Name: H.P.M.S PathirathnaCPM: 15333
Corporate Governance Issues
Corporate governance is the system of rules, practices and processes by which a firm is directed and controlled. Corporate governance is needed for any type of company. It may be profit oriented companies, joint ventures, partnerships or corporation etc. Corporate governance essentially involves balancing the interest of the company’s stakeholders such as shareholders, customers, management, suppliers, financiers, government and community. The governance mechanisms can divided into two parts, internal and external. If the company is failure to implement the corporate governance system properly, it may cause to happen a bankruptcy or collapse in the company. There are lot of examples in the world related to this type of bankruptcies, Enron (USA), HIH Insurance (Australia), World Com (USA) etc.
When discuss about the Enron Scandal, it is the largest bankruptcy reorganization in America history at that time. Enron was considered as the biggest audit failure in the world. Enron was the nation’s seventh largest corporation and the largest seller of natural gas in North America. More than 20000 employees are employed in the company and the value of the company was 70 billion dollars. For just the first nine months of 2001, Enron reported $138.7 billion in revenue which placed the company at sixth position on the Fortune Global 500. But this large company became bankruptcy within 24 days mainly due to the governance failures.
Following corporate governance issues are related to the Enron bankruptcy incident.
The audit committee is the one of internal governance mechanism in the company. The corporate audit committees usually meet several times a year and the members of the committee need to have modest experience with accounting and finance. The Enron Audit Committee had no technical expertise in the auditor’s questions about accounting issues related to special purpose companies. The committee also could not challenge the management of the company due to the pressure of the committee. These audit committee weaknesses became a reason to this bankruptcy.
The internal audit and the external audit are the main parts of the organization and external audit helps to identify the weaknesses of the internal audit. Internal audits and external audits should be carried out by companies that are ethically separated. But in the Enron Company, Arthur Anderson acted as both roles. Anderson wanted to provide money through his partnership with Enron and came to the point that he could break the law if he could continue to make money. The accounting shortcut used to satisfy Enron is illegal and has been discovered and caused Enron to collapse. Anderson clearly should not allow Enron to complete its financial statements because of conflicting interests. If the company implement a better restriction in the place the ethics scandal would not happen and this unethical behaviour also a reason for bankruptcy. The organization always need to be ethical, if not they will treat their employees, shareholders, partners and creditors how they want.
The independent Board of Directors are internal governance mechanism and their role is to oversee corporate management in order to protect the interest of shareholders. There is a problem in the Enron’s Board of Directors and that also affect to the bankruptcy. In 1999, Enron’s board waived conflict of interest rules to allow Chief Financial Officer (CFO), Andrew Fastow, to create a private partnership to do the business with the firm. Concealed debt and liabilities of this partnership significantly impact on the Enron’s reported profit. As well as the board of directors composed of a number of people who lacks moral character. They are often willing to engage themselves in fraudulent activities.
Enron caused some corporate governance problems. Unlimited power in the hand of chief executives is an obvious problem and it is a special characteristic in the Enron’s management. There are lot of unethical activities are happen due to this unfettered power of the management.
After this Enron bankruptcy case, New York Stock Exchange introduced new governance proposal. Under that proposal they include the following provisions.
Majority of independent directors need to include in the composition of all companies.
Independent directors must adhere to the strict definition of an independent members.
Majority of independent directors need to consist with the remuneration committee, nomination committee and audit committee.
Audit committee members should need to have financially knowledgeable. As well as at least one member of the audit committee is required to have accounting and other related financial statement expertise,
In addition to regular sessions, the commission needs further supervision-less sessions.