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The Financial Director Interview – The Apprentice

A favourite question Financial Director has asked FDs and regulators over the last few months is to compare Enron’s mammoth and broadly unintelligible 10K filing with HSBC’s 300-page annual report. Probably everything one needed to know about Enron was in its accounts: there is an extensive note on related-parties transactions, for example, which gave plenty of hints of off-balance-sheet vehicles. But the question is, how can the average investor – or indeed analyst or large shareholder – penetrate the increasing complexity of annual reports and filings so as to tell good companies from bad? HSBC’s business practices are surely a paragon of virtue, but 300 pages of annual report hardly make that self-evident.

Douglas Flint, HSBC’s group finance director, who places his investor relations role above financial reporting and business strategy, is not a fan of his annual report for this very reason. “As a communication document it is not very good,” he says. “The 300 pages are an enthusiasts’ and analysts’ delight of figures.” The annual report, he adds, gives you everything you might want to know about HSBC, but only “if you know what you are looking for”.

Where HSBC’s annual report differs from Enron’s, argues Flint, is in the language. As a Scotsman, Flint’s take on the man on the Clapham Omnibus is the small shareholder in Fife. “You have to at least understand what the words mean,” he says. “There is no excuse for lawyerly obfuscation that meets the letter without embracing the spirit of disclosure.”

Clever obfuscation, as shown by a few fraudulent individuals’ manipulation of rules-based accounting in the US, is one reason Flint – who also happens to be an advisory member of the International Accounting Standards Board – believes international accounting standards hold “the greatest opportunity” for global business. “We increasingly have a global marketplace for stocks and a global marketplace needs a global language,” he says. “The greatest challenge will be to craft a universal accounting language. And there has probably never been a better chance to do it. There is no real defence for the argument that it is impossible to improve US GAAP.”

But aren’t more rules and codification subsuming the UK’s principle-based system of accounting? “Absolutely not,” says Flint. “We still have a requirement under law to provide a true and fair view that is imposed across all accounting standards. If you don’t apply accounting standards as written because they don’t show a true and fair view then you are obliged under the law to explain why.”

Flint is a great proponent of expensing for share options in the profit-and-loss account. He has no time for those who disagree. “Some people claim you cannot measure the cost of options. How can you incur something, which we agree is an economic cost, say you can’t measure it – and then spend it?” he asks.

Transparency and clear communication is Flint’s key focus. He believes that if you can’t stand up and justify something you have done – a hurdle that a growing number of FDs are struggling with – then you shouldn’t have done it.

“All the independent analyses suggest that, as far as investors are concerned, the finance director is the preferred contact,” he says. “Investor relations tends to be a mixture of strategy and financial discipline … So we always have open and honest communications and I benefit from building up relations with people even at times I do not need them.” FDs should not just appear at the AGM or to announce bad news: “You should be talking to people so regularly that they are not surprised when they hear from you,” he says.

However, there is one problem hindering HSBC’s drive for transparency. Regulation means more paper, and, in the financial services industry, regulation, standards and good practice are such that more and more trees face the chop to end up clogging Flint’s in-tray. HSBC’s annual report will never get any smaller because of the things “regulators, stock exchanges and others believe are important to disclose” continue to grow in number.

HSBC’s audit process, for example, is complicated and hideously expensive. In fact, HSBC can claim the highest audit fees in the FTSE-100, paying £17.2m to KPMG in 2001 – the index average is £2.2m. Flint puts this down to what he calls “quadruple audit” – the heavy internal and external audits undertaken as well as scrutiny from regulators.

Preparing for the introduction in 2005 of Flint’s beloved IASs means even more paperwork. “Standards used to come out one or two a year and now there is an ambition to publish 25 or 30,” he says. “Standards used to be eight pages long each – but now just the guidance notes and interpretation are 400 pages.”

But there is a tension between Flint’s desire for new accounting standards and his dislike of legislation for its own sake. New standards are welcome, but only if they err on the side of UK “principles” rather than US “codification”.

“I believe that principle-based standards are meaningful and right and detailed codification of the rules creates circumstances where you get clever interpretations based on a casual word in ‘sub-paragraph b(i)’,” he says.

In this respect Sarbanes-Oxley is just another example of a set of particularly distasteful “rules” for Flint. For example, as a former auditor of HSBC when he was at Peat Marwick Mitchell (later KPMG), Flint feels it is unfortunate that, under the act, Peats would have had to have resigned the audit when Flint took the FD position at the client bank.

