A mug’s game

A FEW weeks ago, I attended the Odgers Berndtson annual dinner for audit committee chairmen and finance directors. While talking to a non-executive director (NED), I politely asked if he was looking for an audit committee role. He declared: “Being on the audit committee is a mug’s game. The £10,000 additional pay doesn’t justify the huge amount of time you need to spend getting to grips with the detail, not to mention all the extra risk you carry if things go wrong. Outside the FTSE 100, you often don’t receive any extra pay unless you are the audit committee chairman.”

I was a bit surprised, but on reflection perhaps he has a point. Though given the absence of any legal distinction between executive and non-executive directors, I somehow doubt that avoiding joining the audit committee will protect him if things go wrong, so perhaps the balance of risk and reward is a concern that should be shared by all NEDs.

The responsibilities of NEDs, and particularly audit committee members, have increased significantly in recent years. The current UK Corporate Governance Code gives NEDs a strong role including developing strategy, applying constructive challenge, hiring, firing, evaluating and remunerating executive directors, and satisfying themselves as to the integrity of financial information and that controls and risk management are robust.

The audit committee’s role is considered so important it was subject to a separate review in 2003, when the Smith guidance on audit committees was annexed to the Corporate Governance Code. The audit committee is the guardian of the integrity of a company’s financial performance, and given the complexity of some of the accounting standards, this is no small task.

Like all good NEDs, audit committee members must ask the right questions and be persistent if not satisfied with management’s responses. However, to paraphrase former US Secretary of Defense Donald Rumsfeld, the members of an audit committee don’t know what they don’t know. Audit committee members are usually deluged with information, including detailed financial statements, and it can be difficult for audit committee members to pick out from this mass of data the key judgements made by management.

The audit committee must therefore rely on management to supply the necessary information to enable it to do its job properly. Management should not wait for the audit committee to ask for information; instead, it should ensure the audit committee is kept informed on relevant matters at all times, and should take the initiative in supplying the committee with full and frank disclosure of information relating to key judgements that may have a material impact on the company’s financial statements.

In the end, no amount of structure or process can ensure an NED, an audit committee member or even an audit committee chairman will be effective in ensuring the best possible corporate governance for which we all strive. Nor can it remove the risks of corporate mishap or even catastrophe.

The key to good corporate governance lies in the culture of a company, both in the boardroom and throughout the business. Developing an atmosphere of rigorous and constructive challenge is critical. At least as important, in my experience, is ensuring you have a culture where the NEDs’ challenge is met with openness and integrity. The chairman and the senior independent director have a critical role to play in achieving the required culture, as well as ensuring there is an appropriate balance of independence, skills and experience on the board. ?