Business Ethics And Corporate Governance Lecture Notes Pdf

Emerging Issues in nCorporate n

Governance n

Chapter XV n

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Chapter Objectives: n• Understand emerging issues and the challenges, opportunities, and improvement they n

present to corporate governance. n

• Realize the importance of maintaining investor confidence worldwide. n

• Understand the initiatives being taken toward convergence in corporate governance. n

• Recognize the importance of SEE performance. n

• Understand the emerging shareholder issues pertaining to the nomination process, voting n

system, proxy statements, and regulations, and possible improvements to these processes. n

• Illustrate the challenges to director independence, nomination, compensation, n

composition, and evaluation, and how those challenges can be met. n

• Show the challenges that arise from unresolved financial reporting issues, including n

financial restatements, enhanced business reporting, forward-looking financial reports, and n

stock option accounting, and how they can be addressed. n

• Understand antifraud programs and controls designed to strengthen the reliability of n

financial reports. n

• Define the emerging audit issues in the post-SOX era and solutions to these issues. n

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Key Terms nBasel Committee for Banking Supervision nCorporate social responsibility (CSR) nCorporate sustainability reporting nEnhanced business reporting (EBR) nGlobal Reporting Initiative (GRI) nGovernance Metrics International (GMI) nInternational Corporate Governance Network (ICGN) nInternational Financial Reporting Standards (IFRS) nInternational Monetary Fund nKey performance indicators (KPIs) n

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Investor Confidence and Global nFinancial Markets n

Investor confidence in the global financial markets is the key ndriver of economic growth, global competition, and financial nstability. n nGenerally speaking, investors are considered to be confident nwhen stock prices are on an upward trend and the news about nfuture stock performance is optimistic. n nThe main task is to restore investors’ confidence. n nMany of these recommendations, such as convergence to IFRS nand corporate codes of ethics, have already been nimplemented or are in the process of being implemented. n

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GLOBAL FINANCIAL nMARKETS n

The speed with which financial transactions can be conducted and money can nbe moved around the world encourages regulators to establish a global financial ninfrastructure. n nDifferent types of corporate governance structure are exposed to different nfinancial misconduct and scandals. For example, the dispersed ownership nsystem of governance in the United States is prone to earnings management nschemes (e.g., Enron, WorldCom), whereas concentrated ownership systems nare more vulnerable to the appropriation of private benefits of control (e.g., nParmalat). n n

COVERGENCE is needed !!!!! n

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Corporate Governance nReporting n

The framework of corporate governance reporting and nassurance that can be used is the AA 1000 Framework and its nGlobal Reporting Initiative (GRI) guidelines, which promote naccountability reports. n nCorporate governance reporting changes one-dimensional nfinancial reporting to multidimensional bottom lines. n nMBL reporting goes one step beyond the corporate nsustainability reporting prepared according to the nguidelines of the GRI. The GRI focuses on the three nsustainability dimensions of SEE performance, whereas ncorporate governance reporting emphasizes nmultidimensional sustainability of governance, economic, nethical, social, and environmental performance. n

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Accountability: The New nBusiness Imperative n

Accountability is the cornerstone of corporate governance in ncontinuously monitoring best practices and being accountable nto shareholders. n nAlthough the primary focus and goal of accountability nreporting in the foreseeable future will continue to be an neconomic issue to create sustainable long-term shareholder nvalue, the issues of SEE performance of companies will gain nmomentum. n

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Social, Environmental, and nEthics Performance n

Corporate Social Responsibility nTotal assets managed by a socially responsible investing (SRI) nportfolio have increased more than fiftyfold in the past two ndecades in the United States, and an increasing number of nmutual funds fall under the SRI definition. n nEnvironmental Performance nEnvironmental matters, particularly climate change, are nreceiving a considerable amount of attention from the SRI ncommunity. Institutional investors, including the nation’s nlargest public pension plans such as CalPERS and CalSTRS nhave traditionally supported initiatives to ensure that ncompanies in their portfolios provide adequate disclosures of ntheir environmental liabilities. n

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Social, Environmental, and nEthics Performance n

