P1: Answers for Kasturi Candidates (edited)

-relevant to Kasturi P1 Candidates (ACCA)

ANSWER A
(i) Principles base approach – No specific guides
Audit fees should be disclosed together with Other services – taxes advisory, corporate finance or head hunting services, rendered by external auditors. Disclosures empowers investors to gauge the suitability of ‘combined’ services and judge if EA are truly independent or perceived to be.

Audit partners should be rotated every 3 years to reduce threat of familiarity. Audit committee should recommend and propose if this is appropriate or even to propose replacement of external auditors.



(ii) Principles base approach –specific guides
Combined Codes requires more than 51% of members to be NEDs or iNEDs. 50% members gives rise to deadlock at Board level when there is voting exercise.

iNEDs should form majority members of Remuneration and Appointment Committees to have independent review of overall Board’s performance.

EDs may propose or merely recommend to Committees like Nomination Committee as this leverage on their indepth knowledge and exposure in the industry.

(iii) Principles base approach –specific guides
Clear separation of CEO and Chairman is advocated as best governance practice to enable CEO be independently evaluated by an iNED.

However, company can “Comply or Explain” if there is extenuating circumstance. CEO can be an interim Chairman which means ‘part time’. 3 year period is hardly considered part time.

(iv) Principles base approach –specific guides
A comply and explain guide meaning greater flexibility and at Board’s discretion. They need to balance in :
- not over-disclose information to firm’s detriment as competitors can read its strategy or
- under-disclose as investors deemed it as lacking transparency


(v) Principles base approach – no specific guides
Combined Code is silent on whether executive or non-executive directors can hold too many positions in companies as it means they risk neglecting their fiduciary duties to safeguard and manage companies’ interests due to time constraints.

Nomination Committee can state the length of service an Executive Director is in.
Board can stipulate Key Performance Index putting greater accountability on CEO and EDs.


(vi) Principles base approach –specific guides
The Combined Code states that the directors should maintain a sound system of internal control and, at least annually, conduct a review of the effectiveness of the group's system of internal controls and they should report to the
shareholders that they have done so.
Should include :
• financial controls
• operational controls
• compliance controls
• risk management controls


ANSWER B (I) & (II) BRIEF REPORT

TO : SENIOR MANAGEMENT
FROM : CONSULTANTS
DATE : 10 JUNE 201x
SUBJECTS : RULES BASED AND TWO-TIER BOARD
GOVERNANCE

Purpose of this report is to outlined the implications of
B (I) rules based company
B (II) two-tier board

B (I) Rules based Company – as practiced in USA introduced under Sarbanes-Oxley Governance.
Positive factors:
1. Clear rules that compelled subsidiary to comply.
2. Focused on specific guidelines that minimises ambiguity or subjective interpretations.
3. Greater accountability of Board members, as they need to statutorily declare to their best knowledge, Financial Statements are true and fair. Or else they face criminal charges or imprisonment outcomes.

Negative factors
4. Costly especially for subsidiaries with limited funds or small/medium size. SOX requires compulsorily for all companies to comply without any exception
5. Managers may want to re-consider their career if they want to be in USA working as employee-Executive Directors with imprisonment threat?! Discourage attracting managerial talents.
6. Inflexible as there is NO comply or explain exceptions. Rules based assumed “One size of governance fits all approach”. Overlooks the complexity and dynamic changes across diverse industries. Unreasonable to impose standard governance formula.
7. Mere “box-ticking” approach following rules rather than the “spirit” or main principle for governance.
8. Firm’s culture may not FIT to rules based where firm may take greater risk taking behaviour inconsistent with need for rules based governance approach.
9. Slows decision making process as its compulsory to follow the process of rules based governance. Many requirements to submit reports to different regulatory bodies.

B (II) two –tier board adivse:
Positive impact on subsidiaries:
1. Clear and formal separation between monitors (upper-tier/supervisory board) over lower tier (Managerial board). Co-determination required so that lower tier has greater accountability to upper tier.
2. Capacity to have an effective safeguards over corruption or negligence of lower tier as upper tier acts as independent pressure equivalent to independent auditors role.
3. Two tier accounts for shareholders and also:
i. In japan considers the bankers stakeholders needs
ii. In Europe (Germany & France) considers employees or trade union needs.
iii. A multi-stakeholders approach considering their interests brings out a ‘balanced’ board compared to Anglo-Saxon of glorifying capitalism – namely shareholders are always the Boss!
4. Encourages transparency within Board, as employees take active interests in Board’s strategy and development.

Negative impact:
5. Lacks accountability as upper tier blames lower tier for failure in management and vice versa as lower tier is frustrated over unjust intervention from upper tier.
6. Potential conflicts of interests and corruption as lower tier fails to feed information to upper tier.
7. Slows decision making. Very low risk approach to strategy as employees and bankers unlikely take aggressive expansion strategy that causes redundancies risk or liquidation risks.
8. Supervisory level detached from shareholders become autocratic in leadership, a neglect of shareholders’ interests. Greater risk of agency problem.

Conclusion
We advocate the subsidiaries to comply with principles based governance in UK and its Commonwealth countries that contribute to robust governance.

Yours Faithfully,

COnsultants