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New Zealand Securities Commission |
Last Updated: 8 November 2014
CORPORATE
GOVERNANCE IN NEW ZEALAND
Consultation on Issues and Principles
BACKGROUND REFERENCE
To be read in conjunction with the Questionnaire
Securities Commission
September 2003
Contents
Message from Jane Diplock
The Consultation Process in New Zealand The Corporate Governance Issues International Developments
New Zealand References
The Nine Key Issues
– Ethical Conduct
– Board Composition and Performance
– Board Committees
– Reporting and Disclosure
– Remuneration
– Risk Management
– Auditors
– Shareholder Relations
– Stakeholder Interests
Message from Jane Diplock
Chairman, Securities Commission
The Minister of Commerce has asked the Securities Commission to take the lead
in developing an agreed set of Corporate Governance
principles for New
Zealand.
In responding to this request, we are setting out to establish the level of
consensus in the New Zealand business community around
norms or expected
standard of behaviour for Corporate Governance.
Depending on the level of consensus that we find around the broad areas of Corporate Goverance (referred to as issues), principles will be developed which reflect the business community's position.
The focus of this project is not law reform. Neither is this a place to revisit existing law. This exercise, in itself is not aimed at reducing the rate of corporate failure, nor will it
necessarily result in an increase in ethical behaviour. However, a set of principles which
New Zealand business supports, will in our view, contribute to better
Corporate Governance.
Our approach to this task has been to examine the large amount of work
already done on Corporate Governance both in New Zealand and
in other countries.
There have been many thoughtful and valuable contributions to the Corporate
Governance debate. In New Zealand
important work has been done by the New
Zealand Exchange, the Institute of Chartered Accountants of New Zealand, the
Institute of
Directors in New Zealand and some professional services
firms.
We recognise that not everyone will agree on everything. In fact, there are
some areas where there is likely to be considerable disagreement.
None the
less, from this consultation we expect to develop a set of principles that most
can embrace, and which is appropriate for
New Zealand.
To grow and prosper, New Zealand businesses must inspire confidence in local
and international investors, partners, suppliers and
customers. For this to
happen, our Corporate Governance must be world-class. We trust that the
principles will be adopted by directors
as a tool to enhance the confidence in
and the standing of their companies.
Corporate Governance policies and practices in New Zealand are, by and large,
of a good standard. Good governance is vital not only
for public, listed
companies but for other forms of business entity as well. We hope that after
this consultation the resulting
principles will be useful for all types of
entity, including cooperatives and state-owned enterprises. Ultimately, good
governance
should help businesses become more innovative, competitive and
financially sustainable.
We urge you to be part of this process by completing the questionnaire and by
encouraging others to do so too.
Jane Diplock AO
The New Zealand Approach
There is a wealth of writing on governance in New Zealand and other
countries, much of this available on the Internet (see references
on pages seven
and eight).
This paper defines Corporate Governance in widely accepted terms and briefly
summarises some of the key developments from both New
Zealand and international
sources that should help to inform the development of agreed principles for New
Zealand.
There are some features of the New Zealand economy that present special
considerations in relation the Corporate Governance debate.
While the focus
overseas has been primarily on the governance of publicly listed companies, in
New Zealand there are a significant
number of enterprises that are structured
as:
• Subsidiaries of overseas companies, either wholly owned by the
overseas parent, or majority owned with the balance being
either traded on the
New Zealand Exchange, or otherwise held by New Zealand
• Government and local authority owned entities
• Closely held or family owned companies
• Large Trusts
This paper is accompanied by a questionnaire that has been developed to enable the
Securities Commission to identify both the range of principles that might be developed as
well as the extent of coverage that these principles could have in relation
to different forms of corporate entity.
Continued over
The Consultation Process
The consultation process has been developed to enable the Securities
Commission to identify the level of consensus within New Zealand
around:
1. What a set of governance principles should encompass
2. The range of issues that need to be reflected in the principles
3. The range of entities to which the governance principles should
apply
The Commission has used external advisers to develop the Background Reference
Paper and the Questionnaire that underpin the consultation
process. Both the
Questionnaire and Background Reference paper have been subject to rigorous peer
review.
