illustration 2 Enron
The chair of Enron's audit committee was the wife of one of Enron's
key lobbyists to the US Senate. The lobbyist received substantial
political donations from Enron.
Another member of the audit committee had a consulting contract
with Enron.
The vast majority of the audit committee had no relevant financial
experience, especially of the type of transactions Enron was
carrying out.
Enron staff members were obliged to go through their managers
if they had any doubts about financial transactions. They had no
direct access to the audit committee.
The audit committee was effectively just a "rubber stamp" for
the annual financial statements and appointment of the external
auditors. Its members turned up when required to have a "good
lunch and collect their pay cheques".
"In fairness, investors have unrealistic expectations of boardroom
committees. No director can be expected to catch sophisticated
fraud by company insiders."
An Enron audit committee member
3.2
Internal AuditResponsibilities
internal audit.
Ensure that the internal auditor has direct access to the board
chairman and to the audit committee and is accountable to the
audit committee.
on a periodic basis.
Review and monitor management's responsiveness to the
internal auditor's findings and recommendations.
Meet with the CAE at least once a year without the presence
of management.
Monitor and assess the role and effectiveness of the internal
audit function in the overall context of the company's risk
management system.
10-12
10-13
3.3.2
Non-audit Services
10-14
Session 10
Summary
Audit is the corporate governance function that assures effectiveness of internal controls,
identifies and assesses risks to assets and activities, and makes recommendations to improve
systems that help organisation attain its objectives.
Some jurisdictions require internal audit, and others have a "comply or explain" orientation.
Assessing the need for an internal audit function includes:
Employing a CAE;
Ensuring transparent and open recruitment;
Requiring appropriate training, qualication and experience;
Ensuring freedom from interference;
Placing high regard on the audit function;
Rotating audit staff to avoid familiarity; and
Avoiding auditor placement in areas in which they have worked previously.
IIA Standards are principles-focused, mandatory requirements similar to ISAs. IIA also
issues practice advisories that are not mandatory, but represent best practices in audit.
The audit committee should include at least three independent NEDs and at least one should
have recent and relevant financial experience. The audit committee:
10-15
Session 10 Quiz
Estimated time: 10 minutes
1.
2.
Explain the factors to consider when assessing the need for internal audit. (1.3)
3.
List the FOUR elements of the internal audit code of ethics. (2.2)
4.
Priority
Q15
Estimated Time
Flight Investment
Completed
50 minutes
Additional
Q14
10-16
Internal Audit
Effectiveness
EXAMPLE SOLUTIONS
Solution 1Employing CAE
The new CAE would owe neither personal loyalties nor "favours" from
previous positions within the organisation.
The CAE would be likely to come in with new ideas and expertise
gained from other situations.
As for any external appointment, the possibility exists for the transfer
of best practice in from outside.
Compliance with the Standards and the Code of Ethics (e.g. objectivity
and competence of the auditors).
Whether the audit activity adds value and improves the organisation's
activities (per the IIA definition of internal audit).
10-17
Session 11
FOCUS
This session covers the following content from the ACCA Study Guide.
B. Internal Control and Review
3. Internal control and reporting
a) Describe and assess the need to report on internal controls to
shareholders.
b) Describe the content of a report on internal control and audit.
Session 11 Guidance
Note that this session is NOT about reporting internal control weaknesses to management.
Read through all of the Illustrations (extracts from issued financial statements) a couple of times to
get an idea of the practical realities discussed in this session. Then go through the detail. The UK's
Turnbull guidance provides a useful checklist, albeit somewhat extensive.
VISUAL OVERVIEW
Objective: To discuss the requirements for reporting to shareholders on internal control.
REPORTING
ON INTERNAL CONTROL
UK CORPORATE
GOVERNANCE CODE
Requirement
Turnbull Guidance
Financial Services Authority
(FSA)
Section 404
Report Content
AUDITOR'S RESPONSIBILITIES
SOX
UK Corporate Governance Code
Session 11 Guidance
Understand the difference between the UK principles-based approach and the US rules-based
approach and the different roles of the auditor.
11-1
1.1
Requirement
1.2
*The report to
shareholders covers
the year under review
and the time up to the
date of approval of the
financial statements.
1.2.1
Regular Reports
<
11-2
the board.
Reports should provide:
= a balanced assessment of significant risks and the
effectiveness of the system of internal control in managing
those risks; and
= a basis for sound, appropriately documented support for the
board's annual assessment.*
The board review of the reports should:
= consider the risks identified by the reports and whether they
are significant;
= assess how they have been identified, evaluated and
managed;
= assess the effectiveness of the system of internal control in
managing the risks, having regard to any significant failings
or weaknesses in internal control reported;
= consider whether necessary actions are being taken promptly
to remedy any significant failings or weaknesses; and
= consider whether the findings indicate a need for more
extensive monitoring of the system of internal control.
*Significant control
failings or weaknesses
identified must be
reported together with
the impact they have
had, or may have, and
the actions to be taken
to rectify them.
1.2.2
Annual Assessment
internal controls.
Should consider issues raised by the regular reports, plus:
= changes since the last assessment in the nature and extent
of significant risks;
= a company's ability to respond to changes in its business
and external environment;
= the scope and quality of ongoing monitoring of risks and the
system of internal control;
= where applicable, the work of internal audit and other
providers of assurance;
= the extent and frequency of reporting to enable a
cumulative assessment of the state of control and the
effectiveness with which risk is being managed;
= the incidence of significant control failings or weaknesses
that have been identified during the period;
= the extent to which failures resulted in actual, possible or
potential future material effects on the company's financial
performance; and
= effectiveness of the company's public reporting processes.
1.3
1.3.1
Risk Assessment
=
1.3.2
11-3
= Are
11-4
1.3.4 Monitoring
= Are
11-5
Illustration 1 BT Group
30 June 2011
Internal Control and Risk Management
The Board is responsible for the group's systems of internal control
and risk management and reviews each year the effectiveness of
those systems. Such systems are designed to manage, rather than
eliminate, the risk of failure to achieve business objectives; any
system can provide only reasonable and not absolute assurance
against material misstatement or loss. The process in place for
reviewing BT's systems of internal control includes procedures
designed to identify and evaluate failings and weaknesses, and, in
the case of any categorised as significant, procedures exist to ensure
that necessary action is taken to remedy the failings.
The Board also takes account of significant social, environmental
and ethical matters that relate to BT's businesses and reviews
annually BT's corporate social responsibility policy. The company's
workplace practices, specific environmental, social and ethical risks
and opportunities and details of underlying governance processes are
dealt with in Business reviewOur resources.
We have enterprise wide risk management processes for identifying,
evaluating and managing the significant risks faced by the group.
These processes have been in place for the whole of the 2011 financial
year and have continued up to the date on which this document was
approved. The processes are in accordance with the Revised Guidance
for Directors on the UK Corporate Governance Code published by the
Financial Reporting Council (the Turnbull Guidance).
Risk assessment and evaluation takes place as an integral part
of BT's annual strategic planning cycle. We have a detailed risk
management process, culminating in a Board review, which
identifies the key risks facing the group and each business unit.
This information is reviewed by senior management as part of the
strategic review. Our current key risks are summarised in Business
reviewOur risks.
The key features of the enterprise wide risk management process
comprise the following procedures:
The BT Group
illustrations put into
context the various
requirements for
external reporting
on internal control.
The examiner
expects candidates
to demonstrate
knowledge of the
general contents and
requirements in this
area. He does not
expect details of a
specific report.
11-6
11-7
Illustration 2 BT Group
30 June 2011
Report of Management on Internal Control Over
Financial Reporting
US Sarbanes-Oxley Act of 2002
BT has securities registered with the US Securities and Exchange
Commission (SEC). As a result, we must comply with those
provisions of the Sarbanes-Oxley Act applicable to foreign issuers.
We comply with the legal and regulatory requirements introduced
pursuant to this legislation, insofar as they are applicable.
The Audit & Risk Committee includes members Phil Hodkinson and
Nick Rose who, in the opinion of the Board, are "audit committee
financial experts" and who are independent (as defined for this
purpose). The Board considers that the Committee's members have
broad commercial knowledge and extensive business leadership
experience, having held between them various prior roles in major
business, Government, financial management, treasury and financial
function supervision and that this constitutes a broad and suitable
mix of business and financial experience on the Committee.
The code of ethics adopted for the purposes of the Sarbanes-Oxley
Act is posted on the company's website at www.bt.com/ethics. The
code applies to the Chief Executive, Group Finance Director and
senior finance managers.
Disclosure controls and procedures
The Chief Executive and Group Finance Director, after evaluating
the effectiveness of BT's disclosure controls and procedures as of
the end of the period covered by this Annual Report & Form 20F, have concluded that, as of such date, BT's disclosure controls
and procedures were effective to ensure that material information
relating to BT was made known to them by others within the group.
The Chief Executive and Group Finance Director concluded that
BT's disclosure controls and procedures are also effective to ensure
that the information required to be disclosed by the company in
reports that it files under the Exchange Act is recorded, processed,
summarised and reported within the time periods specified in the
rules and forms of the SEC. The Chief Executive and Group Finance
Director have also provided the certifications required by the
Sarbanes-Oxley Act.
Internal control over financial reporting
BT's management is responsible for establishing and maintaining
adequate internal control over financial reporting for the group
including the consolidation process. Internal control over financial
reporting is designed to provide reasonable assurance regarding
the reliability of financial reporting and the preparation of financial
statements for external reporting purposes in accordance with
IFRS. Management conducted an assessment of the effectiveness of
internal control over financial reporting based on the framework for
internal control evaluation contained in the Turnbull Guidance.
Based on this assessment, management has concluded that as at
31 March 2011, BT's internal control over financial reporting was
effective. There were no changes in BT's internal control over
financial reporting that occurred during 2011 that have materially
affected, or are reasonably likely to have materially affected, the
group's internal control over financial reporting. Any significant
deficiency, as defined by the US Public Company Accounting
Oversight Board (PCAOB), in internal control over financial reporting,
is reported to the Audit & Risk Committee. PricewaterhouseCoopers
LLP, which has audited the consolidated financial statements for
2011, has also audited the effectiveness of the group's internal
control over financial reporting under Auditing Standard No. 5 of the
PCAOB. Their report is on page 90.
11-8
Auditor's Responsibilities
3.1
SOX*
11-9
3.2
<
Illustration 4 BT Group
30 June 2011
Matters on which we are required to report by exception:
We have nothing to report in respect of the following:
Under the Companies Act 2006 we are required to report to you if, in
our opinion:
= certain disclosures of directors' remuneration specified by law are
not made; or
concern; and
11-10
Session 11
Summary
UK Approach (Principles-Based)
<
Directors required to exercise judgement in reviewing how the entity has implemented
the requirements of the UK Corporate Governance Code relating to internal control and
reporting to shareholders on the controls in place.
<
<
A description of the main features of the internal control and risk management systems in
relation to the financial reporting process must be included within the corporate governance
statement of the annual report.
<
<
Auditors are expected to review information disclosed under provisions of the Listing Rules
and Corporate Governance Code and report any non-compliance. They are not required to
disclose any missing information or qualify their audit opinion.
US Approach (Rules-Based)
<
Section 404 of SOX requires management to document, evaluate and report on the
effectiveness of internal controls (similar to the provisions of the UK Code). SOX, however,
has the more onerous requirements to determine rates of compliance, failures, costs, inputs
and outputs.
<
Session 11 Quiz
Estimated time: 10 minutes
1. List SIX considerations in assessing the control environment and control activities. (1.2.2)
2. List SIX components of an internal control report under SOX. (2)
3. State the main UK Corporate Governance Code requirements for reporting on internal control
by external auditors. (3.2)
Priority
Q16
Estimated Time
Reporting on Internal
Control Systems
Completed
40 minutes
11-11
Session 12
Identifying Risk
FOCUS
This session covers the following content from the ACCA Study Guide.
C. Identifying and Assessing Risk
1. Risk and the risk management process
a) Define and explain risk in the context of corporate governance.
2. Categories of risk
a) Define and compare (distinguish between) strategic and operational risks.
b) Define and explain the sources and impacts of common business risks:
i)
market
ii)
credit
iii)
liquidity
iv)
technological
v)
legal
vi)
vii) reputation
viii) business probity
ix)
derivatives
Session 12 Guidance
RecogniseIn theory you should be familiar with the content in this and the following two sessions
from your F8 studies. Be careful, however, as P1 requires greater depth of understanding.
Read this session a couple of times to understand the depth of defining and explaining each risk.
Understand the central role risk plays within corporate governance; this is highly examinable.
Refer to Implementing Turnbull.
VISUAL OVERVIEW
Objective: To consider the various risks faced by business entities.
Background
Turnbull
Risk Management Benefits
Beyond Turnbull
External Reporting
RISK CATEGORIES
Strategic Risk
Operational Risk
Sector-Specific Risk
Market Risk
Credit Risk
Liquidity Risk
Technological Risk
Legal and Regulatory Risk
Health and Safety Risk
Environmental Risk
Reputation Risk
Business Probity Risk
Derivative Risk
COUNTRY RISKS
Unique Risks
Examples
12-1
1.1
Background
<
<
< Business risk is the "risk that the business will not be able to
'do the business' ".
<
COSO
12-2
12-3
1.2
<
*At the time Turnbull was issued (1999), very few companies
systematically carried out non-conventional risk analysis. The impact
of Turnbull on the role of internal audit, for example, was substantial.
The IIA noted that although initially many companies were
complacent about Turnbull when it was first issued, within six months
the vast majority had commenced to change their processes to
ensure risk management would become an embedded organisationwide activity with the necessary assurance being required from
internal audit. Many of the organisations cited that such changes
were considered to make sound business sense and would contribute
to shareholder prosperity.
manage all their risks, not just the narrowly financial ones
(e.g. environmental, reputation and business propriety risks).
12-4
=
=
Solution
1.
2.
3.
12-5
1.3
12-6
Illustration 1 Cases
Swiss Bank
In 2002, a major private Swiss bank established an asset
management and investment business. The bank also established
an independent risk management function. Because the trust
of investors was vital to the continued success of the asset
management business (the trust, built up over many years, easily
could be lost through one bad decision), the risk management
process was used as a key selling point in presentations made
to institutional investors. Thus the function was not only used
internally, but also as a key competitive advantage to keep business,
take business away from rivals and to generate new business.
Dock Strike
In September 2002, a severe dockworkers strike on the West
Coast of the US affected 29 ports for a total of 10 days. Several
major retailers (including Wal-Martsee next case) had foreseen
this event (because of the deteriorating relationships over several
months between the port workers and managers) and had increased
their imports of vital inventory prior to September. Many other
retailers did not recognise this risk and did nothingtheir vital goods
remained ship bound during the strike and were not delivered until
several weeks after the strike ended due to the time taken to clear
the backlog of containers.
Wal-Mart Stores
In August 2005, the Gulf Coast of the US was struck by a severe
hurricane, Katrina. New Orleans, in particular, was heavily hit.
From the moment the hurricane formed over the Bahamas, Wal-Mart
Stores' (the largest US corporation by revenue) risk management
and procurement systems, using information from the US National
Weather Service's National Hurricane Center and Wal-Mart's own
database, had identified the basic foodstuffs, goods and equipment
that would be needed should the hurricane come ashore.
As it became clear where the hurricane was most likely to hit, the
company moved the necessary supplies and materials into the
relevant stores, in preparation to meet the expected demand.
During the hurricane and its aftermath, because of the catastrophe
caused by the hurricane and the failure of New Orleans' levee
system (and the subsequent flooding of the city), Wal-Mart
gave away most of the foodstuffs and essential supplies. It also
established supply routes bringing in more aid to stricken areas.
Although state and federal officials came under harsh criticism for
their handling of the disaster, Wal-Mart was held up as a model for
logistical efficiency, risk management and nimble disaster planning,
which allowed it to quickly deliver the necessary food, water, fuel
and other essential goods to thousands of people affected by
the hurricane.
12-7
12-8
< In addition:*
=
Risk Categories
<
12-9
2.1
Strategic Risk
Strategy"The
direction and scope
of an organisation
over the long-term
with the aim of
fulfilling stakeholder
expectations."
Johnson, Scholes
and Whittington
Solution
1.
