Wednesday 8 April 2009
How robust is board oversight?
Being elected to a board of directors (the board) involves undertaking serious duties and responsibilities. Most prudent businessmen and professionals will not hesitate in refusing to guarantee a friend’s loan. However, they will readily fall for the dubious prestige of being invited to the board as independent directors without a proper understanding of their legal duties and responsibilities.
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How robust is board oversight?
By ROBSON LEE
8 April 2009
Being elected to a board of directors (the board) involves undertaking serious duties and responsibilities. Most prudent businessmen and professionals will not hesitate in refusing to guarantee a friend’s loan. However, they will readily fall for the dubious prestige of being invited to the board as independent directors without a proper understanding of their legal duties and responsibilities.
The cardinal requirement for a person to qualify as an independent director is ‘independence’. ‘Independence’ is often a matter of substance rather than strict compliance with specified rules. An independent director should not be influenced or motivated by any form of benefit other than compensation for board service.
The independent director needs to distinguish the difference between enquiring whether the management has sufficient resources or bases to arrive at a sound commercial decision, as opposed to challenging the commercial merits of management’s decision.
The chairman of the audit committee should have significant financial management related experience and be sufficiently knowledgeable about the business, financial and auditing requirements of a listed company given his pivotal role in ensuring the effectiveness of the audit committee.
At least two members of the audit committee should have accounting or related financial management expertise or experience. The phrase ‘accounting or related financial management expertise or experience’ has not been defined in the Code of Corporate Governance 2005 but some guidance can be found in the new Audit Committee Guidelines (AC Guidelines) published on Oct 30, 2008.
The AC Guidelines define this expression to mean, inter alia:
• the ability to critically review financial accounts,
• question management on the numbers, and
• be in a position to understand risks management and internal controls.
The Singapore Companies Act states that the audit committee shall review:
• the audit plan with auditors,
• evaluate the system of internal accounting controls,
• the audit report,
• the assistance given by the company’s officers to the auditors and
• the financial statements of the company and the group before submission to the Board.
The AC Guidelines has expanded the roles of the audit committee to include exercising oversight responsibilities in the areas of:
• risks management,
• setting up of internal controls,
• evaluating and implementing effective internal audit,
• regulating interested persons transactions,
• the detection and prevention of fraud,
• overseeing the integrity of financial reporting and
• instituting proper policies and procedures for whistle-blowing.
Independent directors who are not full-time directors may frequently encounter practical constraints in exercising board oversight of management decisions and corporate actions. The practical constraints are particularly acute in respect of foreign issuers.
Presently, a foreign issuer is not required to maintain any operations or even a management office in Singapore. While the best policies and systems can be put in place to institute good corporate governance, the audit committee of a foreign issuer should ensure that there are competent senior executives of integrity in charge of the day-to-day management and operations of the foreign group companies to effectively implement the policies and best practices adopted by the board.
The audit committee should at the outset before the listing and initial public offering of the issuer take steps to ensure that senior executives of the group who are involved in key management and operations are fully aware of the need for corporate transparency, timely and accurate market disclosure of material information, and the importance of good governance.
Effective corporate governance to prevent fraud and financial misstatements must be an engendered culture within the group. The culture of corporate governance must be driven by the audit committee and the board. The board must ensure that top management has the ethics and ethos to be accountable, transparent and responsible for their corporate decisions and actions. The due process and proper procedures of checks and balances within the group must be systematically planned and comprehensively implemented. The whole system of corporate ethics, honest values and integrity must permeate throughout the entire organisation, starting from the board and cascading down to every level of the corporate hierarchy.
Foreign issuers from developing countries may have a different culture that, for example, permits transactions that are governed purely by relationships and even acts of corruption, which are the antithesis of good corporate governance.
The challenge is for the audit committee to educate and influence the management team of such foreign companies to eschew such ingrained malpractices, and to rigorously adhere to best practices and good governance. This may be easier said than done given the limited resources that the audit committee have, and how difficult it would be for systemic cultural fault lines to be rectified overnight.
Very often, best practices and internal controls are vitiated by senior management over-ride, and foreign junior employees may not be in the position to notify the audit committee of such transgressions in time to prevent a corporate debacle.
The Singapore regulators may wish to consider empowering audit committees to have control of a certain sum of the public funds raised from the market to be deposited in a Singapore bank. The audit committee must have the funds to engage professional compliance advisers to advise, guide and systematically help the board in the implementation of good corporate governance.
The audit committee must also have the financial means to engage competent professional advisers to conduct independent investigations when there are signs of mismanagement or serious breach of internal controls in the foreign operations of the group.
If all the group’s funds are under the control of an errant foreign management outside Singapore, the audit committee would be hard pressed to exercise any practical enforcement of the rules, in which event, the best rules would in practice end up to be more cosmetic than effective.
Last but not least, the importance of requiring independent directors to be pre-qualified by the Singapore Exchange and appointed only by minority shareholders cannot be over-emphasised. Independent directors who are appointed or removed by the majority votes of controlling shareholders face tremendous difficulties in taking an errant management to task at a general meeting showdown.
Robson Lee is a partner with Shook Lin & Bok LLP. This article is not intended to provide any legal advice to the reader. The contents herein are the views of the writer and do not reflect the firm’s views
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