1. The Principles
Based on the review of local and international perspectives and practices,
nine core issue areas have been identified (see page six).
Using the feedback obtained through this consultation practices, overarching
principles will be crafted in relation to each of the
nine issue areas –
eg Ethical Conduct, Board Committees, Shareholder Relations etc.
2. The Issues
While there is consensus in some areas about the issues that the governance
principles should address, there are also a number of
issues around which
opinion is divided.
Based on the review of local and international material, a series of
propositions has been developed to enable the Securities Commission
to gauge the
depth and range of opinion around governance practices to establish the norms
that the principles should inform.
If the propositions appear to suggest a rules based approach, this is neither
the intention of the Commission nor the mandate that
the Commission has been
given.
The Commission is interested in assessing the extent to which there is
consensus around specific issues to inform the development
of a set of
principles.
3. The Outcomes
The consultation process has been developed to enable the Commission to
present the Minister of Commerce with a set of Corporate Governance
Principles,
around which there is broad based consensus in New Zealand. If there are areas
where there is a clear lack of consensus,
then these will be
acknowledged.
The Securities Commission, in undertaking this exercise, has not been
mandated to develop rules or regulations or recommend legislative
change or
remedies with respect to these Corporate Governance principles.
The Commission is concerned to ensure that the report of findings that is
presented to the Minister builds on the considerable body
of work that has
already been undertaken in New Zealand and that the Principles are broadly
aligned with both international and local
developments in this area.
The Commission has undertaken to report to the Minister before the end of
December.
4. The Next Steps
The consultation process is open to all interested parties.
To enable the Securities Commission to present the findings of this process
to the Minister by the end of December, the Commission
has set a deadline for
submissions of 5pm Friday November 7.
Submissions should be made using the questionnaire – an electronic
version is available on the Securities Commission website
(see below). This may
be more useful if the replies require more space than provided in the printed
version of the questionnaire.
The project has been designed for qualitative rather than quantitative
analysis. This means that responses will neither be analysed
nor tabulated in
percentage terms, but considered in relation to the level of agreement around
the key issues or themes that the
findings suggest. Please note that the
comments provided in the questionnaire will not be attributed to individuals or
organisations.
A set of principles will be drafted based on the response to the
questionnaire. If you are interested in being kept informed about
the process,
please tick the appropriate box in the questionnaire and make sure that you
provide your email and/or postal details.
Additional copies of the Background Reference Paper and Questionnaire are
available on the Securities Commission website –
www.sec-com.govt.nz
Thank you for your assistance.
The Key Corporate Governance Issues
Corporate Governance is the set of structures and behaviours by which a
company or other business entity is directed and managed.
The structures and
behaviours guide how the entity sets objectives, develops strategies and
business plans, monitors and reports
on performance, and manages risks. They
also guide how directors and managers meet all expectations and that they be
responsible
and accountable in their respective roles.
There is no single model of good governance: the particular structures and
behaviours that are best for one entity will depend on
factors including its
form, size and type, and its stage of development. But with any good Corporate
Governance, there is an emphasis
on ethical conduct, transparency, legal
compliance and sound business practice.
The key issues in Corporate Governance are varied and complex.
This paper sets out background information to nine issue areas that have been
identified as platforms for good governance.
The issues are:
1. Ethical Conduct – including the use of codes of
ethics
2. Board Composition and Performance – including the role and
definition of independent directors and the issues of
certification/accreditation
3. Board Committees – including composition of
committees
4. Reporting and Disclosure – including quarterly reporting and certification of financial
Statements
5. Remuneration – of executives and directors
6. Risk Management – including levels of disclosure
7. Auditors – including rotation and oversight
8. Shareholder Relations – including institutional
shareholders, public reporting
9. Stakeholder Interests – addressing the interests of
stakeholders
International Developments
Regulators around the world seek to promote good governance through either a
“rules- based” or “principles-based”
approach. The
former tends to rely more on detailed prescription while the latter sets
guidelines for behaviour with detailed disclosure
thereafter.
