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Corporate governance: Wake-up call – risk transparency needs to be ‘central’

It was the veteran muck-raking journalist Claude Cockburn who used to provide
the sort of advice we need today: “Every morning when you wind up your watch you
should wind up your mind as well.” And that may be the trouble, people no longer
have to wind up their watches every morning. Like so much in life, a
screen-based system does it for them. And it becomes easy to forget, as is
dawning on us every business day of our lives, precisely what lies beneath the
information we use.

But this is the most important focus for any member of a board of directors
in 2009. Under the Companies Act 2006, directors have to take the long view and
explain what they are up to. They may be tempted to set this aside as another
bit of old boilerplate to put in the report and accounts. But it could be a very
useful overriding principle to stare at in the mirror every morning. You may not
have to wind a watch up, but you do have to think ­ and think harder than ever
before.

It may be a cliché, but it’s true ­ the world has changed. Even at this time
last year, any finance director who was asked where a material uncertainty might
lie would have what they thought was a fairly competent view, backed up by all
the papers and documentary evidence that an investor, or a lawyer, might want.
That is no longer the case.

Now it is different. So how should you tackle it? For a start, just as the
world has changed, so should your approach. Throwing out all the thoughts and
procedures which would have seemed automatic last year should be a start. All
you need to know, as one finance director said to me recently, is that “same as
last year” cannot be an option.

The old procedure of starting from last year’s figures and effectively
twiddling them a bit is no longer of any use. It is time for a blank sheet of
paper. There has to be a new story to be told. There has been a profound change.
And at the heart of it, for all directors, let alone finance directors, is the
issue of going concern.

This means dealing effectively with the risks which the company faces. All
those neat risk matrixes which were sent up to the board of directors in recent
years proved little use when the whole world tipped sideways. Suddenly the bit
of the risk boxes which no one ever took any notice of was the bit which was ­
typically ­ the most pressing and important. It was that chunk labelled “High
risk. Low likelihood.” But that is now exactly where the majority of companies
find themselves.

Not just that. Risk has for too long been packaged away as a separate
discipline. Directors look at the reports. They become an aide-memoire. They
don’t become central to board thinking. One risk expert once pointed out to me
how a risk manager had been hauled over the coals because one specific risk had
appeared out of left-field and caused great damage to the company. The board was
incandescent. The risk managers got it in the neck and then pointed out that the
risk which the board had been unprepared for was high on the risk analysis which
had gone up to the last board meeting. The board just hadn’t paid any attention
to it. Classic, really.

Risk must now be central – and central not just to a company internally, but
also to its investors externally.

The finance director that survives will be the one that manages to tie these
two concepts together. The board should need no incentive after the events of
the last year to take risk rather more seriously and to actively seek out risks
which fit in the high risk, low likelihood box. Likewise, the more companies
come clean to investors over the risks that they face and explain what they are
doing about them, the better chance of survival they will have.

There are other measures which have now come fully into force which, if
properly used, will help directors get a grip. The first is the use of the
business review. People may have complained, back when it was being formulated,
that this is just more bureaucracy, but now it seems a timely tool to provide
help. Add this to IFRS7 covering the disclosure of liquidity risk relating to
financial instruments and you have a package which can be used to update
corporate thinking and turn disclosure into something useful both to investors
and directors.

Put both of these measures together and then set out to provide a narrative
and information that will make your company’s disclosures valuable. This is the
year when, above all, companies that put across a credible and well-documented
story that reassures investors are the ones that will last the course.

But the key skill will be that daily winding up of the mind to cope with
ever-shifting circumstances.

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