By Jean-Yves Jégourel – EY Global Vice Chair for Professional Practice
The Covid-19 pandemic has been the greatest challenge that most European boards have ever faced. The pandemic is forcing them to navigate an extremely difficult business environment and pivot quickly in response to a string of unexpected scenarios.
Nevertheless, Covid-19 is far from being the only challenge that European boards have to face. In their oversight capacity, boards are expected to address a broad range of other issues. These span evergreen concerns, such as setting strategy, stakeholder engagement and approving the objectives and remuneration of executives, through to complex and large-scale challenges that are timely in nature, such as climate change, digital transformation and financial crime.
With so much to consider, it can be hard for boards to identify the areas that most need their focus. For this reason, the EY Center for Board Matters produced Board Agenda 2020. The publication identifies eight corporate governance issues that we believe should be the strategic priorities for boards and audit committees over the coming months.
With the exception of Covid-19, our suggested priorities are not ranked in order of importance since their significance will vary by country, organisation and sector. Nevertheless, we believe that all of them require consideration from every board. So, what are these issues and how will they impact on your board’s ability to perform its role in an effective and ethical way in 2020 and beyond?
Oversight challenges don’t get much bigger than the coronavirus outbreak and it will continue for some time into the future. The pandemic continues to pose significant risks to almost every aspect of a company’s operations. As well as being a huge threat to employee wellbeing, the pandemic has far-reaching implications for cash and liquidity, cybersecurity, reputation and supply chains, among other issues.
Inevitably, Covid-19 has required boards to do a lot of short-term firefighting. At the same time, however, the pandemic has far-reaching implications for organisations in terms of their business models, relationships with stakeholders, working practices and workforce structures. For this reason, it is crucial that boards keep the medium- and long-term perspective firmly in mind when dealing with any urgent issues that arise. To navigate ongoing uncertainty and the lack of visibility around the future, they will benefit from evaluating their organisation’s business continuity and contingency plans.
As the business, economic and societal landscape continues to evolve in response to Covid-19, boards will want to keep refining the questions they ask of management teams. Depending on the organisation’s sector and how it has been impacted by the crisis, the topics they might want to explore with management include the new work environment where a greater number of employees will work from home more frequently, the adaptation of customer offerings to meet new demands, and a focus on building a resilient enterprise while also laying the foundations for future success.
In light of the severe economic downturn we’re in, boards will want to know what management teams are doing to reset stakeholder expectations in areas such as salaries, budgets, payment terms and supply chain management. They themselves will need to make sensitive decisions about dividend payments. In every decision they take, boards should be mindful that the way in which their organisation responded to the Covid-19 crisis will be remembered by all its stakeholders over the years to come.
2. Purpose and integrity
Today’s stakeholders demand that companies actively fulfil their purpose through their business strategies. That’s because a company’s purpose should naturally inform and influence its business activities and goals, as well as how it manages its economic, social and environmental (ESG) impacts – both positive and negative.
Companies that fulfil their purpose, while acting with integrity, are more likely to enhance their brands and reputations and build strong relationships with customers. They are also more likely to innovate successfully, mitigate risk, and attract and retain talent, among other benefits. As a result, they are well placed to achieve long-term value for a broad range of key stakeholders, which will translate into a strong financial performance over a sustained period of time.
The board has a responsibility, in its oversight role, to consider how it can support the organisation to activate and articulate its sense of purpose. A good starting point is to ask important questions of the management team, such as: ‘What does the management team understand the company’s core purpose to be? How is it using the company’s purpose to inform decision-making and influence working practices across every area of the business? How might the company’s purpose need to change in response to the Covid-19 crisis?
When questioning management, it is worth making particular enquiries about the company’s environmental policies, human rights practices, communications with employees and relationships with suppliers. Also worthy of consideration are the incentives used in remuneration schemes. For example, a company that claims to have a strong sense of social purpose should not link the bonus awards of its executives to financial performance alone.
