Week6-CorporateGovernance

8/8/2019 Week6-CorporateGovernance

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Corporate GovernanceCorporate Governance

Week 6Week 6


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Define Corporate GovernanceDefine Corporate Governance

"a process by which the owners and creditors"a process by which the owners and creditors

of an organization exert control and requireof an organization exert control and require

accountability for the resources entrusted toaccountability for the resources entrusted to

the organization. The owners (shareholders)the organization. The owners (shareholders)

elect a board of directors to provideelect a board of directors to provide

oversight of the organization's activities"oversight of the organization's activities"


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Accountability/ResponsibilityAccountability/Responsibility

ShareholdersShareholders

Board of DirectorsBoard of Directors

ManagementManagement

Operating managementOperating management

ElectElect

EmpowerEmpower

EngageEngage

Responsibility

Responsibility

Accounta

bility

Accounta

bility


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Primary parties involved inPrimary parties involved in

corporate governancecorporate governance

ShareholdersShareholdersBoards of DirectorsBoards of DirectorsAudit Committees of the BoardAudit Committees of the BoardManagementManagement

Self-Regulatory Accounting Organizations (e.g.Self-Regulatory Accounting Organizations (e.g.MIA, MASB)MIA, MASB)

Other Self-Regulatory Organizations (e.g.Other Self-Regulatory Organizations (e.g.KLSE/BM, MESDAQ)KLSE/BM, MESDAQ)

Regulatory Agencies (e.g. Securities Commission)Regulatory Agencies (e.g. Securities Commission)

External AuditorsExternal AuditorsInternal AuditorsInternal Auditors


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Board of Directors Failure in CGBoard of Directors Failure in CG

Responsibility:Responsibility:Directly accountable to shareholdersDirectly accountable to shareholders

Failures:Failures:

Inadequate oversight of managementInadequate oversight of managementApproval of mgts compensation plans, espApproval of mgts compensation plans, esp

those which include share optionsthose which include share optionsElection of directors which are notElection of directors which are not

independentindependent Insufficient time in performing dutiesInsufficient time in performing dutiesContinually repriced share options whenContinually repriced share options when

market price declinedmarket price declined


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Management Failure in CGManagement Failure in CG

Responsibility:Responsibility:Operations & accountability - formulatingOperations & accountability - formulating

strategy & risk, implementing internal controls,strategy & risk, implementing internal controls,financial & other reports to stakeholdersfinancial & other reports to stakeholders

Failures:Failures:Earnings management to meet analystsEarnings management to meet analysts

expectationsexpectations

Fraudulent financial reportingFraudulent financial reporting

Pushing accounting concepts to achievePushing accounting concepts to achievereporting objectivereporting objective

Viewed accounting as a tool, not a framework,Viewed accounting as a tool, not a framework,for accurate reportingfor accurate reporting


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Audit Committee Failure in CGAudit Committee Failure in CG

Responsibility:Responsibility:Oversight of internal & external auditOversight of internal & external audit

function & the preparing of annual FS &function & the preparing of annual FS &public reports on internal control.public reports on internal control.

Failures:Failures:No expertise or time to provide effectiveNo expertise or time to provide effective

oversightoversight

Were not viewed by the auditor as the auditWere not viewed by the auditor as the auditclient. The power to hire/fire often restedclient. The power to hire/fire often restedwith the management.with the management.


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Self-regulatory accountingSelf-regulatory accounting

organisations Failure in CGorganisations Failure in CG

Responsibility:Responsibility:Setting accounting/auditing standards thatSetting accounting/auditing standards that

determine underlying financial reporting/determine underlying financial reporting/auditing concepts, set expectations of audit &auditing concepts, set expectations of audit &

accounting qualityaccounting quality

Failures:Failures:Too rule-oriented in response to complexToo rule-oriented in response to complex

economic transactionseconomic transactions


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Other self-regulatory organisationsOther self-regulatory organisations

(KLSE/BM, MESDAQ)(KLSE/BM, MESDAQ)

- Failure in CG- Failure in CG

Responsibility:Responsibility:Ensuring efficiency of the financial markets,Ensuring efficiency of the financial markets,

including oversight of trading & companiesincluding oversight of trading & companiesthat are allowed to trade on the exchangethat are allowed to trade on the exchange