The United States has taken the rules-based approach. The Congress passed
the Public Company Accounting and Investor Protection Act
2002 or Sarbanes Oxley
Act, in response to US debate following major corporate collapses. The Sarbanes
Oxley Act imposes extensive
requirements on public companies, issuers, and
auditors in respect of financial reporting and auditing, disclosure and other
governance
practices: see www.sarbanes-
oxley.com or for summary information, www.aicpa.org
Other countries have tended to have a more principles-based approach.
The United Kingdom has a history of debate and review on governance matters,
much of this embodied in “The Combined Code: Principles
of Good Governance
and Code of Best Practice” for companies listed on the London Stock
Exchange (UK Code). An updated Code
takes effect on 1 November 2003 after
revisions by the Financial Reporting Council (FRC): see www.frc.org.uk
This follows a government-initiated “Independent Review of Non-executive Directors” by
Derek Higgs (Higgs Report, January 2003): see www.dti.gov.uk
The revisions also embody recommendations in the FRC-commissioned Smith
Report (January 2003) on the role and practices of audit committees.
The
earlier Hampel, Cadbury, Greenbury, and Turnbull reports examine various
governance issues of international relevance.
Australia has been very active on matters of Corporate Governance policy, largely through the Federal Government’s Corporate Law Economic Reform Program. The so-called CLERP
9 package (September 2002) outlines legislative and other changes in audit
regulation, financial reporting and disclosure, and shareholder
participation:
see www.treasury.gov.au
The Australian Stock Exchange formed a Corporate Governance Council to work
on the issues and produce “Principles of Good Corporate
Governance and
Best Practice Recommendations” (March 2003) (Australian Principles): see
www.asx.com.au
International agencies have been active also, including an OECD working group with
New Zealand Government participation. OECD Principles of Corporate Governance
(OECD Principles) are a consensus view on fundamental principles for all member countries:
see www.oecd.org
The Commonwealth Association for Corporate Governance published “CACG
Guidelines: Principles for Corporate Governance in the
Commonwealth”
(1999): see www.combinet.net
New Zealand References
Debate in this country has been served by valuable proposals and commentaries
over the past year including:
• Securities Commission draft principles (November 2002) and speech by Jane
Diplock, (April 2003): see www.sec-com.govt.nz
• PriceWaterhouseCoopers "Corporate Governance Issues Research" (February 2003)
Issue One: Ethical Conduct
Good governance will always require ethical and responsible conduct by
directors and managers. Ethics, it is sometimes said, cannot
be regulated. Much
thinking has been devoted to what particular structures and guidelines might
have a positive influence on behaviour
and so promote ethical conduct among
directors and managers.
Formal codes of ethics or conduct are widely favoured: companies adopt
codes as a set of behavioural guidelines and to demonstrate for shareholders,
and others, their
commitment to ethical conduct. The Australian Principles, for
example, recommend each entity form its own Code of Conduct that will
bind
directors and those employees who “materially influence the integrity,
strategy and operations of the business”.
NZX proposals would apply the
same approach in New Zealand. The Sarbanes Oxley Act requires disclosure from
US public companies
on their codes of ethics for senior management (or
explanation as to why they not have such codes).
Codes may contain many different elements, including some that are specific to the type of entity. Conflicts of interest – how to identify and manage them – is one area of focus. Trading in company shares is another: the Australian Principles recommend public
companies form their own policies and procedures to ensure compliance with laws on insider
trading.
Where codes have been adopted, it is often not clear what happens if and when
they are breached. The Australian Principles outline
that individual directors
and employees have responsibilities to report and investigate apparent code
breaches. There are questions also over the value of disclosing codes
and perhaps reporting on performance against them. There are a range of
views on the effectiveness of
codes.
Refer Questionnaire page 5
Issue Two: Board Composition and Performance
Boards must be effective in performing crucial supervisory and monitoring
roles in their own particular context. Much has been written
on the Corporate
Governance role of boards. An international view on the nature and extent of
their responsibilities is, for instance,
well articulated in the OECD
Principles.