If boards are to provide effective oversight of their organisation’s purpose, they need to be composed of the right people and have the right committee structures in place. It may be necessary to recruit new board members with specialist competencies and skills. Alternatively, it might be appropriate to establish a committee that is dedicated to overseeing how the management team adopts a responsible business ethos that is aligned to the company’s core purpose.
3. Climate change and sustainability
Climate change and other sustainability-related issues, such as poverty and social inequality, are pressing global concerns that are attracting the attention of regulators and supranational bodies. In 2019, the European Parliament declared a climate emergency, for example, while the United Nations continues to rally organisations around its Sustainable Development Goals (SGGs).
Boards have a public interest responsibility to make their companies more sustainable. Their stakeholders – including global policymakers, regulators, investors and the general public – expect them to address global challenges. Covid-19 has also highlighted how major threats to human wellbeing have the potential to severely disrupt business operations. Significantly, the EY CEO Imperative Study found that climate change is one of the top five global business challenges that could harm business growth and the global economy over the next five to 10 years.
The priority for boards is to understand how the risks and opportunities associated with climate change and social issues could affect their company. They should also encourage management teams to consider how the company’s operations and business model can be adjusted to capitalise on developments such as renewable energy, advanced recycling techniques and the rise of the circular economy. They can put forward the argument that sustainability may be an opportunity for the company to become more competitive, efficient and resilient than its peers.
Of course, the way in which a company embeds climate change and social issues into its strategy will vary according to its business model, objectives and sector, as well as the specific risks it faces. Bearing this in mind, boards will need to ensure that they have sufficient information and expertise, as well as the right structures and processes, to provide effective guidance to management teams.
Boards should also heed the growing trend toward responsible investment. This trend is due to investors believing that sustainable companies are more likely to create long-term value. Boards should ensure that investors are provided with robust information on how their companies are affected by, and are responding to, climate change and other major social and environmental issues. To do this, they can use reporting frameworks, such as the framework developed by the Embankment Project for Inclusive Capitalism (EPIC), an initiative launched by EY and the Coalition for Inclusive Capitalism.
4. Fighting fraud and anti-money laundering
Financial crime is a spiralling problem – and policymakers expect companies to help fight it. European anti-money laundering legislation has become increasingly more stringent over the past few years. Meanwhile, regulators globally are paying close attention to virtual currencies, such as Bitcoin, because they are a favoured settlement method for money launderers and terrorists.
Member states must transpose the EU’s Sixth Anti-Money Laundering Directive into national law by 3 December 2020. The directive introduces tougher punishments for money laundering, increasing the prison sentence for individuals who commit a money laundering offence from one year to four years. It also extends criminal liability to people who hold positions of responsibility within the organisation when an offence occurs. Furthermore, companies found guilty of the offence could incur a temporary or permanent ban on doing business, or even a judicial winding-up.
Exposure to financial crime is a particularly acute risk for companies operating specifically in the financial services sector. Nevertheless, boards of companies in every sector should monitor developments in the regulatory environment as part of their governance oversight. They should ask their management teams to provide an assessment of the extent to which the company is exposed to anti-money laundering compliance risks, such as cryptocurrencies or politically exposed persons, and how they plan to mitigate those risks. Also, what is being done to improve the detection and prevention of economic crime within the company? Is the company making effective use of technological tools or collaborating with partners and peers to share best practice?
Another important consideration is the company’s banks. Boards should ask their banks to explain what they are doing to comply with anti-money laundering laws and what practices they are putting in place to instil ethical and responsible behaviours within their organisations.
A further way in which boards can strengthen their company’s defences against financial crime is to ensure that the right processes are in place to encourage the reporting of illegal activities. For example, an anonymous whistle-blowing helpline might highlight some poor practices and provide valuable insights into areas of the organisation where financial crime poses a particular risk.
5. Digital business transformation
Digital business transformation presents boards with some key issues to consider in their oversight capacity. The starting point is understanding the strategic opportunity – how can digitalisation enable the company to enhance its operations and create a better experience for its customers and suppliers?