Failures:Failures:Pushed for improvements for better CG byPushed for improvements for better CG by

its members, but failed to implement thoseits members, but failed to implement thosesame procedures for its governing board &same procedures for its governing board &managementmanagement


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Regulatory agencies Failure in CGRegulatory agencies Failure in CG

Responsibility:Responsibility:Ensuring accuracy, timeliness & fairness ofEnsuring accuracy, timeliness & fairness of

public reporting of financial & other info forpublic reporting of financial & other info forplcsplcs

Failures:Failures: Identified problems but not provided withIdentified problems but not provided with

sufficient resources by Govt to deal with thesufficient resources by Govt to deal with the

issuesissues


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External auditors Failure in CGExternal auditors Failure in CG

Responsibility:Responsibility:Performing audits of FS to ensure that they arePerforming audits of FS to ensure that they arefree of material misstatements, including those thatfree of material misstatements, including those thatmay be due to fraudmay be due to fraud

Failures:Failures:Pushed accounting concepts to help orgns boostPushed accounting concepts to help orgns boost

earningsearningsPromoted personnel based on ability to cross-sellPromoted personnel based on ability to cross-sellFailed to uncover basic frauds, e.g. Worldcom &Failed to uncover basic frauds, e.g. Worldcom &

HealthSouth because fundamental auditHealthSouth because fundamental auditprocedures were not performedprocedures were not performed


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Internal auditors Failure in CGInternal auditors Failure in CG

Responsibility:Responsibility:Performing audits of companies for compliancePerforming audits of companies for compliancewith company policies & laws, efficiency audits,with company policies & laws, efficiency audits,audits to determine accuracy of financialaudits to determine accuracy of financialreporting processreporting process

Failures:Failures:Focused efforts on operational audits & leftFocused efforts on operational audits & left

financial reporting to external auditorsfinancial reporting to external auditors

Reported results to management with littleReported results to management with littleeffective reporting to audit committeeeffective reporting to audit committee

In some instances (Worldcom, HealthSouth),In some instances (Worldcom, HealthSouth),did not have access to the corporate FSdid not have access to the corporate FS


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What are SEC concerns regardingWhat are SEC concerns regarding

the auditing profession? (US)the auditing profession? (US)

Auditors were no longer willing toAuditors were no longer willing to

confront clients over questionableconfront clients over questionable

accounting practicesaccounting practices Consulting fees were impairing auditorConsulting fees were impairing auditor

independenceindependence

Accountants were using technicalAccountants were using technicalinterpretations of GAAP to push theinterpretations of GAAP to push the

limits of accountinglimits of accounting


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What are the Public Oversight BoardWhat are the Public Oversight Board

(POB) concerns? (US)(POB) concerns? (US)

Analytical procedures used inappropriately toAnalytical procedures used inappropriately to

replace direct tests of account balancesreplace direct tests of account balances Audit firms not thoroughly evaluating internalAudit firms not thoroughly evaluating internal

control and applying substantive procedures tocontrol and applying substantive procedures toaddress weaknesses in controladdress weaknesses in control

Audit documentation, especially related to auditAudit documentation, especially related to audit

planning, did not meet professional standardsplanning, did not meet professional standards Auditors ignored warning signs of fraud and otherAuditors ignored warning signs of fraud and other

problemsproblems Auditors were not providing sufficient warningAuditors were not providing sufficient warning

about companies that might not continue as 'goingabout companies that might not continue as 'going

concerns'concerns'


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Sarbanes-Oxley Act 2002 Sarbanes-Oxley Act 2002

PCAOBs authority & powers (US)PCAOBs authority & powers (US)

Establishes the Public Companies Accounting Oversight BoardEstablishes the Public Companies Accounting Oversight Board(PCAOB) with broad authority, including the power to set(PCAOB) with broad authority, including the power to setauditing standards for audits of plcsauditing standards for audits of plcs