2.
3.
4.
5.
<
<
<
12-10
Solution
1.
2.
3.
4.
5.
2.2
Operational Risks
Operational
risk"The risk of
loss resulting from
inadequate or failed
internal processes,
people and systems, or
from external events."
Basel II
12-11
strategic goals
< Change initiative failure
< Loss of entrepreneurial spirit
< Stock outs of raw materials
< Skills shortage
< Physical disasters (e.g. fire, earthquake)
< Failure to create/exploit intangible
assets
< Loss of physical assets
< Lack of business continuity
< Poor brands
< Breach of confidentiality
< Succession problems
< Loss of key people
< Inability to reduce cost base
< Tough contract obligations
< Over-reliance on key suppliers or
customers
< Failure of new products or services
< Poor service levels
< Unsatisfied customers
12-12
2.3
Sector-Specific Risk*
3.1
Market Risk
<
<
<
<
12-13
3.2
Credit Risk
< The risk that one party to a financial instrument (e.g. trade
<
receivable, loan) will cause a financial loss for the other party
by failing to discharge an obligation (i.e. fail to settle the
debt). This also may be known as credit default risk.*
The factors to be taken into account include:
= the total volume of credit sales;
= the organisation's credit policy and credit terms offered
(credit limits and time allowed to pay);
= the "quality" of customers (some types of customer are a
greater credit risk than others); and
= credit vetting, assessment and debt collection procedures.
Illustration 2 Sub-prime
Mortgages
12-14
< An entity is said to have liquidity if it can easily meet its needs
for cash either because it has cash on hand or can otherwise
raise or borrow cash.
< Obviously, the concept of liquidity for an entity revolves
around cash. The liquidity of an entity depends on:
= the short-term need for cash;
= cash on hand;
= available lines of credit;
= the liquidity of the entity's assets; and
= the entity's reputation in the marketplacehow willing will
counterparties be to trade with or lend to the entity and
how willing are existing or potential shareholders to invest
in the entity?
12-15
< Challenges facing entities (that will give rise to risks) include:
= Achieving
12-16
3.5
3.
Copyright infringement
4.
Product recalls (e.g. food safety, products fit for use, use
of illegal materials)
5.
6.
Financial statements
7.
Taxation
8.
9.
Money laundering
< Although the breach of some laws and regulations may result
in immaterial fines, others may result in the withdrawal of an
operating licence, business closure or substantial fines, bad
publicity and criminal procedures (including jail terms) for
managers and directors.*
12-17
3.6
<
<
<
<
<
12-18
Solution
1.
6.
2.
7.
3.
8.
4.
9.
5.
10.
3.7
Environmental Risk
3.7.1
<
12-19
3.7.2
3.8
Reputation Risk
<
<
<
12-20
Illustration 4 BP
The BP Deepwater Horizon oil spill in the Gulf of Mexico in 2010 is
a prime example of an organisation digging itself ever deeper into
a reputation risk grave through total lack of understanding of and
sensitivity about the effect of its actions. In particular, both CEO
Tony Hayward and Chairman Carl-Henric Svanberg throughout
the crisis made comments that have become public-relations
disaster classics.
Initially, Hayward referred to the Gulf of Mexico as being a "big
ocean" and the oil spill as just a "drop in the ocean". The spill
became the world's largest accidental ocean-based disaster.
At the end of May that year, he visited Venice, Louisiana (one of the
worst affected areas) to apologise for the disaster. "The first thing to
say is I'm sorry," he told reporters. When asked what he would like
to tell locals whose livelihoods had been affected, he said: "We're
sorry for the massive disruption it's caused their lives. There's no one
who wants this over more than I do. I would like my life back."
His comment about wanting his life back outraged the American
public, especially people who had lost their livelihoods because of
the oil spill. A blog on Forbes played out the possible consequences
had the spill occurred off the coast of China. It concluded that
Hayward was "sentenced to death in his absence", which would have
made his comment far more poignant.
This comment was compounded by his action of taking a day off
(two weeks later) to go sailing with his son. The White House
said the move was one of a "long line of PR gaffes and mistakes"
by Hayward.
During one of the congressional and Senate hearings into the
disaster, Hayward was asked about why he did not take action
earlier on the spill. His reply was that "I cannot be expected to
know everything about all of our wells. We have thousands spread
around the world."
Hayward was voted, for 2010, the "most hated and most clueless
man in America" in one US nationwide survey.
BP's chairman also joined in on the PR disaster. After a meeting
with President Barack Obama, Svanberg told the press: "I would
like to take this opportunity to apologise to the American people on
behalf of all the employees of BP . I hear comments sometimes
that large oil companies are greedy companies who don't care. But
that is not the case in BP. We care about the small people."
The reference to "small people" again outraged the American public,
as it implied that everybody affected was somehow "down there"
and BP managers were "way above them, with the gods".
Many PR professionals concluded that the biggest mistake BP made
was in not understanding the US attitude and expectations. For
the first two months of the crisis there was no senior American
involvement or PR management. In mid-June, Hayward was
replaced by American Bob Dudley in dealing with the spill. Hayward
left BP by "mutual consent" in October 2010. Dudley became
the CEO.
Within three months of the oil spill, BP's market capitalisation had
halved (losing over $100 billion) with speculation that the company
would collapse. Although the share price dropped from a high of
650p before the spill to a low of 300p, the company survived. By
the end of 2011, the share price was 450p. But share prices for
comparable oil companies had increased by 50% during the same
period, meaning that BP's share price should have been in the region
of 900p.
This Illustration demonstrates the impact of reputation risk.
BP is a good example
of the examiner's
expectation that
candidates should
have a broad
understanding of
"real life" corporate
governance issues.
Q1 December 2011
concerning internal
control failures,
code of ethics, risks
and environmental
risk management
was based on the
BP oil spill disaster.
Although any
candidate who can
analyse a scenario,
link the requirements
to it and understand
how the requirements
are related should do
well, those who know
the background to
the scenario should
also be able to add
relevant "real life"
comments which
should impress the
marker.
12-21
Solution
1.
2.
3.
4.
3.9
<
<
<
12-22
<
<
12-23
Illustration 5 Derivatives
"We view them as time bombs both for the parties that deal in them
and the economic system. ... In our view ... derivatives are financial
weapons of mass destruction, carrying dangers that, while now
latent, are potentially lethal."
Warren Buffett (2002)
1994: Procter & Gamble Co loses $157 million on interest rate
speculation.
1994: Metallgesellshaft loses $1.5 billion on oil futures and
collapses.
1995: Barings Bank goes bust, losing $1.4 billion.
1998: Long-Term Capital Management bailout costs $3.5 billion.
2001: Enron goes bankrupt. The seventh-largest company in the
US and the world's largest energy trader made extensive use of
energy and credit derivatives but becomes the biggest firm to go
bankrupt in US history after systematically attempting to conceal
huge losses.
2002: Allied Irish Bank (AIB) loses $750 million.
2004: National Australia Bank (NBA) loses A$180 million.
2004: China Aviation loses $550m in speculative trade.
2006: The US-based hedge fund Amaranth Advisors loses $6
billion trading in natural gas futures.
2007: (ongoing) Toxic assets, the credit crunch and a derivatives
Chernobyl. $500 trillion total derivatives market exposure (Bear
Stearns, Lehman Brothers, UBS and Citigroup, to name a few)
as substantial attempted unwinding of positions freezes the
derivatives market, leaving both parties and the middleman banks
with substantial losses.
2008: Socit Gnrale loses 4.9 billion in unauthorised futures
trading.
2011: UBS loses 2.0 billion through a rogue trader.
2012: JPMorgan Chase & Co could, as of this writing, lose as much
as $8 billion through derivatives tied to bond prices.*
12-24
Country Risks
4.2 Examples
< Bribery may be a common way of conducting business (to
12-25
Summary
<
Risk is the potential occurrence of an event and the magnitude of its consequences,
negative or positive, with regard to achieving an objective.
<
<
Risk management concerns the systematic process of addressing risks to the organisation.
<
The Turnbull guidance suggests methods that directors can meet their responsibilities under
the Code.
<
<
The UK Code of Corporate Governance requires that firms address the nature of their
risk and describe for shareholders what they are doing about risk, or why they are not
addressing a particular risk.
Strategic (enterprise) risks concern the organisation's ability to achieve its objectives due
to poor strategy selection or execution.
Market risk concerns changes in the value of a particular asset, liability or portfolio due to
market factors.
Legal and regulatory risk concerns losses that a rm may incur as the result of failure to
comply with a law or regulation.
Technological risk occurs when a rm fails to keep up with technology and loses a
competitive position.
12-26
Sector-specic risks are those that apply to one organisation's sector but are not common
to all business.
legal systems;
tax systems;
nancial reporting requirements;
health and safety regulations;
employment laws;
regulatory frameworks; and
ethical, moral and environmental expectations.
Session 12
Session 12 Quiz
Estimated time: 15 minutes
12-27
EXAMPLE SOLUTIONS
Solution 1Risk Assessment Questions
<
Does the company have clear objectives and have they been
communicated so as to provide effective direction to employees on
risk assessment and control issues?
<
<
<
<
<
<
<
<
<
<
<
<
<
<
<
<
<
<
<
Reputation.
12-28
<
<
Poor ventilation.
<
<
<
<
<
<
<
<
Liquid on floors.
<
<
<
No first-aid facilities.
<
<
<
<
12-29
Session 13
Assessing Risk
FOCUS
This session covers the following content from the ACCA Study Guide.
C. Identifying and Assessing Risk
1. Risk and the risk management process
b) Define and describe management responsibilities in risk management.
3. Identification, assessment and measurement of risk
a) Identify, and assess the impact upon, the stakeholders involved in
business risk.
b) Explain and analyse the concepts of assessing the severity and probability
of risk events.
c) Describe and evaluate a framework for board level consideration of risk.
h) Explain and evaluate the concepts of related and correlated risk factors.
Session 13 Guidance
Read through section 1 a couple of times to grasp the importance and approaches to risk management
techniques; learn the two key groupings in the risk management process (s.1.4).
Understand the four elements of the COSO framework used in the evaluation and analysis of
risk (s.2).
VISUAL OVERVIEW
Objective: To explain the process of assessing risk.
Elements
Risk Management Standard
COSO Framework
Key Groupings
Internal Environment
Strategic Objectives
Event (Risk) Identification
Risk Assessment
Risk Register
IMPACT ON STAKEHOLDERS
Session 13 Guidance
Revisit the influence of stakeholders and remember that Mendelow's grid can be used to
estimate stakeholder power and, thus, how the effect on stakeholders from a risk event will
affect the company.
13-1
1.1
Elements
MONITOR
REVIEW
FEEDBACK
IDENTIFY
THREATS TO ACHIEVING
CORPORATE OBJECTIVES
EVALUATE
ANALYSE
ASSESS
MANAGE
APPROACH
AND ACTION
13-2
1.2
The Organisation's
Strategic Objectives
Risk Assessment
Risk Analysis
Risk Identification
Risk Description
Risk Estimation
Risk Evaluation
Formal
Audit
Risk Reporting
Threats and Opportunities
Decision
Risk Treatment
Monitoring
13-3
1.3
COSO Framework
GI
E
AT
R
ST
O
TI
RE
CO
DIVISION
1.4
PL
ENTITY LEVEL
onme
nt
tive S
etting
Event
Ident
icati
on
Risk A
ssess
ment
Risk R
espon
se
Contr
ol Act
ivities
Inform
ation
& Com
munic
ation
Monit
oring
Objec
CE
N
IA
PO
SUBSIDIARY
al Env
ir
I
RT
BUSINESS UNIT
Intern
R
PE
Key Groupings
13-4
risks; and
Developing strategies to manage, control and monitor those
risks (see Session 14).
2.1
Internal Environment
2.1.1
2.1.2
Board of Directors
*These elements
are inter-related and
cannot be considered
in isolation. As
explained in s.2.5, the
risk register is a tool
used to document,
control and provide
necessary support
in analysing and
evaluating risk.
Risk capacitythe
maximum amount
and type of risk
that an entity could
take under current
circumstances. This is
determined by various
constraints, such as
capital and human
resources, expertise
and regulatory
requirements (e.g.
if capital resources
increase and/
or regulatory
requirements are
relaxed, risk capacity
can increase).
Risk appetitethe
amount of risk,
taking into account
risk capacity, that an
entity is prepared to
accept in pursuit of
value. It reflects the
entity's management
philosophy and in turn
influences the entity's
culture and operating
style.
13-5
2.1.3
2.1.4
Organisational Structure
2.1.5
13-6
Example 1 Enron
A significant energy company was generally thought to have effective enterprise risk
management due to its high-powered and respected senior managers, prestigious
board of directors, innovative strategies, well-designed information systems and
control activities, extensive policy manuals prescribing risk and control functions
and comprehensive reconciling and supervisory routines.
Required:
Explain why the company earned the distinction of becoming one of the
largest bankruptcies in US (let alone world) history.
Solution
13-7
2.2
Strategic Objectives
Mission statement
13-8
Example 2 Objectives
Objectives and decision-making are usually classified as strategic, tactical
and operational.
Required:
Describe the general characteristics of each classification.
Solution
1. Strategic:
2. Tactical:
3. Operational:
13-9
2.3
Identification Techniques
13-10
Solution
1.
2.
3.
4.
5.
13-11
2.3.2
13-12
2.3.3
Event Categories
2.4
Risk Assessment
13-13
Medium
Low
High
Medium
Low
13-14
Example 4 Objectivity
For each of the following, identify if the matter can be objectively or subjectively assessed.
Solution
1. Theclosureofafactorywillcost$1m.
2. Failure to meet a delivery deadline will
result in the loss of the client.
3. A nuclear accident will occur this year in
the UK.
4. Revolution in the Middle East will result in
the closure of our business.
5. There is a 25% chance that global warming
will result in a 50% increase of sales.
2.4.2
Mapping
Likelihood
Low impact,
high likelihood
High impact,
high likelihood
Low impact,
low likelihood
High impact,
low likelihood
*Likelihood may
instead be labelled risk
probability and hazard
is an alternative label
for consequences or
impact.
Impact
13-15
Critical area
X
X
X
X
X
Likelihood
X
X
X X
X
X
X
X
X
X
X
X
X
X
Impact
13-16
Impact on Stakeholders
previous sessions.
In simple terms, the impact of risk on stakeholders is that
they will not be able to pursue their claims on the entity.
As the definition of stakeholders implies a two-way
relationship (" can affect and be affected by ") stakeholder
claims also should be considered as potential events that could
lead to threats and opportunities to the entity's strategy.*
*Stakeholder power
and the use of
Mendelow's grid have
already been discussed
as potential sources of
event indicators.
Solution
Stakeholder
Impact of Risk
1.
2.
3.
4.
5.
13-17
Summary
A risk register or matrix may be used to record, prioritise and track each risk through the
risk management process.
Mendelow's grid can be used to estimate stakeholder power and, thus, how the impact on
stakeholders from a risk event will affect the company.
Session 13 Quiz
Estimated time: 10 minutes
1.
List the basic elements of the COSO risk management framework. (1.3)
13-18
Session 13
EXAMPLE SOLUTIONS
Solution 1Enron
Despite its high external reputation, Enron's internal environment was
significantly flawed. Management participated in, practiced and allowed
many highly questionable business practices. Their sheer arrogance
allowed them to think of themselves as "the smartest guys in the room"
anywhere, any time.
Solution 2Objectives
Strategic decisions:
affect the whole organisation;
are often subjective (as the future cannot be known until it happens);
may be based on a number of different scenarios (to enable appropriate
reaction as events unfoldbeing proactive rather than reactive);
are often about long-term planning, but not always (the strategic
horizon may be five years, it may be 20 years, or it may be on a
rolling basis);
have a higher level of risk than other decisions (because of the many
variable and unpredictable factors that such decisions may be based
on, such as the future political, economic, social and technological
(i.e. "PEST") environment);
are usually complex;
are unlikely to be recurring; and
provide the framework and guidance for tactical decision-making.
Tactical decisions:
implement the requirements of the strategic plan;
affect significant parts of the organisation;
are based on a mixture of internal and external information, with the
emphasis often on internal information;
are usually (but not always) based on financial analysis;
use a mix of qualitative and quantitative data;
are related to the short- and medium-term;
are often recurring processes, although in different contexts (e.g.
setting quality standards for different departments); and
provide the rules for operational decision-making.