The structure and culture of boards varies widely around the world. For
instance, in Northern Europe it is common for an entity to
have two boards,
supervisory and management, that have separate but complementary functions. In
the USA, Board power has often been
concentrated around the role of the
Chairman/CEO. Board effectiveness will always involve issues of board
composition and performance
self-assessment.
It is widely accepted that boards must comprise directors who can think
independently and objectively, and effectively hold management
to account. The
role of independent directors is important. The Australian Principles,
the Sarbanes Oxley Act and the new UK Combined Code all favour boards having a
majority
of independent directors (exceptions for smaller listed companies in
the UK): they have broadly similar definitions of independence
(the Higgs Report
gives a comprehensive definition).
NZX proposals favour independent directors comprising at least one third of the board (with a minimum of two directors). A key difference is that under the NZX rules the minimum 1/3 requirement would be compulsory, whereas the ASX approach is to propose the principle of
a majority of independent directors and require explanation if it is not
followed.
There is ongoing debate on how to reconcile the role of independent directors
with the boardroom interests of majority shareholders,
and the limitations of
any one definition of “independence”. There is a view that the
focus should really be on boards
comprising of the best directors, with
“best” encompassing individuals’ abilities to think
independently and objectively
regardless of their other interests (business,
social or personal).
There is now wide agreement that a single person should not be both an
entity’s chairperson and chief executive. The Australian
Principles, Sarbanes Oxley Act and UK Combined Code all take this view. Merging
of the roles, it is argued, upsets
the proper balance that should exist between
board and management: objectivity will be diminished on the board.
There is also a view that the chief executive should not go on to
subsequently become the chairperson of a board. The UK Code goes
further by
promoting the role of a senior independent director who can be approached by
shareholders as an alternative to the chairman
or chief executive. Another
question arises over the importance or otherwise of having the chief executive
as an executive director.
In one view, this should be the case to ensure the
necessary flow of information between board and management, and facilitate
“team
work” which some commentators see as crucial among the
individuals who guide and manage any business.
Continued over
Defining optimum board size is inherently difficult. Some poorly
performing US companies have been criticised for having relatively large boards.
There is a
general view that the “right” size for any entity will
depend on the size and nature of its business, and its stage of
development.
The Australian Principles see the question being naturally resolved through a
focus on ensuring boards have the range
of competencies they need to be
effective. Some academic literature has argued that a group of seven to nine
members is the optimal
size for decision making.
There is wide agreement on the value of regular performance monitoring at board level, as well as performance monitoring of management. The Australian Principles, for instance, recommend evaluation of the whole board, its committees, individual directors and
executives in the context of measures to encourage higher performance (with disclosure on
evaluation procedures). The UK Code and current NZX proposals take a similar
approach with regular evaluation extending to individual
directors. Performance
assessments are clearly of interest to shareholders, this being one purpose for
annual meetings. There may
be scope to develop channels for shareholder
feedback on board performance (assuming that such feedback is fair and
constructive).
Board performance will obviously reflect the skills, knowledge and experience
of directors. There is ongoing debate on the particular
nature of these –
and the extent to which boards and shareholders should be satisfied that new
recruits do indeed have them.
Current NZX proposals place emphasis on this
issue, with directors urged to undertake appropriate training and to
“remain
current”. The Institute of Directors of New Zealand has
recorded a wide range of views on this issue.
The same issues arise over the most effective processes for director
recruitment, bearing in mind that directors require election
by shareholders but
boards make crucial selection of the nominees. The UK Code calls on entities to
have “open and rigorous”
procedures around the nomination of
directors. The Australian Principles address the issue with recommendations for
board nomination
committees to have special responsibilities and for induction
training for directors once elected. There are questions around the
tenure of
directors with the UK Higgs report suggesting, for example, a three-year initial
term as most appropriate and a maximum
of nine years service by any one
director. On one hand, directors risk losing independence and objectivity
through familiarity with
the business and its management: on the other they grow
in knowledge and experience.