Authority & powers:Authority & powers: Set auditing standards - the PCAOB has chosen to set auditingSet auditing standards - the PCAOB has chosen to set auditing

standardsstandards

Set financial accounting standards - the PCAOB has chosen toSet financial accounting standards - the PCAOB has chosen tolet the FASB continue to set accounting standardslet the FASB continue to set accounting standards

Set standards for the reports on internal control and riskSet standards for the reports on internal control and riskmanagementmanagement

Perform quality reviews of public accounting firms andPerform quality reviews of public accounting firms andrecommend penalties if the firms fail to performrecommend penalties if the firms fail to perform

Establish quality control standards for the audits of publicEstablish quality control standards for the audits of publiccompaniescompanies

Require all public accounting firms that audit plcs to registerRequire all public accounting firms that audit plcs to registerwith the PCAOB and become licensed to perform such auditswith the PCAOB and become licensed to perform such audits


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SOX - auditor independence provisions?SOX - auditor independence provisions?

Prohibits audit firms from performing consulting workProhibits audit firms from performing consulting work

for their audit clients (in most cases)for their audit clients (in most cases) Makes the Audit Committee the auditor's clientMakes the Audit Committee the auditor's client Requires the Audit Committee to pre-approve any non-Requires the Audit Committee to pre-approve any non-

audit services by the audit firm, e.g. tax planningaudit services by the audit firm, e.g. tax planning Audit engagement partners, as well as other partnersAudit engagement partners, as well as other partners

and managers with significant roles in the audit, must beand managers with significant roles in the audit, must be

rotated off the engagement every 5 years for plcsrotated off the engagement every 5 years for plcs A "cooling off" period before an audit partner orA "cooling off" period before an audit partner or

manager can take a high-level position with an auditmanager can take a high-level position with an auditclient without jeopardizing the independence of theclient without jeopardizing the independence of the

public accounting firmpublic accounting firm Auditors must report on internal controlsAuditors must report on internal controls


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SOX - ManagementSOX - Management

Requires the CEO and CFO to certify the accuracy ofRequires the CEO and CFO to certify the accuracy of

the financial statements and provides criminalthe financial statements and provides criminal

penalties for misrepresentationpenalties for misrepresentation

Requires management to describe whether they haveRequires management to describe whether they haveimplemented a Corporate Code of Conductimplemented a Corporate Code of Conduct Requires management to report on the effectiveness ofRequires management to report on the effectiveness of

internal control over financial reportinginternal control over financial reporting Increased disclosure of "off-balance sheet"Increased disclosure of "off-balance sheet"

transactions or agreements that may have a materialtransactions or agreements that may have a materialeffecteffect


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SOX Audit CommitteesSOX Audit Committees

All PLCs must have a fully independent Audit CommitteeAll PLCs must have a fully independent Audit Committee Is designated as the audit clientIs designated as the audit client Has oversight responsibilities over the internal audit andHas oversight responsibilities over the internal audit and

financial reporting processesfinancial reporting processes Must be comprised of "outside" directors, i.e. not members ofMust be comprised of "outside" directors, i.e. not members of

management or have other relationships with the organizationmanagement or have other relationships with the organization Must have at least 1 person who is a financial expert. OtherMust have at least 1 person who is a financial expert. Other

members must be knowledgeable in financial accounting andmembers must be knowledgeable in financial accounting and

controlcontrol Must report on its activities to public, including the results ofMust report on its activities to public, including the results of

significant discussions with the external auditorsignificant discussions with the external auditor


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SOX - Audit committee responsibilitiesSOX - Audit committee responsibilities

Be appraised of all significant accounting decisionsBe appraised of all significant accounting decisionsmade by managementmade by management

Be appraised of all significant changes in accountingBe appraised of all significant changes in accountingsystems and system controlssystems and system controls

Have authority to hire and fire the external auditorHave authority to hire and fire the external auditor

Review the audit plan and discuss audit results withReview the audit plan and discuss audit results withthe auditorthe auditor

Have authority to hire and fire the head of theHave authority to hire and fire the head of theinternal audit function and set the budget for theinternal audit function and set the budget for theinternal audit functioninternal audit function

Review the audit plan and discuss all significantReview the audit plan and discuss all significantresultsresults