Operational decisions:
affect day-to-day routine operations;
are immediate (or very short-term);
are basically concerned with control rather than planning;
have a low level of risk/uncertainty (as they are derived from set
rules and procedures;
are often repetitive;
can easily be programmed;
use internal information; and
follow rules set by tactical decision-making.
13-19
Trends and root causesuse data sets and data mining to identify
trends and potential causes. Once a root cause has been identified,
this is the event to be sorted.
Solution 4Objectivity
1.Theclosureofafactorywillcost$1mobjectiveimpact
measurement as the costs of closure can be measured with
reasonable certainty (e.g. redundancy, impairment to assets,
cancellation of contracts).
2. Failure to meet a delivery deadline will result in the loss of
the clientdepends on known facts about the client and the
effect on that client of failing to meet the deadline. If this is a
general statement it is subjective. If already threatened by the
client it is an objective impact.
3. A nuclear accident will occur this year in the UKsubjective
likelihood. A nuclear accident may be military, civilian, in
a power station or a research laboratory. May be minor or
majormany "may be" thus subjective.
4. Revolution in the Middle East will result in the closure of our
business of selling clothes to the general publicsubjective.
Location and final outcome are unknown. The product is one
that is highly unlikely to be affected by political factors, but
may be (for an unknown length of time) by economic factors.
5. There is a 25% chance that global warming will result in a
50% increase of salessubjective. On what data can such
assumptions be made?
13-20
Impact of Risk
Shareholder
Directors
Managers
Employees
Customers
Suppliers
Government
Possible effects include loss of tax revenue (profits, VAT and employee),
increase in economic support to the entity, statutory redundancy
payments and increase in unemployment benefits (both direct and
indirect through the multiplier-effect on suppliers and customers).
Banks
13-21
Session 14
Controlling Risk
FOCUS
This session covers the following content from the ACCA Study Guide.
C. Identifying and Assessing Risk
1. Risk and the risk management process
b) Define and describe management responsibilities in risk management.
c) Explain the dynamic nature of risk assessment.
d) Explain the importance and nature of management responses to changing risk
assessments.
e) Explain risk appetite and how this affects risk policy.
3. Identification, assessment and measurement of risk
f) Explain and assess the ALARP (as low as reasonably practicable) principle in risk
assessment and how this relates to severity and probability.
g) Evaluate the difficulties of risk perception including the concepts of objective
and subjective risk perception.
VISUAL OVERVIEW
Objective: To explain the process of managing and controlling risk.
CONTROLLING RISK
RISK
DIMENSIONS
Risk Cascade
Risk Appetite
Factors
RISK RESPONSE
TARA
Diversifying
ALARP
Contingency
Planning
MANAGEMENT
RESPONSIBILITIES
EMBEDDING
RISK AWARENESS
The CEO
The Board
Risk
Committee
Risk Manager
Chief Financial
Officer
Risk Auditing
Employees
Importance
Procedures
Risk
Management
Summary
Session 14 Guidance
Note that only section 2, "Risk Response", will be familiar to you from F8 studies. All the other
sections must be carefully studiedthey are all highly examinable.
Bear in mind that businesses must take risks in order to maximise returnsif a business was to
avoid all risks, it would not survive. Risks must be taken in order to gain.
Understand factors that may influence management's appetite for and attitude towards risk (s.1)
and how risk is controlled given particular attitudes to risk (s.2).
Recognise the roles of the board, management and the rank-and-file employee in managing risk
(s.3) and embedding risk awareness into strategy formulation and operations (s.4).
2014 DeVry/Becker Educational Development Corp. All rights reserved.
14-1
Risk Dimensions
1.1
Risk Cascade
14-2
*A firm may be in
a unique position to
capitalise on a market
opportunity which
could bring great
success or moderate
failure. Under normal
circumstances, the
board's appetite for
this project could be
high. If, however,
the firm suffers from
an inability to obtain
financing, and failure
of the project would
result in serious
financial consequences
(low risk capacity),
the board would have
a low risk attitude. In
this case the board will
be risk adverse.
*The closest businesses may have come to 100% risk seeking was
when many senior bank managers thought they had conquered risk,
and their fear of risk evaporated. In reality, they failed to appreciate
and understand exactly what risks they were facing and, when
advised what the consequences of their actions could be, "shot the
messengers".
The result was the near collapse of the financial system.
Lloyds TSB
This was one of the very few UK banks not be have been directly exposed to the
sub-prime crisis. Although the former CEO, Eric Daniels, was often chided by
other bank CEOs for not moving into the sub-prime and jumbo mortgage sector
with its high profits, but sticking to a traditional banker's view on mortgage
lending (many competitor bankers considered their logo, a virile black stallion,
to be more of an old black nag), the sub-prime crisis and subsequent creditcrunch validated his risk-averse approach to the mortgage business. (In 2008,
its mortgage arrears only increased by 14% compared to the industry's average
of 34% reflecting their risk averse approach to mortgage lending and subsequent
probability of default.)
1.2
Risk Appetite*
*"Risk appetite"
encompasses all
things riskrisk
assessment, risk
management,
risk tolerance,
risk attitude, risk
response, risk
culture, ERM, etc.
14-3
characteristics:
Reflective of strategic plans, operational objectives and
stakeholder expectations.
Reflective of key aspects of the business.
Acknowledges the organisation's willingness and capacity to
take risk.
Is documented as a formal risk appetite statement.
Considers the skills, resources and technology required to
manage and monitor risk exposures.
Includes tolerance for loss or negative events that can be
reasonably quantified.
Is periodically reviewed and reconsidered with reference to
evolving industry and market conditions.
Has been approved by the board.
1.3
Factors
1.3.1
Stakeholder Requirements
14-4
1.3.2
Culture
14-5
Risk Response
2.1
TARA
Likelihood
grid model:
Low impact,
high likelihood
High impact,
high likelihood
Low impact,
low likelihood
High impact,
low likelihood
Impact
14-6
Likelihood
be formulated.
When considering how to deal with each risk, management
needs to assess the effect on risk likelihood, as well as costs
and benefits, to select a response which will bring the risk
within desired risk tolerances.
A common risk response is often referred to as the TARA
(or SARA or TARAS) approach:
Reduce
Avoid
Accept
Transfer
Impact
Transfer (Share)
(high impact,
low likelihood)
Avoid
(high impact,
high likelihood)
Reduce
(low impact,
high likelihood)
Control (manage) the risk and reduce it to within the entity's risk
threshold (e.g. through internal control processes).
Two aspects to considerreduce the likelihood and/or reduce the
impact.
A risk management framework should include:
a control environment;
control procedures;
monitoring activities (on the effectiveness of risk management);
and
information flow.
Controlling the risk may also mean modifying the way in which the
business or activity is conducted to reduce the risk (e.g. pooling,
diversification).
Accept
(low impact,
low likelihood)
No action is taken. Accept the risk at its present level as one that can
legitimately be borne (e.g. part of doing day-to-day business) or the
cost of sorting is greater than the cost of the risk itself.
A subset will be risk retention, the residual risk that is left after all
other risk responses have been utilised.
14-7
2.2
2.3
*See Illustration 2 in
Session 12.
ALARP Approach
14-8
Illustration 4 "Reasonable"
Measures
In countries in which human life is considered "cheap", industrial
ALARP would be relatively high; little time, effort and money
would be spent to protect employees from industrial accidents as
the legal, ethical and governance consequences would be minimal
(e.g. employees would not be issued protective clothing).
In other countries in which the legal and ethical requirements for
health and safety are high, ALARP would be relatively low; the risk
of an industrial accident would be minimised to at least the legal
requirements (e.g. employees would be issued protective clothing).
In this case, for example, the most expensive earmuffs would
exclude all noise, whereas a cheaper model would eliminate all noise
above 40 decibels (sufficient to protect the wearer from going deaf).
The cheaper model would be ALARPin fact the most expensive
model could be the more dangerous as the wearer would not hear
any shouted warnings about an imminent danger.
*Another term,
SFAIRP, may also
be used. SFAIRP is
the acronym for "so
far as is reasonably
practicable". ALARP
and SFAIRP mean
essentially the
same thing; at their
core is the concept
of "reasonably
practicable".
14-9
2.4
Contingency Planning
*Storing a recovery
plan on a computer
will be of little benefit
if the computer has
crashed and cannot be
accessed.
Required:
Describe the contingency plan the manufacturer is most likely to have in place for
this scenario.
Solution
14-10
Management Responsibilities
3.1
The CEO
3.2
The Board
*Refer to the UK
Corporate Governance
Code and the Turnbull
Report.
14-11
3.3
Risk Committee
14-12
3.4
Risk Manager
*Including evaluation
of the organisation's
previous handling of
risks.
14-13
14-14
3.7
Employees
Illustration 6 Circumventing
Risk Management
A prime factor of the Merrill Lynch collapse in 2008 during the
sub-prime crisis was the change in risk management engineered
by its autocratic CEO and two of his "closed door" board members
(executives overseeing the mortgage business and risk management)
effectively creating a "mini-board" of the main board.
They intentionally weakened the risk management systems by
removing long-standing employees who understood the bank's
systems and risks and had "walked the floor" (talked with traders)
to understand the kinds of risks the bank was taking on. Internal
control procedures were also relaxed.
The employees who replaced them were loyal to the CEO and wanted
to please him by "overlooking" higher risk mortgage trades which
were earning substantial profits for the bank.
In addition, the executive who oversaw Merrill's mortgage operation
would often intimidate traders and other money makers into not
telling risk management employees exactly what they were doing.
As there was no dissent among the traders, possibly through fear
of losing their well-paid jobs, critical information input to the risk
management system (that would be reviewed by the main board)
effectively stopped.
14-15
4.1
Importance
Fragmented
Integrated
Negative
Positive
Reactive
Proactive
Ad hoc
Cost based
Narrowly focused
4.2
Risk awarenessthe
knowledge of the
nature, hazards and
probabilities of risk in
given situations.
Continuous
Value based
Broadly focused
Procedures
14-16
4.3
Focus on fulfilling
objectives through better
management of risk
14-17
Summary
Risk appetite considers the board's willingness to accept risk and the board's attitudes
towards risk recognise its ability to assume risk.
Perceptions of risk may vary among individuals; varying stakeholder requirements and their
relative power to influence objectives may constrain risk acceptance.
Risk responses are TARA (transfer, avoid, reduce, or accept) and the level of risk acceptance
will tend to be judged by ALARP (as low as reasonably possible) or SFAIRP (so far as is
reasonably practicable).
The board is responsible for managing strategic risks and the board has overall
responsibility for organisational risk; the CEO holds ultimate responsibility for
managing risks.
A CRO assists management with integrating risk management with strategy and operations and may periodically conduct a risk audit. The absence of this C-suite function will
usually necessitate that the board's audit committee have a special risk subcommittee.
The CFO assists in analysing risks to corporate strategy and prevents risk with respect to
accounting and nancial functions (recording, reporting, etc).
Employees participate in making the risk management system effective. There should
be a provision that allows employees to report a breach of controls without reprisal from
superiors.
Risk awareness should be embedded in all facets of strategic and operational design. COSO
ERM framework provides a model for embedding risk awareness.
Session 14 Quiz
Estimated time: 10 minutes
1.
2.
3.
4.
5.
Priority
Estimated Time
Q17
Ferry
50 minutes
Q18
Southern Continents
Company
50 minutes
Completed
Additional
Q19
14-18
H&Z Company
Session 14
EXAMPLE SOLUTIONS
Solution 1Contingency Plan
There will also be a compliance risk (e.g. breach of health and safety regulations).
14-19
Session 15
Ethical Theories
FOCUS
This session covers the following content from the ACCA Study Guide.
E. Professional Values and Ethics
1. Ethical theories
a) Explain and distinguish between the ethical theories of relativism and
absolutism.
b) Explain, in an accounting and governance context, Kohlberg's stages of
human moral development.
c) Describe and distinguish between deontological and teleological/
consequentialist approaches to ethics.
d) Apply commonly used ethical decision-making models in accounting and
professional contexts.
i)
ii)
Session 15 Guidance
Understand the relationship of values, morality and ethics (s.1).
Differentiate between absolutism and relativism (s.2), including the implications of each
(s.2.1, s.2.2).
Learn Kohlberg's six stages of moral development in relation to an action in a business setting (s.3).
VISUAL OVERVIEW
Objective: To explain and distinguish between ethical theories.
ETHICAL THEORY
KOHLBERG'S
STAGES OF MORAL
DEVELOPMENT
Method
Six Stages
Level I: Preconventional
Level II:
Conventional
Level III: Postconventional
Summary
APPROACHES TO
ETHICS
"Kantianism"
Deontological
Approach
Teleological
Approach
Session 15 Guidance
Differentiate among various approaches to ethics, including Kantianism (s.4.1), the deontological
approach (s.4.2) and the teleological approach (s.4.3).
Learn the ethical decision-making models and be able to apply them to an exam scenario (s.5).
15-1
Ethical Theory
2.1
Absolutism
2.1.1
Concept
*Slavery, war,
dictatorship, the death
penalty, abortion
or childhood abuse
may be judged to
be absolutely and
inarguably immoral
regardless of the
beliefs and goals of a
culture which permits
these practices.
15-2
2.1.2
Implications
2.2
Relativism
2.2.1
Concept
*Utilitarianism ("the
greatest happiness of
the greatest number"
should be the criterion
of the virtue ("good")
of an action) can
be said to have an
absolute principle at its
heart. Kantian ethics
has both absolutist
principles and
consequent actions
inferred by those
principles.
2.2.2
*Some relativists
believe that although
moral absolutes
may exist they are
unknowable (because
no one knows absolute
truth).
Implications of Relativism
15-3
2.2.3
Criticisms of Relativism
2.3
Ethical Pluralism
Prohibited
Tolerated: important
to relativism;
Area of
legitimate
disagreement
Ideal
society
Moral
disagreements
Respect
Tolerance
No Tolerance
3.1
Kohlberg's Method
15-4
3.2
Level I:
Pre-conventional Morality
Stage 2: Instrumental Relativist Orientation
Level II:
Conventional Morality
Level III:
Post-conventional Morality
Stage 6: Universal Ethical Principle Orientation
3.3
3.3.1
*According to stage
theory, people cannot
understand moral
reasoning more than
one stage ahead of
their own (e.g. a
person in Stage 3
cannot understand
beyond Stage 4
reasoning).
15-5
3.3.2
3.4
3.4.1
3.4.2
15-6
*Reasoning is still
"pre-conventional"
because responses
are those of isolated
individuals "exchanging
favours". There is no
identification of family
or community values.
*This "conventional"
morality assumes a
collective response (i.e.
"anyone" would be right
to do what Heinz did.
It is what his peers
would have done).
3.5
3.5.1
3.5.2
*Because democratic
processes alone do
not always result in
outcomes that seem
"just", Kohlberg
believed that there
must be a higher
stage which defines
the principles by which
justice is achieved.
*Martin Luther King Jr. argued that laws are only valid insofar as
they are grounded in justice and that a commitment to justice carries
with it an obligation to disobey unjust laws.
15-7
(b) XYZ Co has had its best year of trading since it was incorporated 15 years ago. The chief
executive offers share options to all suppliers and employees who have contributed to the
company's success.
(c) Elena, an ACCA student, is caught using a "crib sheet" during an ACCA Exam. She is fully
aware of ACCA's Exam misconduct rules. However, when ACCA determined that Elena
violated its rules her firm pleaded "mitigating circumstances" and supported her in an
appeal as a result of which she was not "struck off" ACCA's student register.
(d) Boris, a full-time employee of Defi Co, has charged 60 days to his timesheet developing
a new service but claims that he cannot deliver it as a Defi product because it is too
demanding of him. He asks Defi for part-time employment because delivering the new
product under the terms of his full-time contract is too stressful. As a part-time employee
he is now offering the same services that he refused to supply to Defi to a "personal"
client portfolio on a consultancy basis.
