Strong Governance, Healthy Business
Good morning.
Thank you for the warmth of your welcome.
It is a privilege to be with you this morning
And it is a privilege to call President Herath a friend and colleague. In his short time as president of CA Sri Lanka, and even before, he has shown vision and fortitude in advancing the growth and development of the accountancy profession in Sri Lanka, and by sharing his insights with us as we work globally.
Arjuna also serves on IFAC’s Professional Accountancy Organization Development Committee. There he contributes greatly to strengthen the capacity of professional accountancy organizations globally.
Two former CA Sri Lanka presidents also serve the global profession by serving on an international standard-setting board: the International Accounting Education Standards Board and the International Ethics Standards Board for Accountants.
The global accountancy profession is supported by the volunteer work of so many. On behalf of IFAC, I want to thank CA Sri Lanka for sending individuals of such excellent caliber and commitment to serve on our committees and the profession’s international standard-setting boards.
I also acknowledge the long history between IFAC and the Institute of Chartered Accountants of Sri Lanka.
IFAC was formed in 1977 and CA Sri Lanka has been an IFAC member since 1978, ensuring that the accountancy profession remains at the forefront of Sri Lanka’s growth and economic development.
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As some of you may know, while this is my first official visit to Sri Lanka as IFAC President, it is not my first time in Sri Lanka.
I was here almost exactly 10 years ago in a private capacity. Following the 2004 tsunami, my local community in Louisville, Kentucky, raised over 1 million US dollars to help people whose lives had been devastated. There were many people and organizations that arrived here for relief work, but our goal was to provide the assistance and funds needed for people to rebuild businesses and support their families and communities going forward.
But a million dollars is a lot of money to effectively put to work over a short period of time. We knew that oversight, accountability and governance would be critical to success.
At the time, I was on the board of an NGO that was doing economic, health and education work under demanding and difficult circumstances in Afghanistan. Since we had relevant experience in disbursing funds in a responsible and accountable way where needs were great, we volunteered to assist with disbursing these funds. After much discussion and consideration, we chose to do this in a single country in order to maximize the benefits and impact. The country we chose was Sri Lanka.
I arrived in Sri Lanka in October 2005 with a team of six people, including some very experienced executives like yourselves, and spent over a week visiting survivors who had lost entire businesses or essential operating assets, evaluating their needs and opportunities, and determining how to most effectively put these funds to work for the benefit of Sri Lankan families and the economy.
We were acutely aware that we needed to assure that monies contributed were properly managed, with appropriate oversight and effective governance. And, most of all, that the funds benefited as many of the most in-need people and projects as possible.
Ultimately, we helped to rebuild communities, replaced business establishments complete with new equipment, provided sewing machines to tailors and mothers, handed out boats to fishermen and bicycles to those in need of transportation to get to work.
I will never forget what I saw or the incredible people that I met, including other Sri Lankan accountants and professionals working hard at every level to provide support for their country in this time of overwhelming needs.
I’ve heard there is a Sri Lankan proverb that says “Wisdom can be found traveling.” My first trip to Sri Lanka was an unforgettable learning experience. And I expect this one will be also.
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I’m here today to talk with you about a topic that was helpful even during our post-tsunami work - and that is governance. More specifically, I want to focus on the tremendous benefits strong corporate governance can deliver to the companies and organizations you lead.
The past few years have challenged companies and boards in quite serious ways. In the midst of the economic crisis, the importance of strong corporate governance was brought to the forefront.
As IFAC President of IFAC, I lead an organization which consists of 175 members bodies in 130 countries that represent over 2.8 million accountants. Our entire profession views corporate governance as a critical link in the financial reporting supply chain and for the success and sustainability of any organization – regardless of size or mission.
But my personal perspective on this is derived not only from inside the accounting profession, but is greatly contextualized by my experience inside the boardroom.
I have served as a non-executive director of several publicly listed companies over the past 20 years, and on boards of many other organizations of all types. I have seen the difference robust governance can make to enhance decision-making in ANY organization.
As CEOs, CFOs and senior leaders, I submit to you that embedding strong governance into your organization’s DNA is one of the most important things you can do as a leader.
Sri Lanka is one of the fastest growing markets in the South Asian region. Its GDP grew by 7.4% in 2014, up from 7.2% in 2013. Expectations for future economic growth, fueled by tourism and heavy investment in infrastructure, are for about 7% a year in 2015 through 2019.
So in many respects, the economic outlook for Sri Lanka is very positive. Yet challenges remain. There is always more to do.