Receive all regulatory audit reports and meet withReceive all regulatory audit reports and meet withregulatory auditors to discuss findingsregulatory auditors to discuss findings


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SOX - Required communications to theSOX - Required communications to the

audit committee (US)audit committee (US)

Auditing standards (SAS 61) require specificAuditing standards (SAS 61) require specificcommunications between the audit committee andcommunications between the audit committee andthe external auditor:the external auditor:

Auditor's responsibility under Generally AcceptedAuditor's responsibility under Generally Accepted

Auditing StandardsAuditing Standards Significant Accounting PoliciesSignificant Accounting Policies Management Judgments and AccountingManagement Judgments and Accounting

EstimatesEstimates Significant Audit AdjustmentsSignificant Audit Adjustments

Other Information in Annual ReportsOther Information in Annual Reports Disagreements with ManagementDisagreements with Management


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Protections for Corporate WhistleblowersProtections for Corporate Whistleblowers

under Sarbanes- Oxleyunder Sarbanes- Oxley

Civil liability whistleblower protectionCivil liability whistleblower protection Creates civil liability for companies that retaliate againstCreates civil liability for companies that retaliate against

whistleblowerswhistleblowers Protects only employees of publicly traded companiesProtects only employees of publicly traded companies The employee must report the suspected misconduct to aThe employee must report the suspected misconduct to a

federal regulatory or law enforcement agency, a memberfederal regulatory or law enforcement agency, a memberof Congress or committee of Congress, or a supervisorof Congress or committee of Congress, or a supervisor

Employees are protected against retaliation for filing,Employees are protected against retaliation for filing,testifying in, participating in, or otherwise assisting in atestifying in, participating in, or otherwise assisting in a

proceeding filed or about to be filedproceeding filed or about to be filed

Protected even if the company is ultimately found not toProtected even if the company is ultimately found not tohave committed securities fraudhave committed securities fraud


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Protections for Corporate WhistleblowersProtections for Corporate Whistleblowers

under Sarbanes- Oxleyunder Sarbanes- Oxley

Criminal liability whistleblower protectionCriminal liability whistleblower protection Makes it a crime to knowingly, with the intent toMakes it a crime to knowingly, with the intent to

retaliate, take any harmful action against a person forretaliate, take any harmful action against a person for

providing truthful information relating to the commissionproviding truthful information relating to the commission

or possible commissionor possible commission of any federal offenseof any federal offense Information must be provided to a law enforcementInformation must be provided to a law enforcement

officer in order for protection to be triggeredofficer in order for protection to be triggered Broader than the civil liability protectionsBroader than the civil liability protections

Protections covers all individuals regardless of whereProtections covers all individuals regardless of wherethey workthey work


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Corporate governance in MalaysiaCorporate governance in Malaysia

Establishment of Securities Commission in 1993 toEstablishment of Securities Commission in 1993 toregulate the market, CGregulate the market, CG

Financial Reporting Act, 1997 --> introducesFinancial Reporting Act, 1997 --> introducesaccountability & transparency in the regulatoryaccountability & transparency in the regulatory

environmentenvironment Finance Committee on Corporate GovernanceFinance Committee on Corporate Governanceestablished, issued The Finance Committee Reportestablished, issued The Finance Committee Reporton CG (1999), sets outon CG (1999), sets out

The Malaysian Code on Corporate GovernanceThe Malaysian Code on Corporate Governance principles & best practices for good governance byprinciples & best practices for good governance byplcsplcs


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The Finance Committee Report onThe Finance Committee Report on

Corporate GovernanceCorporate Governance

Strengthening laws over shareholder rights,Strengthening laws over shareholder rights,director duties, duties of other corporatedirector duties, duties of other corporateparticipants (with emphasis on RPTs)participants (with emphasis on RPTs) Enhancing disclosure & transparencyEnhancing disclosure & transparency Promoting effective enforcementPromoting effective enforcement Development of a Malaysian Code of BestDevelopment of a Malaysian Code of Best

Practices in CGPractices in CG restructure BODrestructure BODcomposition, more effectivecomposition, more effective

Identification of training & education needs ofIdentification of training & education needs ofdirectors, other key corporate participants &directors, other key corporate participants &investorsinvestors