“It is a pity that there have been occasions that have necessitated a rule. It is insulting,” he says. “The deficiency is in governance, not in the relationship between the auditors and the company. What it says is that there is no independent director control over an executive appointing someone from the auditors because that is somehow going to be misused.

Most financial positions in major companies are filled by people who used to work for auditing firms. The highest proportion of them tends to come from the auditing firm of the company in question because they know each other. There is nothing mischievous about it.”

Flint joined HSBC as group FD from Peat Marwick in 1995. It was his first senior finance position at the sharp end of business. “My greatest achievement was getting the job,” he says. And he believes that his time at HSBC’s auditor makes him a better FD. “It means I know the way my auditors think. Having been in the audit profession gives me a good insight into what drives auditors and how to work with them to help them do the job they do and to get benefit from it,” he says.

But Flint is also modestly self-effacing about his lack of experience. He points out that, despite his seven years at HSBC’s financial helm, he is still a little green when compared to the other members of the bank’s senior management who have longer tenures. “The top 35 people in HSBC have over 850 years service with the company between them – an average 25 years service for each. I’m only on seven years so I guess I am only just getting through my apprenticeship,” he jokes.

Flint argues that it is this wealth of experience that makes large companies like HSBC manageable. “There is a confidence in each other and a way of managing – ‘collective management’ – which means that people can be confident that those running each of the major business are thinking about risk and the group in the same ways as each other.”

That’s not to say that Flint isn’t concerned about HSBC turning into another Enron, Andersen or WorldCom, as the complexity of HSBC’s thousands of offices in nearly a hundred countries means that errors and bad practices could go unreported. “You always worry about what you don’t know,” he says. “But we have a framework that works as well as any I have seen in any organisation. Our culture is one where hiding a problem is the worst thing you can do and sharing a problem is career-advancing. But it is inconceivable that something isn’t going wrong somewhere.”

Kent Atkinson, LloydsTSB’s former finance chief probably wouldn’t agree that HSBC, the self-styled “World’s Local Bank”, is doing the right thing by its 190,000 shareholders. When Financial Director interviewed Atkinson in May 1998 he was dismissive of companies’ abilities to operate globally and still create value for shareholders. “There is no doubt that when you spread your wings across the world the quality of your earnings comes down. Any company going outside its home market automatically lowers the quality of earnings because there are greater risks,” he said.

Flint is firm on this point. “I think it is a slightly insulting to say there is no quality of earnings in the world greater than in the UK,” he says. “We have many parts of the world where the quality of the business is at least as good as the business we have in the UK. The Hong Kong & Shanghai Banking Corporation has seen a quality of earnings from a franchise that has been supported for 137 years.”

But HSBC is continuing its global expansion with heavy investment in China – even though Flint says shareholders will not see the benefits from it for 20 years. But he argues the investment must be tempered by an appreciation of risk. Banks shouldn’t be at the “exciting end of business”, he says. “They should be predictable and shouldn’t produce surprises. If predictable means dull, I still think that is important.”

Even if predictability is unattainable, especially in the light of volatile markets, then the business risks should still be tightly managed. “Markets are very volatile at the moment because people are worried about things that cannot be controlled,” he says. “I don’t think there is anything you can do except build a financial framework on the basis that the unpredictable or unthinkable can happen.”

Pulling back on the reins is also important. Sometimes the FD has to be the man who says no. “At a time like this there is a creeping willingness to embrace a higher risk profile because conventional sources of revenue are drying up. You can follow that path and be successful or you can manage the business tighter. We need to stay within the risk parameters where we feel comfortable,” he says.

A self-confessed “dreadful golfer” Flint’s business philosophy is that you should shoot for the fairway rather than the green. “If the wind is howling and the rain is coming down and you are behind a tree you play out sideways and go for the green later. Don’t go for the slice that only comes off every three years. Play according to the conditions,” he says.

So how do you look after a company whose assets run to almost $700bn? Do you have to ignore the last six zeros so that you can get your head round the numbers? “Oh, no. Absolutely not,” says Flint. “You ignore the first six zeros: you just look after the pounds and then the hundreds and the thousands take care of themselves.”

Name: Douglas Flint
Age: 47
Qualifications: CA, CIMA, ACT
1995- Group finance director, HSBC
1988-1995 – Partner, Peat Marwick Mitchell & Co

What is the biggest challenge in your job?
The most difficult challenge is balancing management time between internal, external and personal constituencies. You need to make the best balance between all you want to achieve in business. You mustn’t get dominated by one element that wants your input more than others. He who shouts loudest shouldn’t necessarily get noticed.

Is there any achievement you are particularly proud of?
Getting this job.

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