Refer Questionnaire pages 6-8
Issue Three: Board Committees
It has become common practice for boards to form committees of directors
tasked with applying particular focus to areas of board responsibility,
most
notably auditing and financial reporting. There is a common presumption that
committees will enhance board effectiveness and corporate transparency.
Questions remain, however, around the extent to which this is really the case
and around the risk that
committee structures might fragment and diminish the
responsibilities of the board as a whole.
International developments over the past year have put a major emphasis on audit committees, giving them responsibilities for ensuring integrity in financial reporting. Audit committees generally appoint and oversee the work of external auditors, and supervise internal control and reporting functions. The Australian Principles call for a minimum of three members, with a majority of independents and a chair who is not board chair (audit committee requirements are mandatory for the top 200 companies on the ASX). The revised
UK Code favours the same composition and prescribes the role of audit
committees in detail. The Sarbanes Oxley Act mandates the formation
and powers
of audit committees: in the US, all members must be independent and at least one
certified as a “financial expert”.
In New Zealand the IOD has put a focus on the work of audit committees. NZX proposals would make audit committees a mandatory listing rule requirement (with majority independent director membership). There is ongoing debate over whether board and audit
committee chairs should always be separated and the level at which the chief
executive (and chief financial officer) should take part
in audit committee
processes.
There is a focus on other committees in areas of particular complexity and/or sensitivity,
remuneration and board nominations in particular.
The Australian Principles and UK Code favour such committees, in each case
with a minimum of three members and a majority of independents.
Remuneration
committees are intended to set the framework for board remuneration, recommend
policy on issues like incentive schemes
and settle executive packages.
Nomination committees recognise the importance of selecting prospective
directors for shareholder
voting (and perhaps having to terminate the tenure of
others). There has been intense debate in the UK over whether a board chair
should also chair a nominations committee (with this now permitted in the
revised UK Code). The Australian Principles recommend
all committees have
formal, disclosed charters and annual reporting on the work of these
committees.
The NZX proposed Code includes remuneration and nomination committees along
the lines of those recommended in Australia and the UK.
Refer Questionnaire pages 9-10
Issue Four: Reporting and Disclosure
Reporting and disclosure are fundamental in all Corporate Governance. For
shareholders and others to be informed participants, they
must receive
comprehensive financial reports and have access to other information. Good
governance requires these reports to have
integrity, and disclosure to
be timely and balanced. Moreover, it is widely accepted that good
governance requires good reporting on the policies and practices of governance
itself
– and indeed, such reporting becomes fundamental in the context of
a “principles-based” approach to governance.
There is a major focus internationally on ensuring integrity in financial
reporting through audit committee structures and strengthened
management
accountability. The Sarbanes Oxley Act requires that CEOs and CFOs certify
their financial reports to the Securities
& Exchange Commission (with
criminal penalties for violation). The Australian Principles call for the CEO
and CFO to make a
written declaration to the board that accounts are “true
and fair”. Such certification – external or internal to the
entity – is seen as an obvious step to reinforce accountability and to
balance the formal
signoff requirements generally in place for directors and
auditors.
Credible accounting standards also contribute to integrity in financial
reporting. New Zealand plans to adopt international accounting
standards issued
by the Accounting Standards Review Board from 1 January 2007 (or 2005 in the
case of dual-listed companies). Other
countries are moving in the same
direction (Australia in 2005 for all companies). Accounting standards issues
are beyond the current
consultation process.
There is a view that public company quarterly financial reporting is
good for governance: shareholders are kept more informed on performance and
changes in performance are less likely to deliver shocks
to the market.
Quarterly reporting is required on some US markets. However in New Zealand some
people consider that continuous disclosure
practices achieve the same ends and
make quarterly reporting unnecessary.
New Zealand has had a legislatively based continuous disclosure regime
since changes in the law in December 2002. Listed companies must immediately
release material information about themselves
to the NZX unless there are
particular reasons to maintain confidentiality. The requirement strengthens
timely and balanced disclosure
for keeping shareholders and the market informed.