Ethics Performance n nThe established codes of conduct and ethics programs naddress the following: n n1. Avoidance and resolution of conflicts of interest between nthe company and employees n2. Compliance with all applicable laws, rules, regulations, nstandards, and policies n3. Emphasis on customer relations to enhance the company’s nreputation n4. Proper use of confidential information n5. Encouragement of whistleblowers to reveal dishonesty and nwrongdoings n

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Shareholder Challenging Issues nThere are several challenging shareholders issues : n

n1. Nomination Process. Not all shareholders have full access n

to the proxy statements, and existing SEC rules allow ncompanies to reject any proposal pertaining to director nelection. n

2. Voting System. The prevailing plurality voting system also nmakes it difficult for shareholders to monitor their ncompanies. n

3. Proxy Statements. Shareholders of public companies with ndispersed ownership have few, if any, incentives or nopportunities to monitor their company’s business affairs nand managerial activities. n

nTo address those issues, SEC has adopted a few initiatives. n

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Challenges Faced by Directors nRoles of boards are expanding to both advisory and oversight nfunctions. n nSeveral prevailing challenges faced by directors remain nunresolved: n n(1) director accountability and personal liability, n(2) the separation of chair and CEO roles, n(3) director stock ownership, n(4) board diversity, n(5) director interlocks, n(6) director performance scorecard, and n(7) rotation of audit committee members. n

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Sox Compliance Challenges nIt has been argued that the emerging corporate governance nreforms, including SOX, SEC related implementation rules, and nlisting standards, have caused smaller companies to (1) incur ncompliance costs that are disproportionate to the induced nincremental benefits, and (2) divert the attention of company nmanagement away from strategic decisions and operational nactivities. n n nTo address those concerns, the COSO in 2005 issued n“Guidance for Smaller Public Companies Reporting on Internal nControl over Financial Reporting”. n nThe new guidance is intended to assist small companies to nimplement, assess, and report on ICFR in compliance with nSection 404 of SOX and PCAOB AS No. 2. n

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Sox Compliance Challenges nThe MAIN CHALLENGE is the cost of compliance. n nSome of the rules, for example, those concerning internal ncontrols of Section 404, cost at least one hundred times more nthan what was originally estimated by the SEC (e.g., estimated ncost of $91,000 per company to the first-year actual cost of, non average, $9.8 million). n

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Financial Reporting Challenges n1. Financial Restatements nThe persistence of financial restatements adversely affects ninvestor confidence. The substantial decline in the number of nrestatements by large public companies suggests that Section n404 is working well in reducing the number of financial nrestatements and thus improving financial reporting quality. n2. Enhanced Business Reporting nEnhanced business reporting (EBR) focuses on both financial nand nonfinancial information about current and future KPIs is nsuggested as an alternative to improve the quality, ntransparency, and integrity of financial reporting. n3. Stock Options Accounting nThe two pricing models commonly used in determining the nreal value of a stock option are Black-Scholes and indexing of nsimilar publicly traded companies. nThe current pricing models are being criticized for not properly ndetermining the value of stock options n n n docsity.com

FINANCIAL REPORTING nCHALLENGES (CONT.) n

Antifraud Program and Practices n(SOX Sections 302, 404, and 906, PCAOB AS No. 2, PCAOB’s new AS No. 5, ndiscovered fraud should be reported to ICFR) n nAn effective antifraud program should address corporate culture, control nstructure, and fraud procedures: n n1. Corporate culture—Corporate culture should create an environment that nsets an appropriate tone at the top. n2. Control structure—An effective control structure should eliminate nopportunities for individuals to engage in fraudulent activities. n3. Antifraud procedures—Adequate fraud procedures should be developed nand performed to ensure prevention and detection of potential fraud. n

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Global Financial Reporting nStandards n

We should expect significant changes in financial reporting as nboth the FASB and IASB are moving toward convergence in ntheir standards, and the SEC is promoting the idea of giving nU.S. companies the choice between U.S. GAAP and IFRS ncompliance in their filings with the SEC. n nThe SEC is expected to remove the reconciliation requirement nfor international firms traded on U.S. exchanges to file using nIFRS by 2009. The move by the SEC can be regarded by many nas the first step by the SEC to eventually allow listed ncompanies to use IFRS in place of U.S. GAAP. n

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International Financial reporting Standards (IFRS) nA high-quality financial reporting process requires: n(1) The use of a single set of robust accounting standards n

in reflecting financial information. n(2) A comprehensive business reporting system of n

presenting financial and nonfinancial key performance nindicators (KPIs) beyond the financial statements and nfootnotes. n