(e) Two employees have, for the first time, violated a corporate policy. The offence calls for
a written reprimand. One employee has an excellent job record and his line manager
verbally counsels him, but does not put a record on his file. The other employee's work
is generally regarded as substandard. The line manager also gives him only a verbal
warning because equity demands that they both receive the same treatment.
(f) Alexei, an accounting trainee attending an introductory course for ACCA Paper P1, signs
the attendance register for an absent colleague. His firm tries to enforce strict policies
to ensure attendance that contributes to their "proper preparedness". He knows that his
firm does not provide any financial support for students who have to re-sit if they did not
fully attend courses provided for their first attempt. Alexei believes that his colleague
will reciprocate the favour.
15-8
3.6
Summary
Contractual perspective
Instrumental egoism
Sees that
a) others have goals and preferences,
b) either conform to or deviate from
norms.
Blind egoism
View of Person
15-9
Approaches to Ethics
4.1
"Kantianism"
2. Utilitarianism; and
3. Virtue ethics (a belief in virtuous traits such as servility and
bravery).
15-10
*Duty is grounded in
a sense of "ought",
which implies can.
There is no sense of
"ought" about things
that cannot (or
should not) be done.
Reason begins with
the principle: "Act
only on that maxim
whereby thou canst
at the same time will
that it should become
a universal law."
Categorical
imperativean end in
itself and the basis for
all action.
Hypothetical
imperativesa
means to an end (e.g.
"if you pass your
exams you will get a
salary increase").
4.2
Deontological Approach
4.2.1
Description
4.2.2
Three Maxims
15-11
Solution
4.3
This derives from the Greek word teos, meaning "end", since
the end result of the action is the sole determining factor of its
morality.
4.3.1
Egoism
15-12
4.3.2
Utilitarianism
4.3.3
Altruism
Illustration 2 Altruism
The decision of a company not to make a donation to a charity could
be based on prejudice or self-interest. This is not then a moral
decision.
Alternatively, it could be based on an ethical position that supporting
the charity may help the plight of those who are disadvantaged and/
or prevent others suffering similarly.
Whether a donation is made does not give insight into the motive. A
donor may give without much thought through embarrassment or a
belief that it is wrong to rebut a call for help. The decision could be
motivated by a considered ethical stance or by self-interest or some
other non-ethical position.
15-13
5.1
Issues Addressed
5.2
*The AAA model was formerly known as the "American Accounting Association and Arthur
Andersen method of ethics instruction".
Establishing the facts of the case eliminates ambiguity about what is under consideration.
Norms, principles and values are generally standards, rules and beliefs that guide acceptable and
morally "good" conduct (e.g. profit motive, least harm, integrity, respect for individuals, etc). The
model places the decision into its social, ethical and professional behaviour context.
When considering what the alternative courses of action are, all should be listed no matter how
appropriate or inappropriate they may seem.
Note that when deciding the best course of action, a principle or value may be so persuasive that
a resolution is obvious. For example, protecting the environment to avoid permanent damage and
respect the rights of those whose livelihoods depend on the environment.
With each consequence, consider the long- and short-term perspectives and all positive and
negative effects. It is important to ensure that the implications of each outcome are unambiguous
so that the final decision is made with full knowledge.
15-14
Example 3
AAA Model
You are the chief executive of a company which depends heavily on government
contracts. You have been approached by the fundraiser for a political party candidate.
He asks you for a large contribution, strongly implying that if this candidate wins the
election it will increase your ability to win government contracts. You do not prefer the
candidate, either personally or from a business perspective.
Required:
Use the AAA model to determine whether the contribution should be made.
Solution
1.
2.
3.
What are the norms, principles and values related to the case?
4.
5.
What is the best course of action that is consistent with the norms, principles
and values identified in No. 3. above?
6.
7.
15-15
5.3
Example 4
Tucker's Model
Your company owns a number of large properties in various major cities. The real estate
assessor in one city offers, for a fee, to underestimate the value of your building and
so you will save substantial annual taxes assessed on property value. This is common
practice in the region.
Required:
Use Tucker's model to determine whether you ought to pay the fee.
Solution
15-16
5.4
Other Models
5.4.1
Only the AAA and Tucker models are examinable, but you should be
aware that other ethical models do exist as described here.
Example 5
You are the president of a firm which manufactures mattresses for cots. You have the option
of using either of two foams for the filling: a less expensive one which meets what you feel to
be a too-lenient government safety requirement regarding inflammability (a requirement which
you are quite sure was established as a result of pressure from your industry) and one which is
considered safer but more expensive. Assume that the market will not pay a higher price for the
more expensive material.
Required:
Use the following Laura Nash model to decide whether you should use the more
expensive filling.
15-17
Example 5
(continued)
Solution
1.
2.
How would you define the problem if you stood on the "other side of the fence"?
3.
4.
To whom (and what) do you give your loyalties? (Consider this as a person and as a member
of the corporation.)
5.
6.
7.
8.
Can you discuss the problem with the affected parties before making your decision?
9.
Are you confident that your current stance will be as valid over a long period of time?
10. Could you disclose without qualm your decision or action to your CEO, the board of directors,
your family, or society as a whole?
12. Under what conditions would you allow exceptions to your stance?
15-18
5.4.2
5.4.3
15-19
Summary
Morality concerns "good" or "bad" outcomes based on values; ethics concerns the
development of rules or principles designed to produce good outcomes.
Kohlberg's Theory of Moral Development relies on three levels, each with two stages,
progressing from a self-centered orientation to an other-centered orientation. According to the
theory, everyone passes through each stage as the result of thinking about moral problems.
Kant viewed moral law as categorical imperatives based on rational principles rather than on
religious views, which he found contradictory. However, not all duties could be found from a
rational perspective. His thinking gave rise to additional schools:
Ethical decision-making models provide clearer reasoning and more defensible actions
than do general ethical decision-making frameworks, and explore ethical principles and
acceptability of outcomes.
Session 15 Quiz
Estimated time: 10 minutes
Priority
Q20
Estimated Time
Ethical theories
Completed
30 minutes
Additional
Q21
15-20
Ethical Management
Session 15
EXAMPLE SOLUTIONS
Solution 1Kohlberg's Stages
(a) Stage 3: Conformity
Mihail probably believes it to be an established policy because he
is aware that all other employees use their phones for the same
purpose. Even if he knew that it was not company policy to allow
private use of company assets, the fact that his peers (his immediate
group) do so puts him under pressure to do the same.
(b) Stage 4: Maintaining the Social Order
In the context of offering share options to employees, this can be
considered to be one of a number of standard practices in rewarding
employees (e.g. bonuses based on salaries). Therefore the employer
applies what may be considered as a social accord because other
firms do likewise.
Offering share options to suppliers (as a form or reward, rather than
payment for services) may be considered to be unusual in that not
many entities do so. This action may therefore be thought of as
post-conventional (e.g. Stage 5).
(c) Stage 1: Obedience and Punishment
Initially, Elena would have been concerned with the question, "Will
I be punished if I am caught, or can I get away with it and pass the
exam?" Having been caught once and, because of the support from
her firm, escaped being "struck off" from ACCA she took the view
that if caught again, no punishment would be applied. Thus she
continued her practice of examination misconduct.
(d) Stage 2: Individualism
Basically, "what's in it for me?" Boris has decided that he will be
better off by leaving Defi and becoming a freelance consultant,
thereby ignoring any loyalty or gratitude to Defi for his employment,
training and development. It is clear that he would be working just as
many hours, if not more, but would probably be earning more money.
(e) Stage 6: Consistency
The line-manager is applying wider universal ethical principles (e.g.
equity, equality, justice). Having used his judgement to give the
"excellent" employee only a verbal reprimand (although the offence
requires a higher sanction, a written warning) he considers it only fair
and right to do the same for the other employee.
(f) Stage 2: Exchange
Basically, Alexei believes that his absent colleague owes him a
favour. As he has "rewarded" his colleague, so he expects to be
given a similar "reward" at a later stage. It is in both students'
interests to be able to claim full attendance at the courses in order to
meet the "proper preparedness" criteria.
15-21
Consistency
Would you allow your children to buy/have alcohol if underage (the
same would apply to smoking, sex, solvents, drugs, etc)? Would
you be happy if a particular product/advert was directly or indirectly
aimed to encourage your children to break the law or be encouraged
to inflict self-damage?
2.
Human dignity
Children are easily persuaded by advertising and may not be able
to tell the difference between right and wrong. In many cases,
they may wish to act like adults (e.g. drinking and smoking). Thus,
they have the right to be protected from the consequences, in this
scenario, of underage drinking.
3.
Universality
The entity producing the drink and commissioning the advertising
would not be happy should there be negative publicity in the press
(papers, TV, etc). Such publicity would probably damage the
company's reputation.*
2.
3.
4.
5.
6.
(i) Making the payment will incur cash flow now for which there
may be future awards of contracts if the candidate wins. The
political contribution would need to be disclosed in the financial
statements and the candidate also would need to disclose it,
as it is material. If the candidate wins and additional contracts
are awarded, there may be possible media speculation why the
company appears to be winning more contracts than normal,
which may lead to an investigation and negative consequences
for the firm and its directors.
(ii) If the payment is not made (or is lower than requested) and the
candidate wins, the result may be that future contracts are not
awarded. This would have a detrimental effect on the business
with possible going-concern consequences.
(iii) The broad assumptions are that the candidate will win and have
control over the tendering process (i.e. awards are not made by
a separate committee).
7.
15-22
2.
3.
4.
5.
6.
7.
8.
9.
15-23
Session 16
ii)
iii)
iv)
shaper of society
Session 16 Guidance
Notethis session moves the ethical theories from Session 15 into the business, social and
cultural arenas.
UnderstandGray, Owens and Adams (s.1.2) and Johnson and Scholes business ethical stances
(s.2.1, s.2.2).
VISUAL OVERVIEW
Objective: To describe some of the key theories underlying views on social responsibility
and ethics in the workplace.
SOCIAL RESPONSIBILITY
ETHICAL STANCE
Environmental
Philosophy
Seven Positions on CSR
CULTURAL CONTEXT
INDIVIDUALS
Individual Characteristics
Situational Influences
ENTITIES
Cultural Frames
Pyramid of CSR
Strategic Postures
Corporate Culture
Session 16 Guidance
Read the remaining areas to "soak up" the variables that determine the cultural context of ethics.
16-1
Social Responsibility
1.1
<
1.2
2. Expedients
Anthropocentric
(human-centred)
3. Social contract
4. Social ecologists
5. Socialists
6. Radical feminists
7. Deep ecologists
1.2.1
Rights
*Consideration of
the environment in
decision-making may
involve actions such as
pollution abatement,
resource conservation
and restoration
activities. Nature, other
species and ecosystems
are recognised as
having values beyond
human usage.
Responsibilities
Eco-centric
(earth-centred)
Pristine Capitalists
the right to pursue legal business activities, consume resources and maximise returns to
shareholders; and
16-2
1.2.2
Expedients
<
<
1.2.3
the rights of all human beings. This may often take the form
of allowing employees to be represented by a trade union.
1.2.4
Social Ecologists
< Those who are concerned for the social environment and
<
<
1.2.5
*Organisations exist
and thrive only with
a societal "licence"
to operate. Conflict
between organisational
and societal values
can result in the
withdrawal of support
by society. Therefore,
organisations seek
to align themselves
with social norms and
expectations (which
will change over time)
to maximise their
social legitimacy.
Socialists
<
<
16-3
1.2.6
Radical Feminists
<
< "Boys with their toys" (i.e. the masculine approach) have not
<
only got society and business into its current "mess", but is a
prime factor for just about every "mess".
A radical rethink of values and social culture is required to
move business towards feminine values. Until this happens,
accounting and corporate social reporting (CSR) systems
are flawed.
1.2.7
<
<
16-4
2.1
<
2.2
Ethical stance"the
extent to which an
organisation will
exceed its minimum
obligation to
stakeholders."
Johnson and Scholes
16-5
2.2.1
=
=
<
<
<
2.2.2
<
2.2.3
16-6
<
<
2.2.4
Shaper of Society
< This is the ideological level at which the organisation has the
ability to change (shape) society for the better. Society may not
be at the national level, but could relate to the local community.*
<
2.3
16-7
Cultural ContextIndividuals
16-8
3.1.4
Locus of Control
3.1.5
Moral Imagination*
*During the Enron trial, Andrew Fastow, the CFO, told the jury, "I
was extremely greedy and I lost my moral compass." Just about all
of the key players would have had a very high internal locus, but no
moral compass. Many argue that greed was a qualification for a job
at Enron, and you left your moral compass with security when you
joined, only to be returned should you leave. This was a company
which displayed its share price in the lifts, and where clever schemes
for getting that share price up became more important than running
a real business.
The concept of a "moral compass" is an interesting one. Adam
Smith in his books "The Wealth of Nations" (1776) and "The Theory
of Moral Sentiments" (1759) implied that all humans, while acting in
their economic self-interest, did so with a "moral sense", effectively
a "moral compass", used to guide individuals in the morally correct
direction. Just as magnetic metal sources will deflect the needle
from pointing to the magnetic North, other metals (e.g. gold) may
well deflect an individual's moral compass from its true direction.
<
3.1.6
16-9
16-10
3.2.2
Moral Framing
3.2.3
Systems of Reward
< Basing rewards on set criteria and benchmarks (e.g. sales made,
share price, contracts won) runs the risk that managers and
employees will engage in unethical (and often illegal) practices
to meet or exceed expectations. This is compounded if unethical
practice is accepted (and not punished) by senior management
so that it becomes accepted practice in the organisation.*
3.2.4
Authority
*A common thread
throughout the various
investigations into the
collapse of financial
institutions following
the subprime and
credit crunch has been
the "greed of bankers
in devising ever more
morally dubious
practices and unethical
products in order to
increase their profits
and thus bonuses" (US
Congressional report).
16-11
3.2.5
Bureaucracy
<
<
3.2.6
Work Roles
Cultural ContextEntities
4.1
Cultural Frames
<
<
16-12
*A "recipe" in this
cultural context is
a set of commonly
held assumptions
about organisational
purposes and a "shared
wisdom" on how to
manage organisations.
This means that
organisations will tend
to the same kind of
strategy over time,
especially during
uncertainty.
<
4.2
PHILANTHROPIC
Be a Good Corporate Citizen
Contribute resources to the
community. Improve quality of life.
ETHICAL
Be Ethical
Obligation to do what is right,
just and fairavoid harm.
LEGAL
Obey the Law
Law is societys codification of right and wrong.
Play by the rules.
ECONOMIC
Be Profitable
The foundation upon which all others rest.
4.2.1
Economic Responsibilities*
per share.
To be committed to being as profitable as possible.
To maintain a strong competitive position.
To maintain a high level of operational efficiency.
4.2.2
*A successful firm is
therefore one that is
consistently profitable.
Legal Responsibilities*
regulations.
To be a law-abiding corporate citizen.
To provide goods and services that at least meet the minimal
legal requirements.
*A successful firm
is therefore one
that fulfills its legal
obligations.
16-13
4.2.3
Ethical Responsibilities*
*Good corporate
citizenship is doing
what is expected
morally or ethically.
Illustration 2 Cafdirect
Cafdirect is the UK's largest fair trade hot drinks company and
owns the country's sixth-largest coffee brand.
The company pays its 250,000 coffee, tea and cocoa producers
in the developing world guaranteed fair prices, above the current
market rates. The company also makes long-term investment in its
producer partners' organisations.
Since starting in business, Cafdirect has reinvested over 50% of its
profits into grower businesses and local communities (e.g. through
training programs to provide market information and management
skills to its producers). www.cafedirect.co.uk
4.2.4
Philanthropic Responsibilities*
expectations of society.
To assist the fine and performing arts.
To provide assistance to public and private educational
institutions.
To assist voluntarily those projects that enhance a
community's "quality of life".
*Managers and
employees participate
in voluntary and
charitable activities
in their local
communities.
16-14
4.3
4.4
Corporate Culture
4.4.1
Importance
<
<
*Corporate culture
establishes the
acceptable behaviour
of an organisation's
employees.
16-15
4.4.2
<
1. Cultural Web
16-16
Arguments against
16-17
2. Schein's Framework
Schein developed a set of logical categories for studying basic
assumptions and analysing cultural paradigms.