There may be additional steps that would improve disclosure policies and
practices
in the New Zealand context. These considerations may apply in
particular to non-listed entities, which operate beyond current requirements
for
continuous disclosure.
As stated above, governance policies and practices may be a special
feature of reporting and disclosure. The UK Code calls on companies to report
annually on how they apply principles
in the code – and where they have
not been applied, to explain why. The Australian Principles adopt a similar
approach, providing
detailed guidelines on information that should be included
in the Corporate Governance section of the annual report. The entity’s
standing policies and procedures for governance, it is recommended, should also
be published on websites for public access at any
time. Under this perspective,
the level of compliance with – and departure from – the codes and
principles is made transparent
so that shareholders and others can form their
own judgements and hold boards accountable. Code compliance is voluntary but
the
marketplace has a framework for rewarding or penalising companies over their
governance policies and practices.
Refer Questionnaire pages 11-12
Issue Five: Remuneration
Remuneration is a critical consideration in attracting, retaining and
motivating directors and executives. In addition, remuneration
policies and
structures determine how the financial risks and rewards arising from business
performance are shared between directors,
executives and shareholders.
Many issues arise over incentives and rewards in remuneration. In New
Zealand, there is debate over the level of directors’ remuneration
both in general and in respect of particular entities. The debate may focus
on the substantial commitment and responsibilities expected
of directors or on
dissatisfaction with the performance record of boards.
The Australian Principles favour entities forming their own clearly defined links between remuneration and performance, and disclosing relevant policies and processes. Under this view, well-informed shareholders can make their own judgements on whether remuneration levels and composition are appropriate to the needs and circumstances of the
particular business. The Australian Principles note that lack of clarity
over how remuneration is set exacerbates debate about its
appropriateness. New
Zealand and Australia have established requirements for annual report disclosure
on the levels of directors’
and senior managers’ remuneration,
although not associated policies and processes.
The performance link may involve components of remuneration “at
risk”, or received only if and when certain objectives
(profit growth,
targeted operational outcomes and so on) are achieved in the future. There is
debate over the appropriate proportion
of “at risk” remuneration to
total remuneration, and wide diversity in the design of these performance
linkages. The
issues are complex and appropriate structures vary widely across
business types and sizes. The view of the Australian Principles
is that the
complexities facing each entity require the focus of a specialist remuneration
committee.
There is debate over share options as one form of “at
risk” remuneration, where directors and employees take on the same
incentives and rewards as shareholders.
Options have been much favoured in the
United States over the past decade. In Australia, the Investment and Financial
Services
Association has detailed guidance on executive option schemes. The
Australian Principles take a view that options should form no
part of
non-executive directors’ remuneration. The UK Code takes the same view but
with exceptions permissible subject to shareholder
approval in each case. NZX
proposals favour directors taking a portion of their remuneration under a
performance-based equity compensation
plan. There is diversity of opinion on
the appropriateness of options and also on associated questions of financial
accounting.
In the US, there is major debate on whether options issued to
directors and executives should be expensed in the entity’s
profit and
loss statement.
Continued over
Remuneration may be effectively linked to performance but will the entity
really benefit over the long term? Commentators point out
a risk that, where
rewards are achievable in the short term, directors and executives may tend to
ignore their and shareholders’
longer term interests. This “short
termism” may be a concern in the composition of remuneration and the
design of particular
incentive structures.
When directors retire, it may be appropriate to recognise the value of their
service through special retirement payments. This may be part of
superannuation for executive directors or some deferred performance component of
remuneration for non-executive
directors. The Australian Principles take the
view that the latter should not receive retirement benefits other than statutory
superannuation.
Obviously, shareholders and others have a substantial interest in all aspects of
remuneration. In New Zealand, shareholders at annual company meetings must
approve the total of board remuneration each year. In
some circumstances, it
might be appropriate for shareholders to be direct approvers of executive
remuneration policies and/or packages.
Refer Questionnaire pages 13-14
Issue Six: Risk Management
Boards must ensure that risk in all its forms is identified and managed.
