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Notes for Governance, Risk and Ethics (P1)

Aug 27, 2014

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carl-burch

These review notes are for ACCA P1 exam. Hope they help! ! !

REVIEW MATERIAL forACCA P1 Governance, Risk and EthicsCarl R. Burch 4/26/2012

I put together these P1 notes when studying for the exam. Thought that it would be good to share them with you. Good luck with your Exam. If you have comments or questions you can reach me at the following email addess: [email protected] |Page

Table of Contents A. Governance and Responsibility .................................................................................... 11. 2. 3. 4. 5. 6. 7. 8. 1. 2. 3. 4. THE SCOPE OF GOVERNANCE...............................................................................................................1 AGENCY RELATIONSHIP AND THEORIES ...............................................................................................7 THE BOARD OF DIRECTORS ...............................................................................................................13 BOARD COMMITTEES .........................................................................................................................23 DIRECTORS REMUNERATION .............................................................................................................26 DIFFERENT APPROACHES TO CORPORATE GOVERNANCE ....................................................................29 CORPORATE GOVERNANCE AND CORPORATE SOCIAL RESPONSIBILITY ...............................................39 GOVERNANCE: REPORTING AND DISCLOSURE ....................................................................................41 MANAGEMENT CONTROL SYSTEMS IN CORPORATE GOVERNANCE......................................................47 INTERNAL CONTROL, AUDIT AND COMPLIANCE IN CORPORATE GOVERNANCE ...................................55 INTERNAL CONTROL AND REPORTING ................................................................................................62 MANAGEMENT INFORMATION IN AUDIT AND INTERNAL CONTROL .....................................................64

B. Internal Control and Review ...................................................................................... 47

C. Identifying and Assessing Risk................................................................................... 671. RISK AND THE RISK MANAGEMENT PROCESS ......................................................................................67 2. CATEGORIES OF RISK .........................................................................................................................68 3. IDENTIFICATION, ASSESSMENT AND MEASUREMENT OF RISK .............................................................74

D. Controlling and Managing Risk ................................................................................. 791. TARGETING AND MONITORING OF RISK ..............................................................................................79 2. METHODS OF CONTROLLING AND REDUCING RISK .............................................................................80 3. RISK VOIDANCE, RETENTION AND MODELING ....................................................................................82

E. Professional Values and Ethics .................................................................................. 861. 2. 3. 4. 5. 6. 7. ETHICS THEORIES ..............................................................................................................................86 DIFFERENT APPROACHES TO ETHICS AND SOCIAL RESPONSIBILITY ....................................................89 PROFESSIONS AND THE PUBLIC INTEREST ...........................................................................................93 PROFESSIONAL PRACTICE AND CODES OF ETHICS ...............................................................................96 CONFLICTS OF INTEREST AND THE CONSEQUENCES OF UNETHICAL BEHAVIOR ...................................98 ETHICAL CHARACTERISTICS OF PROFESSIONALISM ..........................................................................105 SOCIAL AND ENVIRONMENTAL ISSUES IN THE CONDUCT OF BUSINESS AND ETHICAL BEHAVIOR. .....106

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A.

Governance and Responsibility

1. The Scope of Governancea) Define and explain the meaning of corporate governance. Definition: The OECD says corporate governance is a: set of relationships between a companys directors, its shareholders and other stakeholders. structure through which the objectives of the company are set, and the means of obtaining these objectives and monitoring performance. The IIA says governance is: the system by which a company is controlled and directed. Governance includes the rules and procedures for making decisions on corporate affairs to ensure success while maintaining the right balance with stakeholders interest. Governance is the leadership and direction given to a company so that it can achieve the objectives of its existence. Note: Important points are boxed.

Cadbury Report of 1992 said: Corporate Governance is the system by which organizations are directed and controlled. Explain the meaning of governance: Governance is the leadership and direction given to a company so that it achieves the objectives of its existence. Management is about making business decisions: governance is about monitoring and controlling decisions. Governance is not about formulating business strategy for the company. However, the responsibility of the board and senior managers for deciding strategy is an aspect of governance. The company will have improved risk management system. There will be clear accountability for executive decision making. It focuses management attention on introducing appropriate systems of internal control. It encourages ethical behavior and a CSR (Corporate Social Responsibility) perspective. It can help safeguard the organization from the misuse of assets and possible fraud. It can help to attract new investment into a company.1|Page

Benefits to having GOOD corporate governance processes:

Seeks to put limits on excessive director remuneration. It could develop an excessively risk adverse culture amongst mangers. There could be too much reporting and not enough time to seek and pursue profit making activities. It could damper entrepreneurial activities. There could be too much excessive supervision, red tape and bureaucracy. The cost of operating internal controls exceeds any possible benefits. There is the possibility that the focus on meeting different stakeholder expectations will confuse management as to their corporate responsibilities.

Downside to governance:

b) Explain, and analyze the issues raised by the development of the joint stock company as the dominant form of business organization and the separation of ownership and control over the business activity. Joint stock companies have multiple shareholders. The shareholders own the company but generally do not run the company. There is a separation of ownership and control. In order to maintain control over the company, shareholders elect a board of directors who have oversight authority. The board then hires the CEO who is then responsible for putting together the management team to run the company. Since management does not have a vested interest in the company, they might not care as much whether the objectives of the company are met.

c) Analyze the purposes and objectives of corporate governance. Purpose of Governance: The purpose of corporate governance is to facilitate the effective, entrepreneurial and prudent management that can deliver the long-term success of the company. Good corporate governance should contribute to better company performance by helping a board discharge its duties in the best interest of the shareholders. If it is ignored, the consequences may well be vulnerability or poor performance. Good governance should facilitate efficient, effective and entrepreneurial management that can deliver shareholder value over the longer term.

d) Explain, and the apply in context of corporate governance, the key underpinning concepts of: i. ii. iii. Honestly/probity Be honest that statements about the company are truthful. Not putting a spin on the facts. Accountability The emphasis is the managers accountability to the shareholders, but also accountable to other possible stakeholders. Independence The emphasis is making sure that there are truly nonexecutive directors on the board who are free to critique the job performance of management. Independence is not having a conflict of interest issue. Responsibility The board has a responsibility to oversee the work on management. The board should also retain responsibility for certain key2

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decisions, such as setting strategic objectives and approving critical capital investments. v. Decision making / judgment All directors are expected to have sound judgment and to be objective in making their judgments. The OECD says the board should be able to exercise judgment on corporate affairs independent, in particular, from management. Reputation A companys reputation, if good, is built on success and management competence. However, it might take years for a company to gain its reputation and only a day for it to get ruined. Companies that are badly governed can be at risk of losing goodwill from investors, employees and customers. Integrity This is similar to honestly, but it also means behaving in accordance with high standards of behavior and a strict moral or ethical code of conduct. This means doing the right thing. Being a straight shooter. Fairness This means that all shareholders should receive fair treatment from the directors (one share one vote). This also means taking into account the other stakeholders of the company, such as suppliers, creditors, employees, local community, etc. Transparency / openness This means not hiding anything. Transparency means clarity. This inv