Once they have this understanding, boards can look at how the company could use new technologies as a platform for increasing efficiency, accelerating growth, developing new partnerships and overhauling its business models to achieve competitive advantage. They can also explore what the company is doing to attract and retain staff with digital skills and how it is using change management programmes to embed new approaches and processes.
Another important consideration for boards is the emergence of some major technology-related risks. These include cyber risks – e.g. the theft of customer data – and ethical risks – e.g. an artificial intelligence system making biased decisions because it has been trained using an inaccurate or incomplete dataset. A further risk, particularly in light of the Covid-19 pandemic, is the emergence of a disruptive competitor that undermines the company’s business model or seizes market share because it has developed a digitalised service offering that customers prefer.
Boards will only be able to provide effective oversight of digital transformation and technology-related risks if they are equipped with the right knowledge, skills and tools. That might mean recruiting directors with digital skills, knowledge in HR or change management, or knowledge of business ethics and responsible practices. Where the required skillset cannot be recruited directly, the board may want to source it from external providers.
To be successful in future, companies will need their boards to exploit the exponentially larger data intelligence that can be harnessed through the power of technology. By using tools such as data analytics, boards will be able to identify emerging megatrends and guide management to address the challenges that these megatrends present. The knowledge that they gain from data will also allow them to support management to develop more innovative business models, collaborate with new partners and incubate new ideas to realise competitive advantage.
6. Risk management
The rapidly evolving business landscape requires boards to consider a multitude of emerging risks. As well as technology-related risks, they need to consider regulatory risks and sustainability-related risks, such as those posed by climate change, outbreaks of disease, skills shortages and failings in organisational culture. Covid-19 has also highlighted the potential for unexpected risks to threaten staff wellbeing and productivity, disrupt supply chains and decrease revenues and profits.
The risk landscape is constantly evolving. Yet the findings of the EY Global Board Risk Survey: four ways to advance risk oversight reveal that today just one in five boards is ‘very satisfied’ with their effectiveness in overseeing changes and adjusting their organisation’s risk appetite accordingly.
To provide effective oversight of such a broad range of risks, boards should work with their C-suite to map out the whole risk landscape that their organisations face, including both traditional and atypical risks. To get new insights, they could review their reporting frameworks and adopt reports that reflect the changing risk landscape. Going forward, for example, they are likely to require reporting that relates to intangible assets such as culture, reputation and talent. They will also need information on new and emerging competitors and other market developments that could challenge organisational strategy and result in culture-and conduct-related risks.
It may be necessary for the board to devote more time to discussing emerging risks and strategic opportunities. In this case, they could find the time by reorganising committee structures and schedules. They should also look at how they make use of both internal and external data pertaining to the organisation in their decision-making.
A valid priority for the board might be to assess whether the company’s C-suite and senior executives have the skills and competencies to address today’s biggest strategic risks. Where these skills and competencies are lacking, they could then suggest that the organisation either recruits for them or engages with external experts who have specialist knowledge. The company’s risk management function should prove to be a valuable resource for the board, especially if it is able to deploy powerful technological tools to identify, assess, monitor and predict risk.
7. The CFO’s expanding responsibilities (an audit committee perspective)
The CFO’s role as strategic partner to the CEO is being further cemented by today’s rapidly changing business landscape. CFOs are helping their companies to navigate the Covid-19 crisis while managing technological advances, an evolving regulatory environment, and stakeholders’ expectations around how companies should create, measure and report on value over the long term.
In this environment of extreme uncertainty, CFOs are providing forward-looking insights to boards and management teams. To do this, they are relying on emerging technologies, such as predictive analytics. At the same time, they are continuing to perform the activities that would have been the mainstay of the CFO’s role in the past – activities such as managing the company’s cash and liquidity, overseeing the financial reporting processes, and establishing and monitoring internal controls.
Given this context, the strength of the relationship between the CFO and the board – and more especially the audit committee – is a matter of great strategic importance. The pandemic presents some significant financial reporting issues in areas such as asset impairment, contract accounting and going concern. So, it is important that audit committees are kept well informed, and there is a strong relationship between the CFO and the audit committee, with trust as its bedrock.