There is increasing recognition that the policies and processes
required for
this are central to Corporate Governance. Moreover, sound risk management is a
basic prerequisite for integrity in financial
reporting.
It might be argued that the biggest risk facing any entity is failure in the governance structures themselves. Under this view, the allocation of clearly understood responsibilities to the board and management becomes especially important. The Australian Principles recommend
entities develop their own charters setting out the responsibilities and delegations of the
board. Much of the debate on board effectiveness highlights the need for
timely and balanced reporting by management, and the importance
of questioning
directors who keep themselves informed from many sources.
The Australian Principles also call for formal policies and processes
for risk management, with the CEO and CFO making written declarations to the
board on compliance with these. There are many related
questions around
disclosure of policies, processes and outcomes particularly in commercially
sensitive areas of risk. The UK Code
calls for boards to annually review their
company’s internal control systems and include references to this in their
annual
report to shareholders. In the US, Sarbanes Oxley requires management to
report annually to the SEC on internal control structures
and
procedures.
Refer Questionnaire page 15
Issue Seven: Auditors*
Auditors must be independent and well informed. Good governance requires
close attention to an array of factors that might compromise
independence or
otherwise reduce effectiveness. These factors include the risk that objectivity
is lost as the auditor-client relationship
develops, emergence of possible
commercial conflicts and limitations on auditors’ access to information
and different points
of view.
Much of the debate focuses on whether, and how often, entities should change their auditors
– questions of rotation. The Sarbanes Oxley Act requires rotation of lead audit partners and review partners every five years. In Australia, CLERP 9 introduces that same requirement. In New Zealand, ICANZ has proposed rotation of lead audit partners after seven years.
There is ongoing debate on the possible extension of rotation rules to
audit firms, with some arguing that audit partner change is
sufficient.
Large accounting firms provide audit and other/non-audit services to entities, raising issues of possible conflict. The Sarbanes Oxley Act prohibits firms from providing non-audit
services unless they are of a certain type and in each case, approved by the audit committee. Overall the Act puts a 5% cap on fees that can be earned by an audit firm from providing non-audit services to the same client. CLERP 9 proposes nine categories of non- audit services in which audit committees must give approval and make an annual declaration that no breach of audit independence resulted. The Australian approach will include annual reporting of fees in each category. The UK Code relies also on audit committees to
scrutinise non-audit work and confirm in annual reports that independent has
not been breached. In New Zealand, NZX Code proposals
favour auditors not
performing non-audit work for publicly listed companies.
Other issues arise over the possible advantages of giving access to auditors to employees or others with valid concerns or information that might aid the auditing process – the issue of “whistle-blowing”. Some commentators suggest employees should have some access to audit committees and/or to auditors, outside an entity’s formal accountability system. CLERP
9 in Australia, for instance, proposes legal protection against retaliation
for employees who go to regulators with information in
good faith.
The Protected Disclosures Act 2000 allows employees of New Zealand
organisations to disclose information about serious wrongdoing
in or by that
organisation in certain circumstances.
Governance debate around the world has put a spotlight also on the regulation
and oversight of auditors themselves. In Australia, CLERP 9 proposals
will extend the role of the Financial Reporting Council to oversee auditor
independence.
In the US, Sarbanes Oxley establishes a five member board,
independent of the profession, to set auditing standards. In the UK,
the
Auditing Practices Board has been given new responsibilities to set relevant
accounting standards. There is scope for debate
in New Zealand on the merits of
new structures in this regard.
Refer Questionnaire pages 16-17
Issue Eight: Shareholder Relations
Some commentators have focussed on the contribution that well-informed
shareholders make to good governance.
Relations between entities and their shareholders or owners must be
cooperative and mutually responsive. This obviously depends largely
on the
effectiveness of communication between them. Various governance issues arise,
therefore, around the content, timeliness and
processes of
communication.
There is a trend towards making entities more responsible for shareholders’ understanding of strategy, performance and other matters including governance. This is reflected, for
instance, in Australian CLERP 9 proposals for easier communication processes.