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Malaysian Code of Best Practices in CGMalaysian Code of Best Practices in CG

Set by the Malaysian Institute of CorporateSet by the Malaysian Institute of CorporateGovernance (MICG)Governance (MICG) MICG comprised of:MICG comprised of:(a)(a) The Federation of Public Listed CompaniesThe Federation of Public Listed Companies(b)(b) MIAMIA

(c)(c) MAICSAMAICSA(d)(d) MICPAMICPA(e)(e) The Malaysian Institute of DirectorsThe Malaysian Institute of Directors Improvement of BOD composition independentImprovement of BOD composition independent

directors, independence of workingdirectors, independence of working Increase in efficiency & accountability of BODs Increase in efficiency & accountability of BODs

independent & seen to be independentindependent & seen to be independent


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Recommendations of FinanceRecommendations of Finance

Committee ReportCommittee Report

Every plc should be headed by an effective BODEvery plc should be headed by an effective BODwhich should lead & control the companywhich should lead & control the company

BOD should have a balance of executive & non-execBOD should have a balance of executive & non-execdirectors (including independent non-execs) such thatdirectors (including independent non-execs) such that

no individual or small group can dominate decision-no individual or small group can dominate decision-makingmaking Timely & high quality information should beTimely & high quality information should be

supplied to the BOD to enable decision makingsupplied to the BOD to enable decision making Formal & transparent procedures:Formal & transparent procedures: For appointment of new directorsFor appointment of new directors All directors to submit themselves for re-election atAll directors to submit themselves for re-election at

regular intervals, & at least every 3 yearsregular intervals, & at least every 3 years Annual Report should contain details of directorsAnnual Report should contain details of directors

remunerationremuneration


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Committee Report (Contd.)Committee Report (Contd.)

Companies should use the AGM toCompanies should use the AGM tocommunicate with shareholders & encouragecommunicate with shareholders & encouragetheir participationtheir participation

Audit Committees:Audit Committees:

Each plc to establish an AC of at least 3 non-Each plc to establish an AC of at least 3 non-exec directors (majority of them independent),exec directors (majority of them independent),with written terms of reference which dealwith written terms of reference which dealclearly with its authority & dutiesclearly with its authority & duties

Chairman should be an independent non-Chairman should be an independent non-executive directorexecutive director


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Audit Committees duties (Contd.):Audit Committees duties (Contd.): Consider the appointment of external auditor, audit fee,Consider the appointment of external auditor, audit fee,

questions of resignation/dismissalquestions of resignation/dismissal Discuss with external auditor before audit commences,Discuss with external auditor before audit commences,

the nature & scope of audit. Ensure co-ordination wherethe nature & scope of audit. Ensure co-ordination wheremore than 1 audit firm is involved.more than 1 audit firm is involved.

Review half-year & annual FS, focusing on changes inReview half-year & annual FS, focusing on changes inaccounting policies/practices, significant adjustmentsaccounting policies/practices, significant adjustmentsarising from audit, going concern assumption,arising from audit, going concern assumption,compliance with standards & other legal requirementscompliance with standards & other legal requirements

Discuss problems & reservations arising from interim &Discuss problems & reservations arising from interim &final audits, and any other matter the auditor wants tofinal audits, and any other matter the auditor wants todiscuss (in absence of mgt where necessary)discuss (in absence of mgt where necessary)

Review external auditors management letter & mgtsReview external auditors management letter & mgts

responseresponse


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Audit Committee meetingsAudit Committee meetings Shall be attended by a representative of the IA functionShall be attended by a representative of the IA function

& external auditors& external auditors Other BOD members may attend meetings at theOther BOD members may attend meetings at the

invitation of the ACinvitation of the AC

At least once a year, the AC will meet with externalAt least once a year, the AC will meet with externalauditors without the presence of executive BODauditors without the presence of executive BODmembersmembers

Companies should consider having an IA functionCompanies should consider having an IA function External auditors should communicate matters ofExternal auditors should communicate matters of

governance to those in charge (ISA 260)governance to those in charge (ISA 260)


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Week6-CorporateGovernance

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