Taking Sri Lanka and its businesses to the next level is going to require a strong, decisive, and embedded governance culture. All organizations–large and small, public and private—must care about it.
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Sri Lanka is no stranger to corporate governance. And CA Sri Lanka has been at the forefront of strengthening governance in this country. Sri Lanka’s first corporate governance code was issued by CA Sri Lanka in 1997. A revised version of the code, which was a joint effort between CA Sri Lanka and the Securities and Exchange Commission of Sri Lanka, was issued in 2013.
The accountancy profession has long been an active advocate for good governance. In 2007, just prior to the financial crisis, IFAC commissioned a global governance survey of more than 340 people in financial reporting, including standard setters, regulators, investors, company managers, directors, and auditors.
This pre-crisis survey identified that progress had been made in improving governance since the corporate financial scandals early in the decade. But it found that more needed to be done in some key areas. Those areas included:
- Improving corporate ethics and the “tone at the top”;
- Linking remuneration structures to long-term sustainable performance;
- Moving away from legalistic compliance – or a checklist mentality – to principles-oriented oversight and management; and
- Improving financial reports by making them more transparent
A follow up report in 2008—again before the full effects of the crisis were being felt—highlighted other governance issues that needed to be addressed:
- Risk and control systems were too narrowly focused;
- Business models were not sufficiently integrated with overarching governance and sustainability;
- There was a lack of safe harbor protections for those charged with governance in some parts of the world; and
- There was a great need for better governance in public sector organizations.
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As Sri Lanka becomes a more internationally integrated economy, your commitment to good governance is going to be essential to Sri Lanka’s success.
In the U.S. and Europe, there are many new governance rules and regulations companies and Boards must comply with.
But more regulation is not an adequate answer – it is mindset and commitment that enable effective governance.
Several years ago in the aftermath of the financial crisis, I attended a London meeting with 20 corporate directors from the largest global financial institutions. Most of them were audit and risk committee chairs. It was our second meeting to discuss common governance challenges and how best to carry out our control and risk oversight responsibilities.
An analogy provided by one participant asked what train we wanted to ride to the future: one that devoted time and resources to upgrading infrastructure and systems OR one that continued to operate in basically the same way as it did before the last disaster, with just a few added checkpoints and reports along the way.
The point was simple: we all need to devote much more time developing systems and infrastructure upgrades rather than writing plans about disaster recovery programs – or so-called “living wills”, now required of financial institutions.
In my consultancy business, I work with public company board members to help them gain new insights and learn new techniques to better carry out their governance responsibilities. Or in the words of the prior example: improve their systems and infrastructure.
They appreciate what I call “take away” items from these sessions: – ways to improve the quality of information they receive, questions they should be asking, follow-up techniques, and processes to improve effectiveness. And while Boards I have joined have not always been comfortable with information and process change, without exception change happens as soon the benefits of robust governance are explained.
So today, I would like to highlight three areas that I have found can really move the needle towards stronger and more effective governance.
1. Executives as well as boards have critical roles to play in corporate governance reform
I’ll start with the competency test. First and foremost, Boards and their committees must conduct a challenging assessment of their adequacy and qualifications to protect and represent investors and stakeholders.
Boards must be willing to honestly assess themselves - as a group and each director individually - and ask:
- Do we truly understand the business, the issues, and the risks?
- Are we equipped to effectively represent our stakeholders?
- Are we sufficiently informed and able to understand the implications of basic judgment calls in order to offer credible challenge?
It is hard for people to answer “no” to these questions, so I emphasize the “understand” point. If any director doesn’t understand the business model, the risk, the transaction, the market, then that is a problem.
Directors must be equipped to ask the tough questions about:
- specific transactions, expenses, revenue streams and new initiatives ; and
- Board composition … whether member “renewal” is required in order to achieve deeper experience and understanding.
This need for assessment and challenge was highlighted by the financial crisis, especially in relation to risk.
Prior to 2008, I think it is fair to say financial services sector risk models were thought to be the most comprehensive, yet we still experienced unimaginable problems - a liquidity and interdependence crisis
So what is the message? Risk management is a long, long way from good in many organizations.
Will new regulatory risk management rules at the systemic level protect investors? No.
Each company is must build their own models and capacity to address risk. Boards, senior management and accountants are all on the hook here.
Directors must have high expectations and increased knowledge of the business to make meaningful progress. This is an area where we have “miles to go” before we get to a desirable destination. And true leaders need to be leading the march, not watching from the sidelines.
I think working with internal and external auditors, along with “industry experts” will be necessary to make this happen. Simply setting up a Risk Committee is not the answer. In fact, a huge concern of mine is that establishing a board Risk Committee has great potential to create even more risk oversight gaps, with duties split among the Risk & Audit Committees, as well as the full board.