(3) A set of globally accepted corporate governance nmeasures including laws, rules, and regulations to nensure effective enforcement and compliance with nthese measures. n

(4) High-quality globally accepted audit standards to lend ncredibility to financial reports. n

(5) Effective systems of training and educating preparers, ninvestors, analysts, and auditors about IFRS and ninternational auditing standards. n

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The SEC has recently taken two major initiatives to facilitate nconvergence toward IFRS. These initiatives are: n

(1) A July 2, 2007 proposed rule that would allow foreign nprivate issuers (FPIs) to file financial statements nprepared using IFRS as published by the International nAccounting Standards Board (IASB) without any nreconciliation to U.S. GAAP. n

(2) An August 7, 2007 Concept Release discussing the npossibility of providing the option to U.S. registrants nincluding investment companies to prepare their nfinancial statements in accordance with IFRS. n

It appears the momentum toward a single set of globally naccepted accounting standards as U.S. GAAP will nultimately be replaced by IFRS. During the past several nyears more than 100 countries have adopted IFRS as naccounting standards for their financial reporting npurposes. n

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Some challenges that need to be addressed to facilitate nconvergence toward IFRS are: n

(1) Consistent interpretation and application of IFRS nacross jurisdictions. n

(2) The feasibility of adoption of IFRS by U.S. nmultinational companies in general and U.S. ncompanies in particular. n

(3) Educating market participants regarding the ndifferences between U.S. GAAP and IFRS. n

(4) Effects of switching from national accounting nstandards to IFRS for regulatory filing purposes and nauditing. n

Both leaders of the IASB and FASB have predicted that by n2011, significant progress toward convergence in the nglobal financial reporting process will be made. n

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There is some evidence of a move towards convergence nto IFRS as issued by the IASB including: n

(1) More than 100 countries have now adopted a variation nof the IFRS. n

(2) All listed companies in EU member countries have nbeen required to comply with IFRS in their consolidated nfinancial statements since 2005. n

(3) Regulators worldwide (e.g., IOSCO, SEC) have nallowed their foreign issuers to use IFRS for cross-nborder securities offerings and listings. n

(4) The SEC has eliminated reconciliation requirements for nforeign issuers that use IFRS as issued by the IASB. n

(5) The SEC is considering the possibility and applicability nof allowing U.S. companies to use IFRS for their filing nand reporting purposes. n

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Benefits of Convergence n• Facilitating comparability of financial reports of n

companies in different countries and thus providing ngreater opportunity for investment and diversification. n

• Mitigating the risk that global investors may not fully nunderstand the nuances of different national accounting npolicies and practices and thus reach improper and npotentially misleading conclusions from comparative nanalyses. n

• Enabling international audit firms to standardize their nstaff training and provide better audit quality worldwide. n

• Enhancing consistency, efficiency of global audit npractices in addressing global accounting policies and npractices and their potential deficiencies. n

• Mitigating the confusion associated with having to nunderstand various reporting regimes. n

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n• INTERNATIONAL FINANCIAL REPORTING STANDARDS (IFRS) n• Accounting has been regarded as “the language of business” n

and the question that has been recently raised is: “Can all naccountants worldwide speak the same language?” n

• Is the move toward adoption of IFRS as a single set of global naccounting standards feasible? n

• http://www.youtube.com/watch?v=BFAzrMK1YXY,VIDEO n

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n• A recent survey conducted by the International Federation of n

Accountants (IFAC) reveals that convergence to a single set of ninternational accounting standards is key to economic ndevelopment as the majority of respondents (89 percent) find ncompliance with IFRS as very important (IFAC, 2007) n

n• Securities and Exchange Commission chairman Christopher Cox n

while promoting convergence by stating that “IFRS is coming” nwarned that “U.S. generally accepted accounting principles n(GAAP) aren’t going away anytime soon” (Rummell, 2008). n

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The Convergence Process nConvergence Process n n n

n n

Recognition nof Differences n

Step 5 Step 4 n

Improvements nto IFRS n

Transition nProcess n

Adoption nof IFRS n

Enforcements n

Step 1 Step 2 Step 3 n

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Timeline for Convergence Process n

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