Visual organisational
structures and processes
(hard to decipher)
16-18
Exhibit 1
16-19
Summary
<
<
CSR reflects how the firm sees itself in the context of society and its environment.
<
Ethical stance is the extent to which an organisation exceeds its minimum obligations to
stakeholders. JS&W rank business moral objectives into four levels:
Gray et al.'s framework explains how an organisation interacts with society and identifies
seven classifications ranging from a highly individualistic (human-centred) philosophy
focused on maximising shareholder wealth to a communitarian (Earth-centred) philosophy
focused on green, ecological priorities.
<
General criteria for individual ethical stances (Crane et al.) include age and gender, national
culture, education and employment, locus of control, moral imagination, and cognitive moral
development.
<
<
<
<
Corporate responses to social and environmental pressures take place along a continuum
from obstructive, to obligative, to response and finally to contributive.
<
Corporate culture concerns the way in which individuals behave within an organisation and
are influenced by:
Carroll's pyramid of corporate social responsibility proposes that the firm must first
be profitable (economic), play by the rules (legal), avoid harm (ethical), and then can
contribute resources to the community (philanthropic).
<
Corporate culture establishes a template for dealing with customers, other companies, the
public, government and the environment.
<
16-20
Session 16
Session 16 Quiz
Estimated time: 10 minutes
1. Explain the difference between a social ecologist and a pristine capitalist. (1.2)
2. State the FOUR levels of ethical stance according to Johnson and Scholes. (2.2)
3. Explain the concept of "moral intensity". (3.2.1)
4. Define corporate culture. (4.4)
Priority
Q23
Estimated Time
Ethical Dilemmas
Completed
20 minutes
Additional
Q22
Responsibility to
be Ethical
Q24
16-21
EXAMPLE SOLUTIONS
Solution 1Pristine Capitalists
The dominant view in accounting, finance and economic performance
in which the only responsibility of the corporation is to make money
for shareholders. Thus:
Economic performance is the only legitimate goal.
Individual self-interest takes precedence over benefits to society.
Shareholders can expect maximum returns.
Market economy is a good.
There are no real future environmental problems since humans and
technology are infinitely adaptable and solutions will be found in the
market economy.
Any claim upon the organisation which would threaten the optimal
profitability of the organisation is viewed as morally unacceptable as it
would be an effective theft of shareholder wealth.
May be described as "the business of business is business"
(Milton Friedman).
*J&J's top management put customer safety first, which was unusual
for a large corporation. In similar cases companies which put their
profits first did more damage to their reputations than if they had
immediately assumed responsibility for the crisis. For example, when
traces of benzene were found in Source Perrier bottled water, the
company claimed an isolated incident and announced a limited recall
in North America. When benzene was then found in bottles in Europe,
a world-wide recall was necessary. The company suffered harsh
media criticism for its lack of integrity and disregard for public safety.
16-22
Arguments against
The trainee may be "punished" or "made an example of" in some
other way. For example, the trainee may have his attempts at
examinations deferred pending legal and disciplinary procedures
(a process which may take years).
The trainee may be "reformed" and the organisation appears
compassionate for having retained the employee.*
The continuing presence of the employee will be a constant reminder
to others.
16-23
Session 17
Session 17 Guidance
Understand the requirements and privileges of a profession (s.1) and the attributes of professionalism
(s.1.3).
Recognise the importance of serving the public interest (s.2), based on the accounting profession's
importance to society (s.3).
VISUAL OVERVIEW
Objective: To explain professions, professionalism, accounting as a profession and an
accountant's role in society.
"PROFESSION" V "PROFESSIONALISM"
Profession
Characteristics
Professionalism
PUBLIC INTEREST
IFAC Mission
Oversight Boards
Professional Accountant
Bottom Line
Social and Political Impact
Profits Before Ethics?
Public Interest Conflict of
Interest?
Sub-prime Crisis
Session 17 Guidance
Know why accounting may be considered a "value-laden" discipline (s.3.3) and the importance of
that as it relates to public interest.
Understand the public interest issues inherent in accounting scandals (s.4.2) and their impact on
the profession.
17-1
"Profession" v "Professionalism"
1.1
Profession
Profession
The body of people in a learned occupation.
An occupation, vocation or career requiring specialised knowledge
and extensive training that usually has a professional association,
ethical code and process of certification or licensing.
A disciplined group of individuals who adhere to high ethical
standards and uphold themselves to, and are accepted by, the
public as possessing special knowledge and skills in a widely
recognised, organised body of learning derived from a high-level
education and training, and who are prepared to exercise this
knowledge and these skills in the interest of others.*
*Inherent in the
last definition is the
concept that social
responsibilities should
take precedence over
other considerations.
1.2
Characteristics
17-2
2. Service orientation.
*In the UK, the professional bodies of accountants (e.g. ACCA, ICAEW,
ICAS, ICAI, CIMA) have been lobbying the government for many
years to reserve the word "accountant" for use only by professionally
qualified accountants. At present, anyone can set themselves up in
business and use the word "accountant" (e.g. a turf accountant is a
bookmaker, traditionally taking bets on horses raced on turf). Only
members of professional bodies which have received their designation
may refer to themselves as being "chartered accountants". (The "C"
in the initials of the bodies above stands for "chartered".)
1.3
Professionalism
17-3
Innovation
Integrity
Judgement
CORPORATE GOVERNANCE
KEY UNDERPINNING
CONCEPTS
Accountability
Responsibility
Openness and
Transparency
Scepticism
Independence
Public Interest
2.1
IFAC Mission
17-4
17-5
2.2
2.2.1
IFAC
17-6
2.2.2
2.2.3
*Many of the
professional
accountancy firms
complained that a
heavy regulatory
burden was being
placed on them"after
all, we are professional
and should be trusted".
17-7
2.2.4
2.3
Professional Accountant
17-8
*UK auditing
standards and ethical
standards for auditors
are basically the full
IAASB standards
with additional
requirements added
for UK consumption.
Countries with larger per capita numbers of accountants and auditors have greater wealth per
capita than those with smaller per capita numbers of accountants and auditors.
The research emphasizes the importance placed by society in such countries on the role of
professional accountants as well as the ability of professional accountants to influence and
generate economic growth for that country.*
*Research also has shown that in most financial crises, the banking
system appears to have played a major role in enhancing that crisis.
This is particularly true for the sub-prime and credit crunch ongoing
since 2007.
*With the various scandals of the 1980s (in the UK and the US) and
the 1990s (in the US) peaking with Enron, the accounting profession
worked extremely hard to regain the trust of society (e.g. UK
Corporate Governance Code, SOX, IFAC, FRC)only to be asked in
2008, "Where were the auditors?" in relation to the sub-prime crisis
and the credit crunch.
17-9
Example 1 Roles
List the roles and positions held by professional accountants in industry, commerce and society.
Solution
3.1
Within Society
3.1.1
3.1.2
17-10
3.1.3
Exhibit 2
The following excerpt is from the National Audit Office website, www.nao.org.uk:
The NAO audits the accounts of all central government departments and agencies,
as well as a wide range of other public bodies, and reports to Parliament on the
economy, efficiency and effectiveness with which they have used public money.
Our work saves the taxpayer millions of pounds every year.
17-11
3.1.4
3.1.5
17-12
3.2
17-13
3.3
Value-Laden Profession
17-14
4.1
Bottom Line
17-15
4.2
4.3
17-16
Exhibit 3
AUDITORS
The following excerpt is from Professor Prem Sikka, written evidence to the UK House
of Commons Treasury Committee on the Banking Crisis (2009):
Auditing firms are commercial enterprises and cannot afford to alienate their
paymasters. The basic auditing model requires one set of business entrepreneurs
(auditing firms) to regulate another (company directors). Neither party owes a
"duty of care" to any individual shareholder, creditor, employee, bank depositor or
borrower. Their success is measured by profits rather than anything they might do
for society, regulators or the state.
4.4
17-17
4.5
Sub-prime Crisis
17-18
Session 17
Summary
Public interest concerns the collective well-being of the community of people and institutions
served by professional accountants.
Accounting has an importance to society beyond simply satisfying the needs of an individual
client or employer, for example, to:
affect the allocation of capital based on perceived risks and alternative opportunities;
cease non-economic production that has a positive societal contribution; and
be corrupted by politicians for their own ends.
The accounting profession has many examples in which accountants failed to address
the public interest, choosing instead to maintain engagements that created a conflict
of interests, falsifying results, and ignoring their clients' financial misrepresentations to
maintain audit business.
17-19
Session 17 Quiz
Estimated time: 15 minutes
Priority
Q25
17-20
Estimated Time
Completed
40 minutes
EXAMPLE SOLUTION
Solution 1Roles
Entrepreneurs, CFO, CEO, NED, internal auditor, management accountant, cost accountant,
tax accountant, bursar (schools and universities).
Managers and agents (of the rich and (in)famous), project manager, risk manager, analyst,
programmer, trustee (e.g. health service, charities, pension schemes).
Industry, commerce, banking, private sector, public sector, local government, national
government (including elected officials) armed forces, NGOs, not-for-profit sector.
Some that are (perhaps) odd-ball: professional footballers, cricketers, golfers, authors,
songwriters, rock and roll artists, DJs, actors, comedians, inventors, sports promoters,
mercenaries ("dogs of war").
17-21
Session 18
Session 18 Guidance
Understand why codes have developed and how they relate to good ethical and CSR practice.
Know the types and purposes of codes (s.1).
Understand the authority levels, development process, content and problems with a corporate
code (s.2).
VISUAL OVERVIEW
Objective: To describe and assess codes of ethics.
ETHICAL CODES
Types
Purposes
CORPORATE CODES
Authority
Development Process
Content
Limitations on Effectiveness
PROFESSIONAL CODES
Introduction
IFAC Code of Ethics
Background
Ethical Trading Initiative
Implementation
Obstacles
Session 18 Guidance
Recognise the necessity for supply chain codes (s.3.1), and specific implementation
challenges (s.3.4).
Know the fundamental principles (s.4.2.1) and conceptual framework (s.4.2.2) for a professional
code of ethics such as the IFAC code.
18-1
Ethical Codes
1.1
Types
*Go to www.oge.gov/Laws-and-Regulations/Executive-Orders/ to
read President Barack Obama's Executive Order (13490) on Ethics
Commitments by Executive Branch Personnel.
1.2
Purposes
18-2
* This is especially
important with
powerful stakeholders,
perhaps including
customers, suppliers
and employees.
Corporate Codes
2.1
Authority
2.1.1
Enforcement
2.1.2
Exhibit 1
*The effectiveness of
any code will depend
on the extent to which
it is supported. It is
critical for codes to
be fully endorsed and
acted upon by senior
management as well
as embedded in the
entity's culture.
CODE OF ETHICS
18-3
Exhibit 2
The following is Microsoft's Code of Professional Conduct, which is its written code of ethics under
Section 406 of the Sarbanes-Oxley Act (2002) in compliance with the standards set forth in SEC
Regulation S-K Item 406:
Microsoft Finance's mission includes promotion
of professional conduct in the practice of
financial management worldwide. Microsoft's
Chief Executive Officer (CEO), Chief Financial
Officer (CFO), Corporate Controller, and other
employees of the finance organisation hold
an important and elevated role in corporate
governance in that they are uniquely
capable and empowered to ensure that all
stakeholders' interests are appropriately
balanced, protected, and preserved. This
Finance Code of Professional Conduct
embodies principles which we are expected
to adhere to and advocate. These principles
of ethical business conduct encompass
rules regarding both individual and peer
responsibilities, as well as responsibilities to
Microsoft employees, the public, and other
stakeholders. The CEO, CFO, and Finance
organisation employees are expected to abide
by this Code as well as all applicable Microsoft
business conduct standards and policies or
guidelines in Microsoft's employee handbook
relating to areas covered by the Code. Any
violations of the Microsoft Finance Code of
Professional Conduct may result in disciplinary
action, up to and including termination of
employment.
All employees covered by the Finance Code of
Professional Conduct will:
Act with honesty and integrity, avoiding
actual or apparent conflicts of interest in
their personal and professional relationships.
Provide stakeholders with information
that is accurate, complete, objective, fair,
relevant, timely, and understandable,
including information in our filings with and
other submissions to the US SEC and other
public bodies.
Comply with rules and regulations of federal,
state, provincial, and local governments,
and of other appropriate private and public
regulatory agencies.
(see www.microsoft.com/about/legal/
buscond/default.mspx for the Business Code)
Act in good faith, responsibly, with due
care, competence, and diligence, without
misrepresenting material facts or allowing
one's independent judgment to be
subordinated.
Respect the confidentiality of information
acquired in the course of one's work except
when authorised or otherwise legally
obligated to disclose.
18-4
2.2
Development Process
2.2.1
Matters to Consider
The content of a code, and the process for writing it, can vary
considerably. Some of the standard issues to consider include:
guide or inspire?
It should be tailored to the needs and values of the organisation.
Who will be involved in creating it? A small working group or
everyone affected by it?*
The views of major stakeholders regarding key obligations.
Many codes have two components:
an aspirational section; and
rules or principles which members of the firm will be
expected to adhere to.
The value or principle listed first will have a natural
prominence.
How will it be implemented in organisational policies and
practices? Will employees be trained?
2.2.2
The Institute for Business Ethics sets out eight steps for preparing
a new code:
1. Get endorsement from the Board. The board must recognise
its role in corporate governance and the success of the firm
and be committed to monitoring its effectiveness, through a
board committee.
2. Assign responsibility for development and implementation
to a board-level ethics or corporate responsibility committee
(preferably chaired by a non-executive director) or assign to an
existing board committee.
3. Understand how the code relates to the firm's approach to
ethics, compliance and corporate social responsibility (CSR).
4. Find out the material issues that concern employees and other
stakeholders.
5. Be familiar with external standards and good practice.
Examples:
GoodCorporationwww.goodcorporation.com
Global Reporting Initiative (GRI)www.globalreporting.org
6. Determine the key indicators/measures of an ethical culture for
the firm in order to provide later monitoring and assurance.
18-5
2.3
Content
2.3.1
Types of Code
Stakeholder-Based Content
18-6
Exhibit 3
2.3.3
Issues-Based Content
Competition*
Bribery and corruption
Gifts and entertainment*
Conflicts of interest
Use of company assets
Information security
Political contributions
Human rights standards*
Environmental responsibilities
Health and safety
Discrimination
Work/home balance issues
Other issues
*See Exhibit 3.
Solution
1.
2.
3.
18-7
Exhibit 4
ISSUES-BASED CODE
Exhibit 5
CORPORATE CODES*
*
BP (www.BP.com)
1.
2.
3.
4.
5.
6.
7.
8.
9.
Introduction
Relevant Officers
Honest and Ethical Conduct
Disclosure
Compliance
Reporting and Accountability
Waivers
Other Policies and Procedures
Enquiries
Commitment to integrity
Health, safety, security and the
environment
Employees
Business partners
Governments and communities
Company assets and financial
integrity
The examiner
expects to see an
understanding of
real life issues. You
should review the
corporate codes of
the three companies
in this Exhibit to
appreciate the
context in which they
are set. This will help
answering questions
like Q1 December 11
(see Illustration 4
in Session 12). Be
aware that repeating
theory will only
be worth a limited
number of marks.
Being able to analyse
a scenario and
apply a practical
understanding of
its context will be
necessary to gain
pass marks.
Consequences
Employee's ResponsibilitiesGuidance and Whistle-blowing
What to do, Reporting, Code of Ethics Acceptance Form
18-8
2.4
Limitations
Solution
1.
2.
3.
4.
Illustration 1 Siemens
Until 1999, German law allowed German companies to offer bribes to obtain customers and
contracts. Such payments were even tax deductible.
In 2005, Siemens, one of the world's largest companies, found itself at the centre of a bribery
scandal as German, European and US prosecutors opened cases against it. The US has
had anti-bribery laws since the mid-1970s and, as Siemens is listed on the New York Stock
Exchange, it is subject to US law.
Following the change in German law and the growing popularity of implementing codes of
ethical conduct, Siemens issued a comprehensive series of codes requiring all employees to
sign an annual declaration of compliance.
