Background:- Some of the obvious reasons for widespread
unethical financial practices may be listed as follows. • Ambition for achieving disproportionately high results with inadequate resources & time. • Corrupt practices in govt.bureaucracy, politicians & regulatory authorities. • Complex tax laws. • Structural & procedural deficiencies in the organisation. •Monopolistic power creating an imbalance in a market economy. •Organisational culture does not promote healthy competition, loyalty, creativity, consistency, transparency & entrepreneurship. • Centralised control, lack of empowerment.
• Unhealthy rivalry promoted by the owners, their families,
partners & so- called advisors. • False notion of racial superiority, intellectuality, religious & regional supremacy. • Saturated growth of a developed country, leading to a forced exposure outside which the enterprise may not be ready to face. • Individual’s family, socio-economic background. • Fear of uncertainty about future. Definition of Ethical Management A transparent approach to business success, which is enjoyed by all stake-holders, based on the national priorities & moral guidelines of the society. ETHICAL DILEMMA:- ‘A practice in which an ethical individual or an organisation being forced to accept an unethical or semi-ethical solution to a problem in the larger interest of the organisation, employees & society.’ While facing a dilemma an executive is expected to follow a following preference-order of respect. • The universe • Nation • Society • Organisation • Division • Group • Family • Individual Remedy For Ethical Dilemma:-
Ethical dilemma should be sorted out with the best possible,
& most acceptable adequate ethical solution. Quality of such solutions may be decided from the following matrix.
The Flexible Solution The Best Solution
(Ethical)
The Worst Solution The masterminded solution
(Legal) An ethical audit or audit of ethical practices must be carried out every year, by using two sets of parameters --
• Quality of combinations of solutions as shown in the matrix.
• Preference observed in addressing ethical dilemma. Ethical-Economical Combinations : Financial strategists are more concerned about ethical – economic solutions than ethical – legal combination. The E –E combinations could be broadly classified as follows. • Fully ethical & most economical --- Best • Fully ethical & not so economical – Acceptable • Most economical & not ethical – Dangerous • Non-ethical & non-economical – Disastrous The most effective, ethical & economic approach of business requires the following major attributes, skills & approaches to be mastered by everybody in the organisation.
• Creative & alternate thinking about solutions.
• Entrepreneurial approach to business, at all levels in the organisation. • Most efficient systems of accounting, information, communication & control. • Maturity for understanding the macro & micro variables of business. • Patience for long-term results. Ethical results normally start late on the performance curve of the organisation. But results are big & sustainable, compared to those with unethical, short-cut tactics. CORPORATE GOVERNANCE Corporate Governance encompasses the system of operating & controlling a body corporate in order to satisfy the expectations & objectives of various stakeholders, creditors, employees, customers, suppliers etc. What is CG? • It is a network of legal provisions, regulations, & practices to bring accountability & transparency in the functioning of body corporate. • It is concerned with both the internal aspects of the company such as internal controls & the external aspects such as an organisation’s relationship with it’s shareholders & other stakeholders. • CG structure specifies the distribution of rights & responsibilities among different participants in the corporation, such as the board, managers, shareholders & other stakeholders & spells out the rules & procedures for making decisions on corporate affairs. • CG ensures that resources available to a company are used in a manner that meets the aspirations of the society & different stakeholders. Two basic principles of CG are: • The management (BOD) has executive freedom to run, direct & drive the enterprise • The management should exercise this freedom within a framework of effective accountability. Thus CG provides for empowerment of BOD & simultaneously creates a system of checks & balances to ensure that the decision-making power is not misused but is undertaken, with a sense of care & responsibility. FEATURES OF CG • Trusteeship :- Ensures that BOD has responsibility to protect the interests of different stakeholders. • Transparency : Disclosures without jeopardising the strategic interests. • Empowerment :- Refers to creativity & innovation throughout the organisation by vesting decision – making powers as close to the scene of action as possible. • Control :- Timely management of change. • Ethical Behavior :- Both within organisation & in external ralationships. Focal point of CG is on top management however, in big organisations it may be addressed to three interlinked levels namely; Strategic Supervision(BOD), Strategic Management(Corporate Management Committes ) & Executive Management( Divisional Chiefs) DEVELOPMENTS IN PRACTICES OF CG
At formal level, CG started in India in 1998 when CII evolved
a code of corporate governance for transparent disclosure norms as follows. 1. Annual Reports of all listed companies should be accompanied by compliance certificate signed by CEO or CFO. 2. Listed companies should give a statement on value addition. 3. Data on high & low averages of share prices should be a part of the annual report. 4. Disclosure norms for a GDR issue should also be the norm for any domestic issue of securities. RECOMMENDATIONS OF VARIOUS COMMITTEES ON CG
In May 1999, SEBI appointed a committee on CG, under the
