Why do financial melt-downs and corporate fraud continue to happen?
The implementation of effective corporate governance calls for a positive “Tone at the Top” displayed by corporate leaders who behave ethically and ensure that the business is run according to published ethical guidelines. However, among the CFO’s responding to a 2012 Global Fraud Survey by Ernst & Young, 47% said they could justify unethical practices to help their organizations survive a financial downturn. ACFE 2012 Report to the Nations on Occupational Fraud and Abuse reported that 56% of fraud was committed by owners and managers with a median loss of $573,000. The oversight responsibility falls squarely on the shoulders of the corporate board members. Is there a disconnect between management and their boards? The following discusses three areas in which the board of directors can contribute to strong corporate governance.
Manage risk proactively
To what extent is the board involved in strategy decisions? Does the board approve individual projects, or is it proactively approving strategy and monitoring projects and initiatives linked to those strategies? The synergy of several disparate initiatives linked to the same strategy may create a much higher risk profile than the projects by themselves. Board members should be aware of the company’s risk methodology to ensure that the combined impact of projects initiated across the organization is financially reasonable and within acceptable risk limits.
Clear the lines of communication
The OECD (Organization for Economic Co-operation & Development) notes in its study, “Corporate Governance and the Financial Crisis”, that one of the responsibilities of the board is to “monitor the structure of the company and its culture to ensure a reliable and relevant flow of information.” It goes on to recommend that a separate channel of risk reporting may be warranted. A chief risk officer may help ensure that:
- Risks are clearly stated and linked to strategic initiatives across the organization.
- All risks, not just financial, are considered in the proper context.
- Reporting of risk is not overshadowed or manipulated by upper management.
Ensure an effective board structure
It is important that there is a policy by which the skills and experience required by the board are identified. In the words of the OECD, “formal independence should sometimes be a necessary, but never a sufficient, condition for board membership.” Growing best practices, particularly in large, complex organizations, include:
- Training programs for board members.
- Board evaluations, which include the opportunity for board members to set collective and individual goals that can be measured to improve the board’s effectiveness.
In light of the financial meltdowns of recent years, emphasis has been placed on financial transparency supported by internal control. Rules, regulations, and laws have been published to ensure compliance. The effectiveness of corporate governance however is not as easily defined. Competent boards are key. However the composition and responsibility of board members vary widely and it is difficult to define an ideal. A proactive approach to risk management, clear lines of communication, and a policy for board composition are good places to start.
This post was contributed by Janet Hintz, a Director with Vonya Global. Janet is a seasoned advisor, focused on helping her clients find alternatives that align financial and operational objectives, increase productivity, and strengthen internal control. If you would like to contact or connect with Janet directly you can find her profile on LinkedIn: http://www.linkedin.com/in/janethintz.