do you know the red flags?<\/i><\/p>\n
by rick telberg<\/b>
\nat large <\/i><\/p>\n
the public conversation about corporate responsibility and citizenship shows no signs of abating. the securities and exchange commission has moved for more disclosure of executive pay. and a flurry of new auditing standards requires cpas to use risk assessments in every audit. the open compliance and ethics group (oceg), a not-for-profit organization supported largely by business interests, found in a study of 50 corporate failures that nearly all were linked to lapses in corporate governance. credit dan swanson, former director of professional practices at the institute of internal auditors and now an independent consultant, for pointing me toward the group, whose benefactors include the big four and major liability insurers. the aicpa, mainly through john morrow, vice president new finance, has also had involvement with the oceg.<\/p>\n
as part of its research, the oceg looked at 50 companies in which there was evidence of corporate governance failure proposed in the business press and accompanied by a significant decline in share price. of the 50 companies, oceg said, 48 experienced failure events attributable to lapses in corporate governance. of those 48, some 25 experienced a sudden share drop and 14 experienced a sharp price drop over time. the remaining nine had no observable share price change.<\/p>\n
oceg conclusions:<\/b>
\n— corporate governance failures tend to be failures from the top – over-involvement by the chairman and under-involvement by the board.
\n— the manifestations of corporate governance failure tend to be triggered by a single obsession (such as sales revenue at any cost), often driven by the motivation of self-enrichment.
\n— the consequences of large-scale corporate governance failure are often catastrophic for shareholders.
\n— the market impact of corporate governance failure is usually dramatic. for all 50 companies, including the zero-effect companies and those where the corporate governance failure hypothesis wasn’t supported, the average reduction in equity market value was 41 percent.<\/p>\n
four causes of failure stood out: (1) lack of tone at the top; (2) lack of ethical conduct characterized by a lack of a culture that encouraged and permitted asking questions and voicing concerns; (3) poor alignment of variable compensation with the long-term interests of the firm; and (4) past errors reflected in financial restatements.<\/p>\n
in looking at the root of the companies’ problems, three areas stood out: (1) financial reporting and record-keeping, (2) sales revenue management and (3) sheer greed.<\/p>\n
the consistent story of corporate governance failure in the united states is driven by wall street’s insistence on ever-improving and uninterrupted quarterly accounting profit results and the willingness of companies to comply.<\/p>\n
the oceg cites two factors (which, it notes, are almost unique to the united states) as exacerbating the problem: the combination of the roles of chairman and ceo and the importance placed on stock options for the ceo\/chairman, senior management teams and board members. the focus on short-term quarterly results and the consequences of not meeting the street’s expectations tempt corporate executives to finagle short-term results.<\/p>\n
interestingly, the oceg doesn’t propose that the roles of chairman and ceo roles should be separated. nor does it propose that stock options should be done away with or blame wall street’s focus on quarterly results as inappropriate. rather, the oceg cites those factors as making the case for best practice corporate governance in the united states. according to the oceg, if any of those factors exist at a company, countervailing influences must be introduced to prevent executives from using companies as vehicles for personal wealth gain at the expense of shareholders. <\/p>\n
first, most corporate failures in the oceg study were associated with corporate governance failure. for only two companies out of the 50 was the failure not considered linked to a corporate governance lapse.
\nsecond, for about a third of companies that experienced a corporate governance failure there was no dramatic share price drop (about two-thirds did have a relatively dramatic share price drop). none of the companies saw its share price increase over the period when corporate governance failure was observed.<\/p>\n
the specter of missing out on the value of options and bonuses, particularly those based on revenue growth and\/or profit measures, tempts executives to present results in the best possible light. when operations fail to deliver, the games begin.<\/p>\n
[first published by the aicpa]<\/i><\/p>\n","protected":false},"excerpt":{"rendered":"