Effective
Corporate
Governance:
Working with the Board
and Audit Committee
Written by
John F. Levy
Executive Education, Inc.
(734) 475-0600
MBA and CPA
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“Oh would some power the giftie
gie us, to see ourselves as others
see us.”
- Robert Burns
To A Louse
Scottish national poet
(1759 - 1796)
John F. Levy © 2010
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Session Objective
To understand:
• How the relationship between the CFO, the Board of the
Directors and the Audit Committee has changed.
• How you can tap into the knowledge and experience of
your audit committee members.
• The specific roles your audit committee should fulfill and
how to help them fulfill their charter.
• How to communicate effectively with your Board and Audit
Committee.
• How to use the Board and Audit Committee as competitive
assets.
John F. Levy © 2010
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Creating a Competitive Advantage
• Back in the Day
– Was Ceremonial
• Sarbanes Oxley
‒ Then Compliance
• New World Order
– Now Competitive Advantage
John F. Levy © 2010
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Director’s Immediate Concerns
• Additional Board time, attention and
engagement
• More stakeholders watching boards
• Board focused on risk
• Cash forecasting and management are
board issues
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Director’s Focus Today
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Strategy
Risk
Ethics and Tone at the Top
CEO performance and succession planning
Change management
Governmental regulation
Shareholder access and communication
Corporate transactions
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History of Directors
• Dutch East India Trading Company
• Need for capital
• Limited investors
• Direct contact between managers and
investors
• More shareholders
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Delaware Corporate Law
• Delaware laws pro-business.
• Delaware incorporation most common.
• Other pro-business states modeled
incorporation laws after Delaware.
John F. Levy © 2010
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Duties of Directors
• Director duties are governed by state
corporate law.
• Delaware law - business is managed by or
under the direction of the Board of Directors.
• Members of the Board serve as fiduciaries
of the Company and its shareholders.
John F. Levy © 2010
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Fiduciary
• Comes from the Latin fides, meaning faith,
and, and fiducia, meaning trust.
• Act at all times for the sole benefit and
interests of another.
• Highest standard of care.
• Highlighted by good faith, loyalty and trust.
John F. Levy © 2010
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Stakeholders
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Shareholders
Debtors
Management
Employees
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Customers
Vendors
Community
Government
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Directors’ Fiduciary Duties
• Duty of care
• Duty of loyalty
• Duty of disclosure
John F. Levy © 2010
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Good Faith
Directors do not act in good faith when
there is:
• conduct motivated by an actual intent to
do harm;
• “gross negligence”; or
• intentional dereliction of duty.
John F. Levy © 2010
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Business Judgment Rule
The courts will not second guess
directors’ decisions if the directors can
demonstrate that they complied with the
duties of care, loyalty and disclosure in
good faith.
John F. Levy © 2010
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The Role of the Board
• Set strategy
• Understand risk
• Monitor execution
• Select, assess, evaluate and
compensate the CEO
• Comply with laws and regulations
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Board Structure and Committees
• Board chairperson or lead director
• Governance committee
• Compensation committee
• Audit committee
• Other committees
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Typical Company Structure
Shareholders
Board of
Directors
Chairman/
Lead Director
Governance and
Nominating
Committee
Compensation
Committee
Audit Committee
Internal Audit
John F. Levy © 2010
CEO
Management and
Employees
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Board Charters
• Each committee is responsible to a
charter.
• The charter lists the responsibilities and
expectations for each committee.
• Charters may be detailed or broad.
• Charters are typically available on
company websites or in public filings.
John F. Levy © 2010
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Assessing and Building a Board
• Annual board evaluation
- Entire board
- Each director
• Skills assessment
- Skills required
- Skills of existing board
• Board dynamics
- Big name - small company
- Team players
- Building consensus
John F. Levy © 2010
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Training Issues
• On boarding
– The Company
– The industry
– The role of board members
– Committee responsibilities and charters
• Ongoing training
– Keeping current
– New committee assignments
– Ongoing education
John F. Levy © 2010
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The Audit Committee
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Audit committee requirements
Committee member independence
Audit committee financial expert
Audit committee responsibilities
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Audit Committee Composition
(For NASDAQ Companies)
• At least 3 members.
• All independent.
• Read and understand basic financial
statements.
• One member must be a “financial
expert”.
John F. Levy © 2010
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Financial Expert
• Public companies must disclose:
– Audit committee financial expert by name,
– Independence,
– If no expert, the public company the
Company must disclose and explain why.
John F. Levy © 2010
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Financial Expert
(continued)
• An understanding of:
– GAAP and the ability to assess the
general application GAAP;
– Internal controls and procedures for
financial reporting; and
– Audit committee functions.
John F. Levy © 2010
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Financial Expert
(continued)
• Must have :
- principal financial officer, principal
accounting officer, controller, public
accountant or auditor or similar or
actively supervision;
- oversee or assess the performance of
companies or public accountants;
- or other relevant experience.