chairmanship of K.M.Birla to suggest • Suitable amendment to the listing agreement • Measures to improve the standards of CG in listed companies. • A code of corporate best practices. Birla committee made several mandatory & non-mandatory recommendations about— • Independent directors, Nominee directors & Chairman of the BOD. • Audit Committee & it’s composition. • Frequency of audit committee meetings, Functions of Audit Committee. • Remuneration committee of the board & it’s composition • Accounting Standards & Financial Reporting • Functions of the Board • Separate Report on CG in the Annual Report The committee’s recommendations have looked at corporate governance from the point of view of the shareholders & investors. The control & reporting functions of the BOD & role of the various committees, role of management assume a special significance from this perspective. The recommendations of K.M. Birla committee resulted in the introduction of Clause 49 in the Listing agreement. Provisions & requirements of clause 49 of the Listing Agreement are dealing with the following. • BOD :- Composition of the Board, Non-executive directors’ compensation & disclosures, Independent directors, Borad procedure, Code of conduct, Term of office of the non-executive directors etc. • Audit Committee :- Qualified & independent audit
committee, meeting of audit committee, powers of audit
committee, role of audit committee, review of information by audit committee. • Audit Reports & Audit Qualifications :- Disclosure of accounting treatment. • Whistle Blower Policy :- Internal policy on access to Audit Committee. • Subsidiary Companies :- • Disclosure of Contingent Liabilities :- • Disclosure :- Basis of related party transactions, disclosures about risk-management, Proceeds from IPO, remuneration of directors, management analysis report, • Redressal of shareholders’ & investors’ complaints :- Regarding transfer of shares, non-receipt of dividends etc. • CEO/CFO Certification :- • Report on Corporate Governance :- RECOMMENDATIONS OF NARAYAN MURTHY COMMITTEE :- In the year 2002, SEBI constituted a committee under the chairmanship of N.R.Narayan Murthy to review the performance of CG in India & to make appropriate recommendations to enhance transparency & integrity to stock market. These are as follows. • Audit committees of listed companies will review the following information mandatorily. a) Financial statements & draft audit report, b) Management discussion & analysis of financial condition c) Report related to compliance withlaws d) Records regarding related party transactions
• Companies should be encouraged to move towards
unqualified financial statements. • A statement of all related party transactions ( as per AS- 18) should be placed before the independent audit committee for approval . • Procedures should be in place to inform the members of the BOD about the risk assessment. • BOD should lay down the code of conduct for all members & senior management people. • The nominee directors ( by Govt. or FI ) shall be elected by the shareholders & be subject to same responsibilities as other directors. • All compensations & stock-options payable to non- executive directors should be approved by the shareholders in general meeting. • Companies should ensure that personnel who observe an
unethical practice should be able to approach the Audit
Committee. • The performance evaluation of non-executive directors should be by a peer group comprising members of BOD. • All Audit Committee members shall be non-executive directors. Role of Audit Committee :- The role of audit committee shall include the following. 1. Oversight of the company’s financial reporting process & the disclosure of it’s financial information to ensure that the financial statement is correct, sufficient & credible. 2. Recommending the appointment & removal of external auditor, fixation of audit fee & also approval for payment for any other services. 3) Reviewing with management the annual financial statements before submission to the board, focusing primarily
-- Any changes in accounting policies & practices
-- Major accounting entries based on exercise of judgment by management. -- Qualifications in draft audit report. -- Significant adjustments arising out of audit. -- The going concern assumption. -- Compliance with Accounting Standards -- Compliance with stock exchange & legal requirements concerning financial statements. -- Related party transactions. 4) Reviewing with the management, external & internal auditors, the adequacy of internal control system. 5) Reviewing the adequacy of internal audit function, including the structure of the internal audit department. 6) Discussion with internal auditors any significant findings & follow-up thereon. 7) Reviewing the findings of internal investigation by the internal auditors into matters where there is suspected fraud or irregularity or a failure of internal control system. 8) Discussion with external auditors before the audit commences about nature & scope of audit as well as post-audit discussion to ascertain area of concern. 9) Reviewing the company’s financial & risk management policies. 10) To look into the reasons for substantial defaults in the payment to the depositors, debenture-holders, shareholders ( in respect of dividends) & creditors. Mandatory Review of Information by Audit Committee:-
1. Financial statements & draft audit report, including
quarterly/ half-yearly financial information. 2. Management discussion & analysis of financial condition & results of operations. 3. Management letters/ letters of internal control weaknesses issued by statutory/internal auditors. 4. Reports relating to compliance with laws & to risk management. 5. Records of related party transactions 6. The appointment, removal & terms of remuneration of the Chief Internal auditor shall be subject to review by the Audit committee. SARBANES – OXLEY ACT 2002
The challenge to the investors’ confidence in listed
companies caused by some untoward incidents in the recent past in the international capital markets has brought corporate governance issues under the spotlight. Serious financial manipulations in the corporate arena have intensified the focus on how business houses are managed. In view of the scam involving U.S. corporate giants like Xerox, World Com, Enron etc. the Sarbanes- Oxley Act was enacted in the U.S. with some stringent measures relating to CG. The act deals with the corporate social responsibility & emphasized the audit function & financial disclosure, conflict of interest & corporate governance at public companies. It aims at the strengthening of powers & functions of Audit Committee. It requires the constitution of Public Company Accounting Oversight Board (PCAOB) to oversee the audit of public companies that are subject securities laws, to establish audit report standards. It prohibits an auditor from performing specified non-audit services, alongwith an audit. Audit firms to be appointed by & report directly to the Audit Committee and subject to rotation of the partner & the firm.