However, a number of senior managers and directors were effectively allowed to continue the
bribery practice beyond 1999, as the code of ethics was considered to be "toothless" in that
offenders were rarely punished for breaches. They often met to review how they would be able
to continue to hide their activities from the authorities, internal managers who were not aware
of the practice and from internal and external auditors (i.e. making the payments appear to be
normal business transactions).
The annual budget for "NA" (the Siemens' insiders' slang for ntzliche Aufwendungenuseful
money) was in excess of $200m per year. This was used to pay appropriate officials in overseas
countries "consultancy fees" (2,700 business consultancy agreements were in existence). The
small team that operated the system day to day considered that, without "NA", Siemens would
have been at a distinct competitive disadvantage as many competitor companies in the tender
processes also would have been asked for such payments and may, or may not, have agreed.
While they knew they were breaking the law, they considered it ethically right to do so because
without winning contracts many workers would have been made redundant.
18-9
3.1
Background
*Perhaps the most scrutinised and publicised firm in this regard has
been Nike.
18-10
3.2
3.3
Implementation
18-11
Exhibit 6
3.4
Implementation Obstacles
18-12
Exhibit 7
CITIZEN NIKE*
The following extract from a Fortune magazine article in November 2008 demonstrates the
difficulties that may result from an outsourcing strategy.
Starting in the late 1990s, Nike's efforts
to improve labor conditions in its factories
focused on monitoring programs. The
company sent auditors, including external
observers, into suppliers' plants to gauge
conditions, then tried to enforce compliance
with its code of conduct. In 2005, Nike
became the first in its industry to release the
names and locations of its factories (see
www.nikeresponsibility.com), both as a show of
transparency and to encourage its competitors
to join the effort at improving conditions.
The company also handed over its audit data
to Richard Locke, a professor at MIT's Sloan
School of Management, who released his
findings in 2006. They were stark: Despite
"significant efforts and investments by Nike
... workplace conditions in almost 80% of its
suppliers have either remained the same or
worsened over time".
Nike rates its factories on a scale of A to D;
in a fiscal 2006 audit of 42 factories, seven
got A's, and 13 got D's because of multiple
transgressions, like failing to pay the local
minimum wage or making employees work
more than 14 days in a row without a break.
By itself, monitoring turned out to be a
failure, and not just for Nike. "The compliant
factory doesn't exist in my experience. We
find an average of 17 to 18 violations per
factory around the world," says Auret van
Heerden, CEO of the Fair Labor Association, a
labor-rights group that independently audits
members' factories, including Nike's.
In emerging economies, government
regulations tend to be weak, which leaves the
brands to police their suppliers. That's a major
task for Nike, which produces 98% of its shoes
in factories in China, Vietnam, Indonesia, and
Thailand to capitalise on low costs.
Even the toughest code of conduct gets
trampled when tight deadlines leave suppliers
little margin for error. One power outage
or late adjustment on a rush order, and the
easiest solution is to push workers to excessive
overtime or long stretches without a day off.
*The Fortune magazine Nike article has been criticised in other press commentary as effectively trying
to place Nike in a good light. That aside, from the perspective of the P1 examination, it effectively
demonstrates the difficulties that entities face with supply chain ethics and reputation risk.
18-13
Professional Codes
4.1
Introduction
purpose whatever;
relying on a code of ethics is to confuse ethics with law;
there is no special ethics for professionals which should be
separated from the ethics of other individuals in a moral society.
2.
Required:
Give a counter-argument to each of these criticisms.
Solution
1.
2.
4.2
IFAC Code*
As a leading member of the IFAC, the ACCA's code and that of the IFAC
are effectively interchangeable in the majority of requirements with the
ACCA's code giving additional guidance specific to ACCA members.
4.2.1
professional services.
Objectivityfairness, without prejudice or bias, conflict
of interest or influence of others to override professional or
business judgements.
18-14
A member's
objectivity must be
beyond question.
Objectivity can
only be assured
if the member is,
and is seen to be,
as independent as
possible.
4.2.2
*Threats and
safeguards are
considered further in
Session 19.
Solution
1.
2.
3.
18-15
Illustration 2
No
Yes
Yes
No
18-16
Session 18
Summary
The purpose of a code of ethics, whether for a company, supply chain, industry or
profession, is:
The code should have the board's endorsement and, ideally, be developed and implemented
from a board-level committee.
Stakeholder-based codes base provisions around relationships with stakeholders; issuesbased codes offer guidance around issues of concern to the firm.
Supply chain codes address issues with sourcing labour and materials. Many investment
companies look carefully at social issues such as child labour when they consider an
investment in a company.
The Ethical Trading Initiative (ETI) works to promote and improve supply chain codes. This
is especially important because suppliers may have different cultural viewpoints and will
often be on guard against outsider interference.
Professional codes, such as IFAC, will typically include fundamental principles such as
integrity, objectivity, professional competence and due care, confidentiality and professional
behaviour. Different engagements may call for different safeguards.
18-17
Session 18 Quiz
Estimated time: 10 minutes
Priority
18-18
Estimated Time
Q26
Steering Committee
25 minutes
Q27
CFO
40 minutes
Completed
EXAMPLE SOLUTIONS
Solution 1Other Issues
1.
2.
3.
4.
Political lobbying
Speaking out/whistle-blowing
Executive pay
Harassment and bullying in the workplace
Management and all employees must buy in. Any code of ethics/
conduct must be seen to be applied to all levels and just not employees.
*The counter case to the last comment above is that research in the
UK has shown that the introduction of the UK Corporate Governance
Code, the changes made to the listing rules and the tightening of the
Audit Regulations have broadly resulted in the good behaviour of UK
PLC over the last 20 years.
18-19
18-20
NOTES
18-21
Session 19
Session 19 Guidance
Note that much of this session was covered in F8. Remember that P1 is presented from the
perspective of a professional accountant in commerce and not as an auditor.
Understand conflicts of interest (s.1.1) and how ethical safeguards (s.1.2) help mitigate ethical threats.
Know the ACCA ethical conflict resolution model and the AICPA ethics decision tree (s.1.3).
VISUAL OVERVIEW
Objective: To explain how conflicts of interest arise and how they may be resolved.
CONFLICTS OF INTEREST
Meaning
Ethical Threats and Safeguards
Ethical Conflict Resolution
PROFESSIONAL
INDEPENDENCE THREATS
UNETHICAL BEHAVIOUR
Influences
In the Workplace
In the Accounting
Profession
Applying Kohlberg
IFAC Code
Categories
Examples
Safeguards
Rules v Principles
Definitions
Impact
Conflict of Interest
Role of Corporate Governance
UK Bribery Act
Best Practices
Barriers
Session 19 Guidance
Recognise how threats to independence affect ethical behaviour (s.2), and how bribery and
corruption threaten independence and how they can lead to unethical behaviour (s.3).
Differentiate bribery and other types of corruption (s.4) and know various aspects of the UK
Bribery Act (s.4.5), including best practices to avoid such problems (s.4.6).
19-1
Conflicts of Interest
1.1
Meaning
19-2
Following the sudden departure of an audit client's finance director you have been asked
to prepare the financial statements.
(b)
You are a financial accountant in a manufacturing company. Your finance director has
instructed you to falsify inventory records so the true age of slow-moving items is concealed.
Solution
(a)
(b)
Falsification of Records
1.2
19-3
19-4
Example 2 Buyer
Identify the most likely ethical threats faced by a company's procurement director of heavy
industrial equipment which is purchased overseas.
Solution
1.3
*Member bodies
(e.g. ACCA) provide
confidential counselling
and advice to members
who experience ethical
conflicts.
19-5
19-6
Any professional
accountant in a
senior position should
strive to ensure that
the employer has
established policies to
resolve conflicts.
1.3.2
No
Yes
No
Yes
Yes
Yes
No
No
Yes
No
Yes
Yes
Yes
No
No
No
Yes
No
Consider whether it is
appropriate to resign
*Although both
approaches come
from the accountancy
profession, they can be
used by any director,
manager or employee
who has an actual or
potential ethical conflict.
19-7
2.1
IFAC Code
Exhibit 1
The following is an excerpt from Section 1 of the IFAC Code of Ethics for Professional
Accountants.
Integrity and Objectivity
1.1 Integrity implies not merely honesty but fair dealing and truthfulness. The
principle of objectivity imposes the obligation on all professionals to be fair,
intellectually honest and free of conflicts of interest.
1.2 Professionals serve in many different capacities and should demonstrate
their objectivity in varying circumstances. Professionals in undertake
engagements, and render and other services. Other professionals prepare
as a subordinate of others, perform ... services, and serve in capacities in
industry, commerce, the public sector and education. They also educate and
train those who aspire to admission into the profession. Regardless of service or
capacity, professionals should protect the integrity of their professional services,
and maintain objectivity in their judgment.
1.3 In selecting the situations and practices to be specifically dealt within ethics
requirements relating to objectivity, adequate consideration should be given to
the following factors:
(a) Professionals are exposed to situations which involve the possibility
of pressures being exerted on them. These pressures may impair their
objectivity.
(b) It is impracticable to define and prescribe all such situations where these
possible pressures exist. Reasonableness should prevail in establishing
standards for identifying relationships that are likely to, or appear to, impair
a professional's objectivity.
(c) Relationships should be avoided which allow prejudice, bias or influences of
others to override objectivity.
(d) Professionals have an obligation to ensure that personnel engaged on
professional services adhere to the principle of objectivity.
(e) Professionals should neither accept nor offer gifts or entertainment which
might reasonably be believed to have a significant and improper influence on
their professional judgment or those with whom they deal. What constitutes
an excessive gift or offer of entertainment varies from country to country
but professionals should avoid circumstances which would bring their
professional standing into disrepute.
19-8
2.2
Solution
Situation
Risk Category
1.
2.
3.
4.
5.
2.3
Examples
2.3.1
Self-Interest
19-9
2.3.2 Self-Review
litigation.
Promoting an issue where the information is incomplete or
unlawful.
2.3.4 Familiarity
audit opinion.
Fee pressure that would compromise the quality of
professional services.
Threat of dismissal or the dismissal of a close family member.
Dominant personality attempting to influence the decisionmaking process.
Threat of litigation.
19-10
2.4
Safeguards
Examples:
Educational, training and experience requirements for entry
into the profession.
Continuing professional development (CPD) requirements.
Corporate governance regulations.
Professional standards.
Professional or regulatory monitoring and disciplinary
procedures.
External review by a legally empowered third party (e.g. of
auditor's reports).
Certain safeguards may increase the likelihood of identifying
or deterring unethical behaviour. For example:
Effective, well-publicised complaint systems which allow
colleagues, employers and members of the public to draw
attention to unprofessional or unethical behaviour.
An explicitly stated duty to report breaches of ethical
requirements.
2.4.2
*A third safeguard
category, "created
by the individual"
(e.g. meeting
continuing professional
development
requirements), is now
subsumed within the
other categories.
*Safeguards may
be created in the
workplace if not
created by the
profession, legislation
or regulation.
*When available
safeguards are
not sufficient to
eliminate the threats
to independence or
to reduce them to
an acceptable level,
the only course of
action available will
be the refusal to
perform, or withdrawal
from, the assurance
engagement.
19-11
2.5
Rules v Principles
Solution
19-12
Unethical Behaviour
3.1
Influences
3.2
In the Workplace
*Whether a person
judges these
workplace practices as
ethical or unethical is a
test of the individual's
own ethical values.
19-13
Required:
For each belief, suggest one example of unethical behaviour that could contravene
the code.
Solution
1. Stand up for what you believe is right.
8. Compete fairly.
10. Be honest.
19-14
3.3
19-15
3.4
Applying Kohlberg
You are strongly urged to complete the ACCA Ethics Module before
sitting the examination rather than leaving it till you have completed all
of your examinations. Students who have incorporated the module into
their P1 studies have commented that it enhanced their understanding
of ethics. This module is estimated to take 3.5 hours to complete.
4.1
Definitions
4.1.1
Bribery
19-16
*The function carried out by the recipient of the bribe is one which
usually would be expected to be carried out in good faith, impartially
and from a position of trust. What constitutes an improper
performance is the breach of a relevant expectation that the function
would be performed in the way that it should be.
What makes the UK Bribery Act interesting is that the test of what
would normally be expected is an objective one based on what a
reasonable person in the UK would expectlocal custom is irrelevant.
4.1.2
Corruption
Where corruption
is the misuse of
power for personal
gain, bribery is the
offer of money or
the money required
to get someone to
misuse power. Graft
is the actual payment
to someone who
misuses power.
19-17
Example 6 Corruption
Forms of corruption vary, but they include bribery, extortion, coercion, cronyism, nepotism,
patronage, graft and embezzlement.
Required:
Apart from bribery, briefly describe the meaning of each of the other forms of
corruption given.
Solution
Extortion
Coercion
Cronyism
Nepotism
Patronage
Graft
Embezzlement
19-18
4.2
Impact
Illustration 2 Investing in
Corrupt Countries
For a number of years, two international companies had been
negotiating with a country's various government entities to set up
operations in that country. Both companies intended to provide
significant employment opportunities for the local population where
their outlets would be located. Both also planned to require that the
majority of their suppliers be local organisations, even to the point of
setting up supplier manufacturing processes.
Both companies eventually gave up and moved on. The reasons
they cited included: dominance of national big business interests
in government, who did not want competition for their nearmonopolistic positions, had blocked necessary legal procedures;
"requests" from certain senior government ministers for "donations";
and various facilitation requests from local authorities where their
outlets were to be locatedall of which amounted to at least 15%
of annual turnover. They also cited a lack of trust in the legal
system, in that the country had a history of foreign investors losing
their investments to local interests through the corrupt and dubious
practices of local courts.
19-19
Illustration 3
Impact of the
"Credit Crunch"
"When the tide goes out, you can see those who are swimming naked."
Following the credit crunch, a number of countries turned to the IMF
for loans to keep them afloat and from defaulting. In many of these
countries, external financiers and economists estimate that the real
reason for seeking IMF aid is not the fact of the credit crisis, but
because rampant corruption over the past decade or so resulted in
billions of USD being taken from government funds into undisclosed
offshore accounts. In addition, sales of government-owned assets
at well below market rates to the cronies of those in power also
deprived countries of desperately needed money.
Although the IMF set harsh, but often badly needed, reforms as
conditions for the loans to be made, corruption continues, meaning
that future generations will be paying back capital and interest on
money that had been stolen from the loans by the so called "elite".
4.3
Conflict of Interest
4.4
In the examination,
you will need to be
able to to draw upon a
breadth of knowledge
and understanding of
corporate governance
in answering any
question about bribery
and corruption. You
should read and
analyse carefully each
scenario to identify
potential bribery and
corruption issues.
19-20
4.5
19-21
19-22
*Even if adequate
controls and
procedures are
in place, an
organisation and
its senior managers
would be liable if it
were proved that
senior management
intentionally overrode
the controls or failed
in their duty to
maintain such controls
(including failure to
review and update
controls taking into
accounting emerging
threats and issues).
19-23
4.6
Best Practices
19-24
4.6.1 Proportionality
19-25
4.6.3
Risk Assessment
4.6.4
Due Diligence
19-26
*Remember that
persons/individuals
also includes
listed entities and
partnerships.
4.6.5
4.6.6
and, as with any risk, bribery risk will evolve and change.
Controls currently in place may become ineffective and
need to evolve to effectively mitigate risks. New training
procedures may be needed.
Feedback from training, staff surveys and questionnaires,
"speak up" feedback and known control breakdowns provide
an important source of information.
Internal audit and external bribery and corruption reviews
(conducted by appropriately qualified and experienced bodies)
and assurance are additional sources of review.*
*Organisations which
apply good corporate
governance will,
most likely, have
incorporated all of the
Bribery Act principles
as standard practice.
19-27
Example 7 Scenarios
Consider, for each of the following short scenarios, whether or not they are subject
to the UK Bribery Act.
Solution
1. A UK manager employed by an international company in country A is stopped
by the local police, while driving home late at night from a dinner with clients,
on suspicion of drunken driving. He is able to avoid being breathalysed by
placing $300 for the police officer in his passport. Would it make any difference
if the manager was a local national?
4.7
Implementation Barriers*
4.7.1
Corporate Hospitality
19-28
4.7.2
Gifts
4.7.3
Facilitation Payments
4.7.4
Impact on Competitiveness
4.7.5
*See Illustration 1
about Siemens in
Session 18 and www.
guardian.co.uk/world/
bae, which covers the
BAE Systems bribery
scandal.