Legal barriers to companies emailing annual reports
and other documents will be
removed, while they will also be required to publish questions from shareholders
on their websites.
Some have challenged whether, particularly in markets where institutional
investors make up a significant part of the market, they
should have actual
voting responsibilities.
The UK Code, for example, puts special emphasis on dialogue and “mutual understanding of objectives” between companies and their institutional shareholders. The Code calls, for instance, for the board chair to have discussions with these shareholders on governance and strategy. Moreover, it holds that institutions have a responsibility to make “considered use” of their votes and disclose their voting behaviour to their own members on request.
Shareholder obligations, including possible voting obligations on institutional
shareholders, are an area of debate.
There is an increasing focus on ensuring effective communication and
shareholder participation at annual meetings. For instance, the UK Code
promotes opportunities for shareholders to question board committee chairs. In
the UK and Australia,
companies are now encouraged to facilitate access for
shareholders to the auditors at annual meetings (New Zealand has long required
auditors to at least attend meetings).
Shareholders who are well informed are more likely to engage with the
company. The Australian Principles call on entities to design
and disclose
their policies and strategies on communication itself. This should, it
reasons, encourage shareholders to access information, ask questions and
participate at meetings.
Much of the thinking on communication is directed at public listed companies,
but there are important questions around the quality
and timeliness of reporting
and disclosure by other forms of entity.
Refer Questionnaire pages 18-19
Issue Nine: Stakeholder Interests
Stakeholder interests (beyond those of shareholders) have entered debate on
Corporate Governance largely through recognition that
creditors, suppliers,
employees and others can also be major contributors to business success, and be
exposed in the event of corporate
failure. Concepts of “social
accountability” have also gained traction in some countries.
The OECD governance principles put a particular focus on stakeholder interests, calling for “active cooperation” between entities and their stakeholders. The OECD does, however, accord more prominence to the interests and rights of shareholders and notes that cooperation with stakeholders will reflect the laws and customs of each country. Under this view, governance policies and practices specific to stakeholders should not mean rolling
back shareholder rights or creating new rights for stakeholders. The
Australian Principles call for entities to recognise the legitimate
interests of
stakeholders – this is best done by ensuring legal and self-adopted
obligations toward employees, consumers and
others are built into a board and
management code of conduct (see Issue One).
There is potentially wide scope for debate over how stakeholder interests
are represented at board level and the extent to which such
representation should be addressed through governance policies and
processes.
Refer Questionnaire page 20
Click here to return to Issue Seven
24 September 2003
Dear Reader,
CORPORATE GOVERNANCE IN NEW ZEALAND – CONSULTATION ON
ISSUES AND PRINCIPLES
Recently we sent you the Questionnaire and Background Reference, entitled “Corporate
Governance in New Zealand – Consultation on Issues and
Principles”.
On page 17 of the Background Reference we summarise corporate governance
issues and developments regarding auditors. This letter
is to clarify two
aspects of this summary.
The third paragraph discusses issues of possible conflict arising when
auditors provide non- audit services. This refers to the United
States Sarbanes
Oxley Act, and states that the Act puts a 5% cap on fees that can be earned by
an audit firm from providing non-audit
services to the same client. In fact,
the Act does not impose a cap. The Act contains a number of measures that aim
to ensure
that auditor independence is not compromised by the provision of
non-audit services. These are quite complex. Generally audit committee
approval is required for the provision of non-audit services.
We also refer to NZX’s draft corporate governance rules and Corporate
Governance Best Practice Code. The draft Code that
was available when our
paper was prepared said that auditors should not provide non-audit services.
The final version replaces this
by expanding on NZX’s expectations of
boards regarding the relationship between issuers and auditors. It encourages
boards
to establish frameworks for this relationship, to ensure
that the independence of auditors is not impaired, and to
address what, if any,
non-audit services may be provided by auditors to the issuer.
Pages 7 and 8 of the Background Reference contain references for readers
wanting more information on any of the topics in our consultation,
including the
Sarbanes Oxley Act and the NZX corporate governance proposals.
Liam Mason
General Counsel
Click here to return to Issue Seven
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