The financial crisis that began in 2007 has put the spotlight firmly on how corporate, especially those in the financial sector, have addressed issues such as risk, reward, governance and ethics. ACCA and others have argued that failings in these areas played a major part in creating the crisis. It is clear that risk has not been addressed with sufficient respect or understanding by institutions.
The link between risk and the rewards earned by individuals was not given sufficient consideration, and the risk function itself was undervalued, and too far down the corporate pecking order to be effective. Many claim that this has changed since 2007, but questions must still be asked about how genuine and permanent this change is going to be. Risk can never be eliminated from business, and it would be wrong for regulators or governments to think they can do so.
Risk creates opportunities and should be managed, not removed. A balance must be struck between, for example, ensuring that banks are sufficiently capitalised in order to prevent their collapse in a downturn, and avoiding over-cautious requirements which prevent banks gong about their socially beneficial business - and that includes lending to businesses. Business risk takes any number of forms.
Staring up a new business is a high-risk exercise in itself - it is estimated that half of all businesses fail within three years. When a company fails, invariably its investors and creditors stand to lose their money; thus, anyone hoping to create a viable business in the long term needs to plan for how it is going to overcome the challenges which they anticipate.
Any decision about whether to invest a company's resources in the manufacture of a new product, or its entry into a new market, will invariably need to take into account the prospects of that investment achieving a profitable rate of return, over some specified timescale. And businesses operating in particular markets or market sectors will often face special challenges which need to be identified, understood and assessed. These are strategic and operational matters which a company's management must address as part of responsible business planning. Other threats and challenges come from the external environment. The law and other forms of regulation invariably impose a wide and growing range of compliance obligations on businesses, especially large and listed companies. These obligations will often involve companies in a substantial investment in their internal resources and procedures to ensure that neither the business nor its staff incur sanctions for breaching the regulations. Businesses are also increasingly aware of the interest that a wider group of stakeholders now has in their activities. These include not only the company's shareholders and regulators, but also its target market of consumers, the media and the general public. Companies themselves are more conscious than ever before both of the relationship between their image in the market place and consequential consumer behaviour, and of the implications of this relationship for their business prospects.
Specific controls imposed on companies by the external business environment may include:
-- companies legislation
-- prudential requirements imposed on financial
-- institutions by legislation or regulation
-- compliance and disclosure rules imposed by listing authorities
-- financial reporting rules and standards
-- internal control requirements, such as those required by legislation
-- anti-bribery controls
-- market-driven codes of practice
-- legislative and regulatory requirements which require companies to meet wider social objective, eg on health and safety and employment
-- influence and pressure from NGOs.
CORPORATE VS INDIVIDUAL RISK
While it is hoped that directors and staff will consider risk and reward objectively in the interests of the company, human nature means that people may be tempted to place more emphasis on their own personal reward and risk.
Just as companies will take risks for reward, so will employees. The difficulties of how to align executives' pay with their performance are well documented, though it should be stated that incentive pay is a good principle, as long as the long-term benefits of the company are the key criteria, not merely short-term gain. The challenge is to ensure that incentive pay gives incentives to the right behaviour.
Beyond the issue of pay and incentive, it is also important that companies appreciate what drives behaviour. Our behaviour is driven by our beliefs and values. Corporate policies and procedures focus on what is visible, particularly the lower right quadrant. Arguably, companies should focus more on the lower left quadrant of corporate beliefs and values and the extent to which they are congruent with the personal values of the people in the organisation.
The pursuit and achievement of profit, whether motivated by individual or corporate ends, does not necessarily correspond with the notion of sustainable 'success'. The challenge for a responsible business is to find ways to ensure that the rewards it seeks are supported by sensible management of the risks that confront it. This report discusses the complex issues, particularly the ethical and behavioural factors, which must be addressed.
To view the complete report, visit www.accaglobal.com
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