‘Boards should ask their banks to explain what they are doing to comply with anti-money laundering laws and what practices they are putting in place to instil ethical and responsible behaviours within their organisations’
Regular meetings between the CFO and the audit committee are essential. They foster open, regular communication and enable pertinent issues, such as risk management, to be discussed in a timely manner. As well as covering important corporate reporting and accounting issues, the meetings should explore wider strategic issues that might have a short-or long-term impact on the performance and value of the business. They can also be an opportunity for the audit committee to gain a better understanding of the quality of the relationships that the CFO has, not only with the board and the CEO, but also with other members of the management team and senior-level executives.
The audit committee can further recognise the CFO’s expanding responsibilities and strategic remit by ensuring that the finance function has the right talent to support the company’s objectives going forward. The finance function might, for example, benefit from having access to the modelling skills of a data scientist or employing a business analyst with climate knowledge.
8. Board effectiveness
The performance of boards is under greater scrutiny than ever before. This is not just down to Covid-19. It is also because stakeholders are becoming more strident about their expectations of companies while the rise of social media channels and other forms of digital communication give them an ever-louder voice.
An effective board, in the eyes of its stakeholders, will ensure that its company acts with purpose and serves a broad range of stakeholders, from investors through to customers, employees, suppliers and the community. It will also have board members with the right skills, competencies and experience to perform the board’s governance functions in line with the company’s strategy. For example, if a company has embarked upon a major transformation programme, stakeholders will expect that at least one board director will have relevant expertise.
Undoubtedly, the chair plays a crucial role in improving board effectiveness. He/She can do this by overseeing a regular programme of board self-evaluations and by establishing an atmosphere of inclusivity and trust within the boardroom. At a more practical level, he/she can ensure the right topics are covered in board meetings and allocate enough time to discuss priority items.
Yet effectiveness is not – and never should be – the responsibility of the chair alone. Good boards are defined by their ability to work well as a team. Board members should be able collaborate while offering constructive challenge and expressing dissenting views. It is important to note that just one non-performing board member can significantly disrupt the overall effectiveness of the board.
Diversity is a key criterion of overall board effectiveness. Research suggests that boards that bring a broad range of perspectives are generally better placed than their less diverse peers to help companies seize market opportunities and manage risks. Effectiveness is also enhanced by term limits for directors. These enable the composition of the board to evolve in line with company strategy.
To be effective, board members must be able to seek out knowledge from management to further improve their own understanding, without encroaching on the role of the management team. They also need to receive a smooth flow of high-quality and timely information from management. Tools such as board portals can help in this respect.
Focus beyond Covid-19
Today’s companies are operating in an extremely testing business environment – the most testing for generations. Inevitably, this environment brings with it a plethora of risks – but also a host of opportunities. As far as possible, these risks and opportunities should be factored into your board’s roadmap for the next 12 months and even further ahead. While we do not know what the future will look like, we can be sure that the world will not go back to how it used to be prior to the Covid-19 crisis. The eight priorities outlined here can help your board to anticipate and prepare for the challenges that lie ahead.
About The Author:
Jean-Yves’ current role is EY Global Assurance Vice Chair, Professional Practice. Having worked for over 35 years at EY, he has extensive experience leading teams in reviewing complex, cross-border transactions. In his previous role as EY EMEIA Assurance Leader, Jean-Yves worked with large multinational companies in helping them navigate regulations across geographies and risks from disruption. Prior to this, he served as the EY Americas Vice Chair of Quality and Risk Management. Jean-Yves is a certified Chartered Accountant. He holds a master’s degree in Business and Finance from Brest Business School.
Disclaimer: This Publication contains information in summary form and is therefore intended for general guidance only. It is not intended to be a substitute for detailed research or the exercise of professional judgment. Member firms of the global EY organisation cannot accept responsibility for loss to any person relying on this article.
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