19-29
4.7.6
Democracy
4.7.7
Reporting
4.7.8
Proportionality
Under the UK Bribery Act, the Serious Fraud Office will decide
19-30
Session 19
Summary
The ACCA and the AICPA ethical conflict resolution models generally follow the pattern of:
Corruption is the misuse of power for personal gain; bribery is the inducement or payment
for such misuse of power.
Payments required by local law or related to a fast-track service are not considered
facilitation payments and are allowed under the UK Bribery Act. (US law allows facilitation
payments; Asian countries may still allow bribes.)
The UK Bribery Act prevents any kind of bribery by a UK citizen, or anyone acting on behalf
of a UK relevant organisation, anywhere in the world.
19-31
Session 19 Quiz
Estimated time: 20 minutes
Priority
Q28
19-32
Estimated Time
Van Buren Co
Completed
50 minutes
EXAMPLE SOLUTIONS
Solution 1Conflicts With Fundamental Principles
Preparation of Financial Statements
There is a conflict with the fundamental principle of "objectivity" (i.e.
fairness, without prejudice or bias, conflict of interest or influence of
others to override professional or business judgements).
Preparation of financial statements is a management responsibility.
Therefore, if an auditor were to undertake this task he would be
responsible to management/acting in a management capacity. The
auditor could not then be impartial in discharging his responsibility to
make an independent report on financial statements to the shareholders.
Falsification of Records
There is a conflict here with several fundamental principles:
Integritysuch falsification is clearly dishonest.
Solution 2Buyer
19-33
Risk Category
1. Intimidation/(self-interest)
2. Advocacy
3. Self-review
4. Self-interest/(familiarity)
5. Intimidation/(self-interest)
A rules-based approach would set a minimum age (in line with local
law). Ethically, this also would be the principles-based approach in
individual countries (i.e. not to employ anybody below the legal age).
If the rule is based on, say, a minimum age of 17, then under a rulesbased approach any supplier who employs below that age would not
be offered any contracts.
Thus the principles-based approach may set lower age levels for
suppliers in developing countries than those allowed, for example, in
Europe (e.g. age 14 for light work, 16 for harder work and 18 for the
toughest work).*
19-34
It is unethical to hide from a client when a job goes wrong with a job
or a deadline is missed. It is ethical to warn them so that something
can be done about it.
8. Compete Fairly
19-35
10. Be Honest
Solution 6Corruption
Extortion occurs when a person unlawfully obtains either money,
property or services from a person(s), entity or institution through
coercion. In extortion, the victim is threatened to hand over goods
or else damage to their reputation or other harm or violence against
them, their family or business may occur. That is often referred to
euphemistically as "protection" or "insurance".
Coercion is the practice of using threats, rewards, intimidation or any
other incentive to do what is required by the extortionist.
Cronyism is the practice of appointing friends and associates to highlevel, especially political, posts regardless of their suitability. The
individuals are often appointed as a reward for services previously
rendered (or services expected to be rendered) to ensure a friendly face
is in a position of power and will not cause trouble to the appointee or will
carry out the appointee's requirements without question.
Within business, this is often referred to as "crony capitalism", "the old
boys network", "back scratching" or the "yes men" board (where a CEO
appoints board members on the basis of their loyalty to the CEO).
*Although some of
the matters that
are said here to be
illegal may not be in
some jurisdictions,
in the context of
being a professional
accountant, ACCA
might reasonably
expect you to
consider such acts
to be contrary to
law. Consider how
such unethical
behaviour might be
"mirrored" in situations
facing professional
accountants.
19-36
Solution 7Scenarios
1. Subject to UK law. The manager is a UK citizen and even though
the offence is a private matter and does not affect his organisation,
he has broken UK law. Interestingly, it also could be argued that his
action may be of benefit to his organisation as he is able to keep his
driving license and continue to work. In addition, the policeman is a
public official and the payment is designed to change the legal action
of the policeman.
If the manager was a local national (unconnected to the UK) then, as
the incident is a private matter and (probably) does not benefit the
business, it would not be covered by UK law. Again, however, if it can
be construed that the action allows the manger to continue working
and is therefore of benefit to the organisation, UK law would have
been broken if the organisation had business interests in the UK.
2. Not subject to UK law. There is no connection through individuals or
business to the UK.
3. Subject to UK law. The CEO is a UK citizen. The company has UK
business interests. Customs are foreign public officials. The lawyers
are associated to the company. The reply from the lawyers' employee
raises the clear prospect that part (probably the majority) of the
$40,000 will be a facilitation payment.
19-37
Session 20
Financial
(ii) Manufactured
(iii) Intellectual
(iv) Human
(v) Social and relationship
(vi) Natural
b) Describe and assess the social and environmental impacts that economic
activity can have (in terms of social and environmental "footprints" and
environmental reporting).
c) Describe the main features of internal management systems for
underpinning environmental and sustainability accounting such as EMAS
and ISO 14000.
d) Explain and assess the typical content elements and guiding principles
of an integrated report and discuss the usefulness of this information to
stakeholders.
e) Explain the nature of social and environmental audit and evaluate the
contribution it can make to the assurance of integrated reports.
Session 20 Guidance
Understand the "environmental footprint" (s.1.3) and "social footprint" (s.1.4) and how they
are measured.
Read the criteria for sustainability (s.2.2).
Comprehend the nature of and requirements for the Global Reporting Initiative (s.2.4).
Understand the purpose of the integrated reporting framework (s.3.2) and the different definitions of
capital (s.3.3).
Learn the guiding principles (s.3.5) and content elements (s.3.6) for an integrated report.
(continued on next page)
P1 Governance, Risk and Ethics
VISUAL OVERVIEW
Objective: To identify and explain the impact of integrated reporting and sustainability
issues in the context of business.
SUSTAINABILITY
Concept
Criteria for Sustainable
Development
Accounting for Sustainability
Global Reporting Initiative (GRI)
INTEGRATED REPORTING
IIRC
Integrated Framework
Definitions of Capital
Integrated Report
Guiding Principles
Content Elements
Usefulness to Stakeholders
INTERNAL MANAGEMENT
SYSTEMS
Management Systems
Standards
ISO 14001
EMAS
Session 20 Guidance
Learn the main differences between ISO 14001 and EMAS (s.4.3 and s.4.4) on social and
environmental auditing (read the technical article Environmental Accounting and Reporting).
Search company websites (e.g. BP, BT, IKEA, Vodafone and The Body Shop) and review
sustainability, social and environmental reports. Pay particular attention to the form of assurance
reports. The best way to understand is to immerse yourself in the real thing (not Coca-Cola
interesting ethical issues there).
20-1
1.1
Introduction
<
<
1.2
Economic Activity*
<
<
20-2
*Economic activity
has an important
influence on security
prices because of its
interrelationship with
corporate profits,
inflation, interest rates,
etc. At the national
level, one frequently
used measure of
economic activity is
gross domestic product
(GDP).
Observable forms
of economic activity
include money,
consumption,
preferences, buying,
selling and prices.
1.3
*The environmental
footprint is also
referred to as the
"ecological footprint".
<
1.3.1
<
<
<
<
<
<
<
20-3
Illustration 1 A Decision on a
Transport Project
As well as considering the need for fast, safe and efficient
transportation, decision-makers in the current business and
economic environment must take account of the costs of eliminating
or minimising adverse effects such as:
air, noise and water pollution;
destruction or disruption of man-made and natural resources;
community cohesion and the availability of public facilities
and services;
adverse employment effects;
losses to property values;
injurious displacement of people, businesses and farms; and
disruption of desirable community and regional growth.
1.3.2
Measuring EF
EF is not a complete
sustainability
measure.
Illustration 2 Environmental
Footprint
Carbon dioxide emissions in the United Arab Emirates account for
almost 8 of the 9.5 gha per person the country uses. (A sustainable
"earthshare" is estimated to be 1.7 gha.)
20-4
<
20-5
Required:
For each activity suggest TWO strategies to mitigate impacts.
Paper usage: Office/copy paper; bank statements; direct mail; marketing; forms;
financial paper; ATM envelopes and receipts.
Solution
1.
2.
Energy usage:
1.
2.
2.
Buildings:
1.
2.
2.
20-6
1.4
<
<
<
<
*Increasing the
school leaving age
and providing greater
skills training (SF
investment) helps to
ensure that a welleducated workforce is
available for economic
development (capital
increase).
<
20-7
= Equality
= Compatibility
rights.
= Social
< Employment
= Opportunities
= Educational
= Health
= Accessibility
< Liveable
= Quality
< Culture
= Preserving
< Consumer
= Improving
< Security
= Crime
< Governance
= Participation
cohesion
formation
and safety
and social
services
communities
interests
20-8
= Disparities
achievements in the
population;
= Training and lifelong learning
opportunities;
= Skills and learning capability.
of the population;
risks;
= Nutrition, food quality and safety.
= Safety
1.4.2
Interactions
Solution
20-9
Sustainability
2.1
The Concept*
Sustainable development:
< " not a fixed state of harmony, but rather a process of change in
which the exploitation of resources, the direction of investments,
the orientation of technological development and institutional
change are made consistent with future as well as present needs.
"Development that meets the needs of the present without
compromising the ability of future generations to meet their
own needs."
Bruntland report to the World Commission
on Environment and Development, 1987
< "Improving the quality of human life while living within the
carrying capacity of supporting ecosystems."
World Wildlife Fund, 1991
2.2
"from scratch".
Financial viability.
Environmentally friendly, in building and design.
Minimisation of adverse effects on nearby residents.
Protection of native vegetation (e.g. forests, wetlands, fauna).
Constructed on "brownfield sites" (i.e. those previously
used as industrial/commercial sites)leaving "greenfield"
(i.e. undeveloped) land untouched.
Inclusion of effective public transport system for accessibility.
Minimisation of waste with recycling encouraged.
20-10
2.3
<
Advantages
Makes transparent the organisation's
decisions that explicitly consider effects
on the environment and people, as well
as on financial capital.
More informed decision-making as
decision-makers can quantify tradeoffs between different aspects of
sustainability.
Improved relationships with key
stakeholders and improved riskmanagement through consultation.
Specific commercial advantages (e.g.
competitive advantage with customers
suppliers and providers of finance).
Enhancement of reputation and brand.
May result in attracting and retaining
employees with sustainable values.
*Adding governance
to the bottom line
gives rise to the
"Quadruple Bottom
Line" approach.
Disadvantages
There are currently few standards for
measuring these effects.
Usefulness and comparability, as there
is a significant range of disclosure
(content and quality).
The difference between the economic
bottom line and the financial bottom line
is often blurred.
Increase in annual reporting costs
with disproportionate costs for smaller
entities.
Potential exposure to risk and liability
relating to the reliability of the report's
content (unless audit is mandatory).
Potential bias in voluntary presentation
(e.g. including only favourable
information).
20-11
<
2.3.2
<
<
20-12
Illustration 4 Timber
A Scottish timber-growing company sells logs to a mill for onward
sale (e.g. to a paper manufacturer). The company incurs costs of
labour, equipment, repairs, transport, etc. In addition to pesticide
and fertiliser costs, it also incurs replanting and compliance costs
(e.g. maintaining public access, health and safety, habitat protection)
in compliance with legislation/forestry commission standards. These
costs must all be absorbed by increasing the price of timber. Thus
the price of paper already reflects a significant hidden social and
environmental cost.
Issue 1: An Asian company is felling forests using cheaper labour,
with far less rigorous health and safety requirements. Despite higher
transportation costs it competes, effectively, in the European market.
Issues 2: In moving to more sustainable development the Scottish
grower needs to find alternative methods for felling trees and for
transporting them. This will further increase the timber price.
Discussion points:
Who should bear the "burden" of social and environmental
responsibility? (Consider, for example, the seller, consumers,
government, taxpayers.)
Can the risk of price-based competition be overcome?
How can rules of international trade (as overseen by the World
Trade Organisation) contribute to sustainability? (Consider, for
example, "eco-labelling" of products, product taxes, subsidies,
import/export licencing and restrictions, tariffs, trade bans and
prohibited goods.)
Is the Scottish grower's development sustainable?
Should timber/timber products become luxury goods only available
to wealthy society?
20-13
2.4
Reporting Frameworks
2.5
GRI arose from the need to address the failure of the thencurrent governance structures and to respond to changes in the
global economy.*
20-14
2.5.1
Mission
<
2.5.2
Reporting Guidelines
<
Sustainability
reporting"... the
practice of measuring,
disclosing and
being accountable
to internal and
external stakeholders
for organisational
performance towards
the goal of sustainable
development."
GRI Sustainability
Reporting Guidelines
<
<
20-15
<
<
<
<
2.5.3
*Consistency is
a critical element
of comparability.
Maintaining consistency
with the methods used
to calculate data, with
the layout of the report
and with explaining
the methods and
assumptions used to
prepare information,
facilitates comparability
over time.
Standard Disclosures
20-16
2.5.4
Performance Indicators
<
20-17
Solution
1.
2.
3.
20-18
Integrated Reporting
3.1
<
*The framework is
often referred to as
the International
<IR> Framework and
integrated reporting as
<IR>.
20-19
=
=
=
3.2
<
<
<
20-20
3.3
<
<
<
<
3.4
<
20-21
Illustration 8 Transnet
In 2013, Transnet, a company based in South Africa,* issued
an integrated report that is included in the Emerging Integrated
Reporting database, which can be found at http://examples.theiirc.
org/home. In this report, Transnet highlighted the company's
mandate, business model, strategy, governance, performance
review and future outlook. Furthermore, it aims to demonstrate
how Transnet responds to its context, stakeholders, risks and
opportunities in order to create sustainable value for the economy,
society and the environment. Transnet's annual financial statements
and sustainability report are in publications separate from the
integrated report.
3.5
*The Johannesburg
Stock Exchange from
1 March 2010 has
required all listed
companies to adopt
<IR> on an "apply or
explain" basis.
Guiding Principles
20-22
3.6
Content Elements
<
*The International
<IR> Framework
gives greater detail
on each content
element and question
(e.g. organisational
overview means
culture, ethics, values,
ownership, operating
structure, competitive
landscape, etc).
20-23
3.7
Usefulness to Stakeholders
<
20-24
*This is impossible
because different
stakeholders have
different information
needs.
4.1
Management Systems
Plan
Review/Act
Do
Check
<
<
20-25
4.2
Standards
20-26
4.3
ISO 14001
4.3.1
Requirement
<
4.3.2
4.4
4.4.1
Objective
20-27
4.4.2
COMPANY/SITE
Environmental
Environmental review
Environmental
programme
Environmental
objectives
EMS
Environmental audit
Environmental statement
Registration
Statement of participation
20-28
4.4.3
Requirements
<
<
<
<
<
<
<
<
<
4.4.4
*Certification (or
validation in the
EMAS system) is the
successful result of a
procedure whereby
a third party gives
written assurance that
compliance against a
clearly defined standard
has been achieved.
20-29
<
<
20-30
5.1
Report Format
Illustration 9 Traidcraft
Established in 1979, Traidcraft combines a trading company and a
development charity. Its mission is "to fight poverty through trade,
practising and promoting approaches to trade that help poor people
in developing countries transform their lives".
Traidcraft's social accounts attempt to show both what it is
achieving and what its various stakeholders think about the way it
works with them.
Every year as part of its commitment to stakeholder engagement,
Traidcraft gathers the views of stakeholders about its performance
through surveys, interviews and focus groups.
Its stakeholders include employees, producers, donors (institutional
and public), fair traders, beneficiaries, campaigners, shareholders,
suppliers, mail-order customers, retail customers and wholesalers.
2011 Goals
Full details of the organisation's goals, together with its social
report, can be found at www.traidcraft.co.uk
ASSURANCE STATEMENT
Traidcraft[1] commissioned justassurance[2] to undertake independent
assurance of its 2010/11 Social Accounts ('the Report'). justassurance
was paid 16,800 for this work. justassurance has no other
relationships with Traidcraft that might compromise its independence.
The assurance process was conducted in accordance with AA1000AS
(2008). We were engaged to provide Type 2 moderate[3] assurance,
covering:
evaluation of adherence to the AA1000APS (2008) principles of
inclusivity, materiality and responsiveness (the Principles)
the reliability of key performance claims.
