page contents

Single Blog Title

This is a single blog caption

Corporate Governance Risk Management

//
Posted By
/
Comment0
/
Categories

CORPORATE GOVERNANCE AND RISK MANAGEMENT

Corporate Governance is about building credibility, ensuring transparency and accountability as well as maintaining an effective channel of information disclosure that would foster good corporate performance.

It simply implies “Doing the right things for the organization and doing things the right way independent of personal interests”

We could say it is the Processes and Systems by which a company is governed which ensure appropriate checks and balances to ensure the following:

  • Good performance of the organization
  • Proper accountability to all stakeholders
  • Mitigation of conflicts of interest

The four pillars of Corporate Governance are:

  1. Fairness
  2. Accountability
  3. Independence
  4. Transparency

Risk Management is the identification, assessment, and prioritization of risks.  It is defined in ISO 31000 “as the effect of uncertainty on objectives (whether positive or negative) followed by coordinated and economical application of resources to minimize, monitor, and control the probability and/or impact of unfortunate events or to maximize the realization of opportunities”.

Companies must focus on achieving growth and profitability within appropriate risk/control boundaries as such the need for effective and efficient governance structures within the Board and the Management in order to mitigate and manage risk.

The consequences for the failure of Corporate Governance and Risk Management can be very dire to the organization.  These consequences include but not limited to:

  1. Loss of reputation
  2. Job losses
  3. Company collapse

Some examples of companies who faced some of the dire consequences include the under listed:

  • ENRON
  • WorldCom
  • Barings Bank
  • Societe Generale
  • Lehman Brothers
  • P Morgan
  • Barclays Bank
  • Royal bank of Scotland
  • Oceanic Bank
  • Intercontinental Bank

ENRON – Before declaring bankruptcy in December 2001, one of global leading power, energy & utilities companies – with over 20,000 staff and with “A” rating. It was one of Fortune’s Top 100 companies to work for in America in 2000.

Chairman – Ken Lay

CEO – Jeff Skilling

CFO – Andrew Fastow

Placed liabilities in shell companies so that it did not appear in its accounting records, Fraudulent deals – Also led to demise of Arthur Andersen. Partly led to Sarbanes Oxley Act of 2002 (Public Company Accounting and Investor Protection Act).  Corporate Governance rules – Responsibility of Directors; Criminal Penalties etc.

WorldCom – was America’s second largest long distance phone company (after AT & T).

CEO –  Bernard Ebbers

CFO – Scott Sullivan

Comptroller – David Myers

Aggressive growth strategy – tried to merge with Sprint in 2000. Not approved by regulators. Fraudulent Financial records from mid-1999 to 2002 – booking interconnectivity costs as capital instead of expenses and inflating revenues. Internal auditors unearthed $3.8BN in fraud. Arthur Andersen withdrew opinion. Filed for Bankruptcy July 2002.

Lehman Brothers – Founded 1850. Fourth largest investment bank in US (after Goldman Sachs; Morgan Stanley and Merrill Lynch).

Filed for bankruptcy September 2008, following large exodus of clients; drastic losses in stock and downgrade of assets by credit rating agencies. Largest bankruptcy in US history! Holdings shared between Barclays (NA divisions) and Nomura (Asia-Pac, Europe and Middle East).

Financial accounting gimmicks; sub-prime mortgage bets (large positions in securities backed by lower rated mortgages). In first half of 2008, lost 73% of value as credit markets continued to tighten – had to sell of $6bn of assets and lost $2.8bn.

Bear Stearns – Founded 1923. Issued large amounts of asset-backed securities including mortgages (by Lewis Ranieri – “father of mortgage securities”). As losses mounted in 2006 and 2007, company actually increased exposure especially to mortgage backed securities which were central to sub-prime crisis. Sold to JP Morgan for $10/share from 52 week pre-crisis high of $133.20.

Barings Bank – Oldest merchant bank in London (founded 1762) until collapse in 1995 after loss from unauthorized speculative trades by its Head Derivatives Trader, Nick Leeson in Singapore – lost GBP827m. Instead of buying and simultaneously selling, Leeson held on to the contract, gambling on future direction of Japanese markets. Internal challenges – doubled as both floor manager and head of settlement operations. No check and balance.

Societe Generale – Jerome Kerviel – caused Eur4.9bn ($6.1bn) trading loss in 2008. One of largest losses in history. Arbitraging between equity derivatives and cash equity prices wiped off almost two years of pre-tax profits of SG’s investment banking unit. Taking unhedged positions far in excess of desk limits up to Eur49.9bn (in excess of bank’s total market cap) – disguising exposure with fake hedges. Highlights lack of risk experts on risk committees. States making a profit makes hierarchy turn blind eye

In order to ensure effective and efficient Corporate Governance and Risk Management within the business, it is important that we adopt some underlying principles such as that provided by the Basel Committee for Banks’ Board and Senior Management. These principles are common to all sectors and industries within the economy as such would be useful to all types of businesses and companies.

Principle 1: Board qualifications, capabilities and responsibilities

Principle 2: Board’s role regarding the company’s strategic objectives and corporate values

Principle 3: Lines of responsibility & accountability

Principle 4: Ensuring oversight by senior management

Principle 5: Auditors and internal control functions

Principle 6: Board & key executive compensation

Principle 7: Transparent governance

Principle 8: “Know your operational structure”

For more details on the principles you can visit www.bis.org/BCBS

The 8 Principles

 

Principle 1

Board members should be qualified for their positions, have a clear understanding of their role in Corporate Governance and be able to exercise sound judgment about the affairs of the company.

Board should have an adequate number of independent members

  • Independence = ability to exercise objective judgment

Principle 2

The board of directors should approve and oversee the company’s strategic objectives and corporate values that are communicated through the organization

  • Employees should be encouraged to raise concerns about illegal or unethical practices to the board or an independent committee without fear of reprisal or retaliation i.e. Whistleblowing to be encouraged

 Principle 3

The board of directors should set and enforce clear lines of responsibility and accountability throughout the organization

  • Define authorities & key responsibilities

Principle 4

The board should ensure that there is appropriate oversight by senior management consistent with board policy

  • Senior management should have the necessary skills to manage the business
  • Under board’s guidance, establish system of internal controls

Principle 5

The board and senior management should effectively utilize the work conducted by the internal audit function, external auditors and internal control functions

  • External audits – the board and senior management should:
  • Engage external auditors to review internal controls relating to financial statements
  • Ensure that external auditors comply with applicable codes & standards of professional practice
  • Ensure that external auditors understand their duties

Principle 6

The board should ensure that compensation policies and practices are consistent with the company’s corporate culture, long-term objectives and strategy, and control environment

  • Avoid compensation policies that create incentives for excessive risk-taking

Principle 7

The company should be governed in a transparent manner. Disclosure should be made on the company’s website, in its annual/periodic reports and/or in reports to supervisors about:

  • Board and senior management structure
  • Basic ownership structure & organizational structure
  • Code of business conduct and/or ethics code
  • Bank policies relating to conflicts of interest & related party transactions

Principle 8

The board and senior management should understand the company’s operational structure, including where the company operates in jurisdictions, or through structures, that impede transparency (i.e. “know-your-structure”)

  • Set clear Corporate Governance expectations for all relevant entities and business lines
  • Banks sometimes operate in jurisdictions, or employ structures, that lack or impair transparency

In conclusion, there is the need for companies to put together a strong Corporate Governance framework which clearly indicates the responsibilities of the Board and that of the Management with a comprehensive Enterprise Risk Management (ERM) system towards meeting the goals of the company and expectations of all its stakeholders

Key Risk Management Steps

Leave a Reply