But initial steps must be taken, and those of us in this room must lead. Those steps are to: 1) make risk management and oversight a priority, 2) make risk a consistent Board agenda item – not an occasional one, and 3) discuss risk appetite and mitigation plans, AND evaluate when actual mitigation steps take place to assess their effectiveness. We must ensure there is meaningful progress in advancing risk oversight – it is essential for effective corporate governance.
2. Governance within the management structure is also critical
As executives, we must challenge ourselves and our organizations to gain a deeper understanding of complex business models and issues. As with effective Board governance, it begins with continually examining whether the right people with the right skills are working in the critical risk and control areas: within operations (first line of defense), accounting, finance, risk management (second lines of defense) and internal audit (third line of defense).
As business models and business complexity changes, we must ask: do our employees have technical skills, and deep operational understanding and experience? Do we have the right mix of people and skills?
If management teams and employees cannot comfortably explain the overall picture of business direction, the effect of decisions, and assess enterprise-wide risks, then how can a board member do their job effectively?
This may seem to be an oversimplification, but we need to challenge our business and staffing models. Your business cannot ride into the future with the mismatched people skills and roles, and poor systems and structures.
3. Professional accountants are uniquely qualified and stand ready to help
In 2012, I was part of a Corporate Governance Study Group sponsored by the Rockefeller Foundation. Our charge was to examine governance gaps and suggest ways to bridge those gaps. During one of our meetings, the Dean of Columbia University Business School, made the following observation: “There are three kinds of gaps that boards must address: gaps in information, gaps in oversight, and gaps in expertise.”
I am convinced from many years serving on boards that the accounting profession is uniquely positioned to help companies address those gaps. Information is our business. Industry and financial expertise are our core competencies. In many countries, audit committees and our profession initially led the way for improved corporate governance. The accountancy profession stands ready to help organizations understand the essential elements, structures and processes for strong corporate governance.
Not only do professional accountants have the training and competencies that can give valuable input to this process, but it is ALSO in OUR best interest to play a significant leadership role.
Effective governance leads to transparency and high quality information that enables professional accountants to do a better job. It is essential that our profession is involved at every level of corporate governance.
We often think of our involvement from the perspective of accounting firms or of professional accountants working in business, but the expertise of the profession is needed both outside and INSIDE the boardroom. I assure you, accountants make very good directors!
“Financial expertise” and “professional skepticism” are two of the most important factors in effective board and oversight functions. These are at the core of highly developed professional accountant competencies.
At the end of the day, effective governance comes down to knowing what information is needed, and then having honest, frank and informed discussions on significant issues and risks. Professional accountants can contribute greatly to this discussion – both as participants and facilitators
In summary, I would like to leave you with three “take-aways” regarding the leadership role you can play in strengthening corporate governance in Sri Lanka– and a challenge. First, the “take-aways”:
#1 - ADVOCATE - for strong corporate governance. Be interested in all aspects of governance, initiate dialogue on its most effective forms, and share experiences – with each other, across organizations and industries.
#2 - EVALUATE - Consider conducting a “governance review”– and identify improvement opportunities (much like companies do internal control reviews). Seek out what has been effective elsewhere, highlight existing gaps in company practices and create an action list to bridge those gaps.
This would create immediate value for individual companies, and benefit the national economy.
And please remember that the accountancy profession in Sri Lanka is well positioned to help address any gaps. Please:
- Seek out accountants to not only give advice but to serve on your corporate boards.
- Welcome and embrace their advice on how to strengthen your risk management systems
- Leverage their skills and expertise and utilize them as trusted advisors as you evaluate a broad range of corporate issues and challenges.
#3 - PARTICIPATE - We all need to lead by example - including inside the boardroom, as board members, demonstrating effective information flow, constructive challenge and strong accountability processes.
The competency and expertise of new board candidates has escalated to the top of the list as the world recovers from financial crisis. Today’s boards seek qualified candidates with strong relevant experience including risk management, internal controls and executive compensation structures and incentives. You can help fill these needs as part of Board “renewal” efforts.
And now for my challenge.
Each of you can contribute greatly to reaching the next level of governance effectiveness.
As Sri Lanka’s corporate leaders, you have the gravitas to take this message forward to wider audiences, to advocate for strong corporate governance - and to help others see what that looks like through your own examples.
You have the power to impact economic growth on a very broad scale –not just your own bottom line.
You must not only have good intentions - you must act intentionally.
Thank you for the opportunity to join you this morning.