We were engaged to provide high level assurance on Developing
World Purchases performance information.
We used the Global Reporting Initiative (GRI) Quality of Information
Principles as Criteria for evaluating performance information and
relied on audited financial information.
Responsibilities of the directors of Traidcraft and of the
assurance providers
The directors of Traidcraft have sole responsibility for the preparation
of the Report. Our statement represents our independent opinion
and is intended to inform all of Traidcraft stakeholders including
management. We adopt a balanced approach towards all Traidcraft
stakeholders.
We were not involved in the preparation of any part of the Report.
We have no other contract with Traidcraft and this is the fourth year
that we have provided assurance.
Our team comprised Mark Line, Adrian Henriques and Sini Forssell[4].
Basis of our opinion
Our work was designed to gather evidence with the objective of
providing assurance as defined in AA1000AS (2008).
To prepare this statement, we reviewed the scope of the Social
Accounts, assessed areas of risk, interviewed managers, scrutinised
the Social Accounts, the underlying data and documents and
considered the efficacy of the management systems. We provided
some feedback to Traidcraft on aspects of drafts of the Social
Accounts and where necessary, changes were made.
20-31
Illustration 9 Traidcraft
(continued)
20-32
Illustration 9 Traidcraft
(continued)
AA1000
[2]
[3]
[4]
20-33
5.2
Audit Approach
5.2.1
Prepares
Evaluates subject
matter using
appropriate standards
and methodologies,
e.g. ISAE when issuing
an assurance report
CSR sustainability
report
Assures by issuing
appropriate report
Stakeholders
20-34
External provider of
assurance
5.2.2
*Remember that a
financial statement
auditor must review
other information
sent with the financial
statements. This
will include the
environmental report,
so providing assurance
on such reports will
include reconciling
relevant information
to/from the financial
statements and
other reports (e.g.
chairman's statement,
operational reports).
20-35
Agree to terms
of engagement
Understand the
entity and its
environment
Form opinion
(Assurance
report)
Documentation
Obtain
management
representations
Plan
Review
Substantiate
principles, management
approach, parameters,
performance indicators,
assumptions and other
disclosures
5.3
Reliance on control
effectiveness
<
20-36
Session 20
Summary
<
EF concerns the equivalent land in global hectares that can produce renewable resources
used by the company during a reporting period.
<
<
SF deals with the impact of processes on people and communities measured through capital
created by people (anthro capital). Anthro capital encompasses human capital, social
capital and constructed capital.
<
Sustainability means meeting the needs of the present without compromising the ability of
future generations to meet their own needs.
<
<
The Framework provides principles and content elements that shape the information provided and explain why that information is important.
An integrated report is a concise communication on how strategy, governance, performance and prospects lead to the creation of value.
EMASsimilar to ISO 14001 except that it requires a greater degree of public disclosure
and verication of compliance with environmental law.
<
Social and environmental auditfocuses more on how the organisation communicates with
stakeholder groups and meets their needs.
<
Standard audit approachplan, do, report. The approach will usually follow the
requirements of ISAE 3000 Assurance Engagements Other Than Audits or Reviews of
Historical Financial Information or AccountAbility's AA 1000 series of standards.
20-37
Session 20 Quiz
Estimated time: 20 minutes
1.
2.
3.
4.
True or False? In addition to the costs of running a business, full cost accounting also
considers environmental and social costs. (2.3.4)
5.
6.
7.
8.
9.
10. Explain the key differences between ISO 14001 and EMAS. (4)
11. Describe social auditing. (5)
Priority
Q29
Estimated Time
PAIB
Completed
50 minutes
Additional
Q30
20-38
Unsustainable Behaviour
EXAMPLE SOLUTIONS
Solution 1Mitigating Strategies
Paper usage
Energy usage
Transportation
Buildings
Water usage
20-39
<
<
<
<
<
<
<
<
<
Lighting retrofits (e.g. replacing standard light bulbs with low energy
bulbs, adding reflectors and removing unnecessary lamps).
<
<
<
<
<
<
<
<
<
High-performance/green building.
<
<
<
<
<
Traffic bans (e.g. on certain days of the week, between specified times).
<
<
<
<
Creating "low emission zones" (LEZ) which ban vehicles that do not
meet emission criteria. The aim is to improve air quality by deterring
the most polluting vehicles from driving in the area. (Although
London introduced an LEZ in 2008, such schemes have been in place
in Sweden since 1996.)
2.
Percentage of employees (split between management and nonmanagement) trained in the organisation's ant-corruption policies
and procedures (in total and during year).
3.
20-40
NOTES
20-41
Index
A
C
Cadbury Report ................................ 6-11
Capital .......................................... 20-21
Carroll, Archie .................................. 7-12
Categorical imperative .................... 15-10
Cause-related marketing .....................7-9
CCMF, See Corporate Citizenship
Manangement Framework
CDOs, See Collateralized debt obligations
Center for Sustainable Innovation ....... 20-9
CEO, See Chief executive officer
CFO, See Chief financial officer
Chairman of the board ........................3-9
Chartered Institute of Public Finance and
Accountancy (CIPFA) ................. 17-11
Becker Professional Education | ACCA Study System
Session 21 Index
Corporate culture
defined ....................................... 16-15
risk management ........................... 13-5
Corporate governance .........................6-2
best practice ...................................1-5
bribery and corruption .................. 19-20
corporate social responsibility .......... 7-16
definition ........................................1-4
directors' remuneration ....................5-3
ICGN...................................... 5-5, 6-20
King Report............................. 1-12, 3-2
OECD ........................................... 6-16
principles-based approach.................6-4
Requirements of the code .................4-4
Sarbanes-Oxley Act ............... 6-13, 11-7
Turnbull Guidance ................... 11-2, 12-4
UK Corporate Governance
Code .............................1-6, 3-2, 6-10
Corporate hospitality ....................... 19-28
Corporate social responsibility
seven positions.............................. 16-2
Corporate social responsibility (CSR)
Carroll's pyramid ..................7-12, 16-13
corporate citizenship ...................... 7-18
strategy .................................. 7-2, 7-6
Corruption ..................................... 19-17
COSO Framework ....................... 9-5, 13-4
See also Enterprise Risk Management
Integrated Framework
Country risks ................................. 12-25
CPD, See Continuing professional
development
Creating shared value (CSV) ................7-7
Credit crunch ................................. 19-20
Credit risk ..................................... 12-14
Criteria of Control framework, See CoCo
framework
CRO, See Chief risk officer
CSR, See Corporate social responsibility
CSR strategy .....................................7-6
Cultural frames .............................. 16-12
Cultural web .................................. 16-16
D
Decisions....................................... 13-19
Deep ecologists ................................ 16-4
Deontological approach ................... 15-11
Derivative risk................................ 12-23
Directors, See also Non-executive directors
board .............................................3-2
disqualification ................................3-6
internal stakeholders ...................... 2-17
remuneration ..................................5-2
service contracts .............................3-5
Disclosure, See also Reporting
by directors ....................................3-6
21-1
Session 21 Index
21-2
G
Gifts.............................................. 19-29
Global Reporting Initiative
(GRI).............................. 20-14, 20-16
governance......................................8-2
OECD............................................ 6-17
voluntary.........................................8-5
Golden parachutes....................... 2-4, 5-15
Good interpersonal relationships.......... 15-6
Governance codes...............................6-4
See alsoUK Corporate Governance Code
Greenbury Report.............................. 6-11
GRI, SeeGlobal Reporting Initiative
Guiding principles............................ 20-22
H
Hampel Report.................................. 6-12
Higgs Report....................... 3-17, 4-7, 6-12
High Pay Commission......................... 5-21
Honesty.............................................1-9
Hospitality...................................... 19-28
Human capital................................... 20-7
Human dignity................................ 15-11
Human rights............................ 7-13, 20-8
Hypothetical imperatives.................. 15-10
I
IBE, SeeInstitute of Business Ethics
ICSA, SeeInstitute of Chartered
Secretaries and Administrators
IFAC, SeeInternational Federation
of Accountants
IIA, SeeInstitute of Internal Auditors
Illegitimate stakeholders.................... 2-13
IMS, SeeIntegrated Management
Systems
Incentive contracts..............................2-5
Independence............................. 1-8, 3-19
Session 21 Index
J
Johnson and Scholes................. 12-10, 16-5
Judgement....................................... 1-10
K
Kant, Immanuel.............................. 15-10
King Report on Corporate
Governance........................... 1-12, 3-2
Kohlberg's stages of moral
development............................... 15-4
L
Laura Nash Model............................ 15-17
Leadership
board............................................ 1-21
corporate governance...................... 1-12
Leeson, Nick................................... 10-11
Legal risk....................................... 12-17
Legitimate stakeholders..................... 2-13
Lions Club International................... 17-11
Lip service...................................... 19-29
Liquidity risk................................... 12-15
Listed companies............................... 1-12
Listing rules.................................... 11-10
Locus of control................................. 16-9
London Stock Exchange.......... 1-3, 2-21, 5-2
Long-term shareholder interests.......... 16-6
Loyalty bonus................................... 5-10
M
Madoff, Bernard................................ 17-6
Management
boards.......................................... 3-14
control(s)........................................9-2
systems...................................... 20-25
Mandatory disclosure...........................8-4
Market risk..................................... 12-13
Marks & Spencer (M&S).............. 3-12, 18-8
Mendelow, Aubrey L........................... 2-15
Microsoft.......................................... 18-4
Monitoring
activities........................................ 9-13
bribery risk.................................. 19-27
controls......................................... 9-11
Turnbull Guidance........................... 11-5
Moral intensity................................ 16-10
Morality............................................ 15-5
Myners Report.................................. 8-11
21-3
Session 21 Index
N
Narrow stakeholders.......................... 2-12
National Audit Office........................ 17-11
National culture................................. 16-8
National Forum for Risk Management in the
Public Sector (ALARM).................. 13-3
NEDs, SeeNon-executive directors
NGOs, SeeNon-governmental
organisations
Nominations committee........................4-6
Non-executive directors (NEDs)........... 3-17
audit committee........................... 10-11
defined............................................3-8
remuneration................................. 5-16
Tyson Report.................................. 3-18
Non-governmental organisations (NGOs)....
1-20
Non-listed (private) companies............ 1-13
Non-probabilistic modelling............... 13-13
Normative approach.......................... 2-11
O
Objectivity
auditors......................................... 10-5
fundamental princple..................... 18-14
risk management.......................... 13-16
standards in public life..................... 1-18
OECD, SeeOrganisation for Economic
Co-operation and Development
Openness...........................................1-6
Operational decisions....................... 13-19
Operational risk............................... 12-11
Organisational
culture........................................ 16-12
field............................................ 16-12
structure...................... 13-6, 14-4, 16-18
Organisation for Economic Co-operation
and Development (OECD)............. 6-16
corporate governance........................1-4
Guidelines for Multinational
Enterprises................................. 7-17
Outsider systems.................................6-9
P
Passive stakeholders.......................... 2-12
PCAOB, SeePublic Company Accounting
Oversight Board
Performance
appraisal....................................... 3-25
bonus.............................................5-8
indicators.................................... 20-16
management.................................. 3-17
21-4
Q
Quality Management Systems
(QMS)...................................... 20-25
Quango............................................ 1-22
R
Radical feminists............................... 16-4
Recognised stakeholders.................... 2-13
Regulators........................................ 2-20
Regulatory risk................................ 12-17
Relativism........................................ 15-3
Remuneration
committee.......................................4-3
directors..........................................5-2
Reporting...........................................8-2
See alsoDisclosure
bribery and corruption................... 19-30
external........................................ 12-8
Global Reporting Initiative (GRI)..... 20-15
Reputation risk.........................1-11, 12-20
Residual
costs...............................................2-5
loss................................................2-2
risk reporting................................. 13-3
Responsibility
board............................................ 6-19
CEO.............................................. 6-14
corporate governance........................1-9
corporate social................................7-2
directors..........................................3-3
external audit........................ 10-13, 11-9
fiduciary..........................................2-3
FRC.............................................. 17-8
internal audit............................... 10-12
management................................ 14-11
social.................................... 1-12, 16-2
Retirement benefits.............................2-4
Risk................................................. 12-2
appetite................................. 13-5, 14-2
auditing....................................... 14-14
business..........................................9-8
business probity........................... 12-22
capacity........................................ 14-2
committee.......................................4-8
manager...................................... 14-13
strategic...................................... 12-11
TARA........................................... 14-16
tolerance....................................... 14-2
Risk assessment
bribery risk.................................. 19-26
COSO Framework..................... 9-7, 13-4
Turnbull Guidance........................... 11-3
Risk management, See alsoEnterprise Risk
Management Integrated Framework
benefits......................................... 12-6
board of directors......................... 14-11
committee................................... 14-12
internal control......................... 9-2, 11-6
management control.........................9-4
manager...................................... 14-13
process......................................... 13-2
S
Sadgrove, Kit.................................... 12-3
Sarbanes-Oxley Act (2002)
corporate codes.............................. 18-3
internal control............................... 11-7
PCAOB.................................. 6-13, 17-7
Scepticism..........................................1-7
Schein's framework......................... 16-18
Secondary stakeholders..................... 2-12
Secretariat....................................... 1-14
Sector-specific risk.......................... 12-13
Self-interest...................................... 10-6
Selflessness...................................... 1-18
Self-review....................................... 10-7
Self-review threat............................ 19-10
Senior independent director................ 3-10
Service contracts.................................3-5
Shapers of society............................. 16-7
Session 21 Index
Shareholders
as stakeholders.............................. 2-19
interests........................................ 16-6
meetings.........................................8-7
resolutions.......................................2-6
rights............................................ 6-18
Share options................................... 5-11
SIA, SeeSocial impact assessment
Small investors................................. 2-23
Social and environmental audits........ 20-30
Social contract
individual rights.............................. 15-7
proponents.................................... 16-3
Social ecologists................................ 16-3
Social impact assessment (SIA)........... 20-7
Socialists.......................................... 16-3
Social reporting................................. 7-10
Social responsibility................... 1-12, 16-1
See alsoCorporate social
responsibility (CSR)
Social rights..................................... 7-19
Solomon, Jill.......................................1-4
Solomon v Solomon.............................1-3
South Sea Bubble................................1-3
Stakeholder risk................................ 2-15
Stakeholders
corporate code of ethics................... 18-6
corporate social responsibility........... 7-15
impact of risk............................... 13-17
OECD............................................ 6-17
roles............................................. 2-17
Stakeholder theory..............................2-9
Strategic
CSR................................................7-2
decisions..................................... 13-19
objectives.............................. 4-11, 13-8
risk............................................. 12-10
Strategic CSR.....................................7-7
Subordinated debt............................. 5-15
Sub-prime crisis.............................. 17-18
Sub-prime mortgage market............. 12-14
Supervisory boards............................ 3-15
Supply chain codes of ethics............. 18-10
Sustainability.................................. 20-10
Carroll's model............................... 7-12
Sustainability reporting.................... 20-15
Systematic risk............................... 12-13
21-5
Session 21 Index
W
Work roles...................................... 16-12
WorldCom........................................ 5-14
U
UK Bribery Act................................ 19-21
UK Corporate Governance
Code...................... 1-3, 3-2, 6-10, 11-2
agency problem................................2-4
audits..................................5-19, 11-10
corporate social responsibility........... 7-16
listed companies..................... 1-12, 2-21
nominations committee.....................4-6
remuneration committee....................4-4
remuneration of directors..................5-3
risk management............................ 12-8
UK Stewardship Code................. 2-23, 8-12
Unethical behaviour......................... 19-13
Unitary boards.................................. 3-13
Universality.................................... 15-11
Utilitarianism.................................. 15-13
21-6
Accounting
Project Management
Healthcare
This ACCA Study System has been reviewed by ACCA's examining team and includes:
t
An introductory session containing the Syllabus and Study Guide and approach to examining the
syllabus to familiarise you with the content of this paper
t
t
t
Visual overviews
t
Denitions of terms
t
t
t
Key points
t
Exam advice
t
Commentaries
t
Session summaries
t
End-of-session quizzes
t
A bank of questions
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