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Additional Responsibilities of
the Audit Committee Financial
Expert
• NONE
• Higher Standard
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Audit Committee
Responsibilities
• Oversee the accounting and financial
reporting processes
• Oversee the audits of the financial
statements
• Prepare the Audit Committee annual report
• Retention, compensation and oversight of
the independent auditors
•
Approve
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Audit Committee
Responsibilities
(continued)
• Approve:
• Whistleblower policy and
• Code of business conduct
• Receive periodic reports regarding:
• Whistleblower activity
• Compliance with such code of conduct.
John F. Levy © 2010
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Role of the Finance Dept.
• Finance provides most of information
to the Board and committees:
- Compensation committee relies on
performance metrics and financial
results.
- Governance committee evaluates “tone
at the top” through finance.
- The Board reviews operating results in
evaluating CEO.
John F. Levy © 2010
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The CFO Serves Many Masters
The CFO:
- Reports to, is evaluated by and works
closely with the CEO;
- Should have a special relationship with
the audit committee chairman;
- Is available to the chairman or lead
director and other board members;
- Is main point of contact with the external
auditors; and
- Is point person with lenders & investors.
John F. Levy © 2010
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CFOs Need TACT
Trust
Appreciation
Communication
Transparency
John F. Levy © 2010
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Trust
Trust:
• Be completely honest and truthful at
all times.
• Get bad news out quickly and
completely.
• Don’t spin.
John F. Levy © 2010
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Appreciation
Appreciation
• Understand and appreciate the
Board’s roles and responsibilities.
• Think about how things appear to
them
• Their job is to ask questions.
• You have many stakeholders; they
represent the shareholders.
John F. Levy © 2010
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Communication
Communication
• Don’t wait for the Board meeting
• Reach out proactively
• Establish a routine
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Transparancy
Transparency
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Clear consistent presentations
Less is more
Just the facts
Identify key issues
John F. Levy © 2010
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Board Reporting
Includes all sources of information
• Internal and external
• Formal and informal
• Personal knowledge based on
experience
The existence of an informal system reminds us
that no formal system is perfect.
John F. Levy © 2010
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Formal Board Reporting
• Primary communication vehicle
• Provides structure to establish,
measure, evaluate & provide feedback
• Attempts to predict information
required by users
• Information usefulness should exceed
maintenance and preparation cost
John F. Levy © 2010
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10 Ways to Improve Reporting
1. Avoid using “accountant speak”
2. Avoid reliance on numbers in columns
3. Use graphs, statistics, simple tables
and narratives
4. Information must be accurate and
internally consistent
5. Avoid excessive information
John F. Levy © 2010
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10 Ways (continued)
6. Emphasize important information
7. Address diverse board members and
committees needs
8. Don’t attempt to convey too many
messages in one report
9. Reports must be logical & clear
10.Consider value of timeliness versus
completeness
John F. Levy © 2010
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Audit Committee Issues
Consider the background and experience of
audit committee members:
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May not appreciate lack of time and resources
May not be sensitive to employee morale
Know what they know
May have other priorities
May be used to “royal treatment”
May not be accountants
May not be current
John F. Levy © 2010
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Building a Healthy Relationship
Don’t be defensive
Prepare and work with your CEO
No surprises
Prepare complete and
comprehensive SEC filings and
provide adequate review time
5. Understand and appreciate the
Board’s point of view
1.
2.
3.
4.
John F. Levy © 2010
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Healthy Relationship (continued)
Anticipate questions about:
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Liquidity
Profitability
D&O coverage
Risk, risk and risk
Customers and vendors
Shareholders and lenders
John F. Levy © 2010
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Healthy Relationship (continued)
Proactively provide information:
• Financial department resources and issues
• Significant accounting policies including
alternatives and recent or potential changes
• Support for key estimates and judgments
• Investor relations experiences including
questions and concerns
• Risk analysis
• Early warning concerns
Make your company a “No Surprise Zone”
John F. Levy © 2010
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How to Win Friends and
Influence the Board
• Always appreciate the Board’s power
• Always respect board member’s past
success, accomplishments and abilities
• Understand the make-up of the Board
• Understand board dynamics
• Help your CEO
• Be responsive
John F. Levy © 2010
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Influence the Board (continued)
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Listen
Know when to speak and when not to
Make others smarter
Invest in relationships
Persuade don’t argue
Pick your battles
Be professional
Be polite
John F. Levy © 2010
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The Bad News
A bad relationship with the Board and/or
Audit Committee can mean:
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A difficult and hostile work environment
Conflicts with the CEO
Reduced resources
Lack of appreciation and credibility
Missed opportunities
Unemployment
John F. Levy © 2010
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The Good News
A good relationship with the Board and
Audit Committee can provide:
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Protection from the CEO
Employment protection
An unbiased audience
Good governance
More resources
More help
A better finance department and company
John F. Levy © 2010
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CFOs Need TACT
Trust
Appreciation
Communication
Transparency
John F. Levy © 2010
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Questions?
John F. Levy © 2010
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John F. Levy
Board Advisory
[email protected]
www.BoardAdvisory.net
John F. Levy © 2010
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