ACCA F1 Accountant in Business - 2010 - Study text

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Chapter 3: Culture, ethics, governance and social responsibility

 They are involved in monitoring standards of corporate governance, such as

the remuneration of executive directors and the quality of financial reporting

and auditing. In the UK, main stock market companies are required to have a

remuneration committee and an audit committee, whose members should all be

independent non-executive directors. Independent non-executive directors

should also represent the majority of committee members o n the nominations

committee: this is a sub-committee of the board of directors that nominates

(recommends) the appointment of new directors to the board.

Remuneration committee

A remuneration committee is a sub-committee of the board of directors. Its main

responsibility is to negotiate the remuneration package of executive directors, and

possibly also other senior executives of the company. The remuneration package

includes basic salary, pension, cash bonuses and other performance-related

incentives (such as the award of ‘free’ shares in the company).

The effect of having a remuneration committee of independent NEDs is that no one

in the company is involved in deciding their own remuneration. (The remuneration

committee does not decide the fees for NEDs.)

Remuneration committees are also responsible for ensuring that remuneration for

executive directors is high enough to attract and retain executives of the required

ability, but is not excessive.

In addition, the remuneration committee should ensure that the remuneration

package of executives includes a substantial performance-related element, with both

short-term and longer-term performance targets. If the performance targets are

consistent with the overall strategic objectives of the company, the remuneration

package should motivate the director to achieve levels of performance that are

consistent with the company objectives.

Audit committee

The audit committee is another sub-committee of the board of directors. Like the

remuneration committee it should consist entirely of independent non-executive

directors.

An audit committee meets only a few times each year, and it does not have any

executive or management responsibilities. The finance department (finance director)

is responsible for preparing the annual financial statements and for most dealings

with the external auditors at an operational level.

The role of the audit committee is to oversee the financial reporting and auditing

processes, to ensure that:

 the financial statements are reliable and

 they have been audited to the standard required and expected.

The committee should also help to ensure that the external auditors remain

properly independent from the executive directors of the company, because the

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committee recommends the re-appointment (or replacement) of the auditors for the

next annual audit, approves the audit fee and decides how much non-audit work

the audit firm should be allowed to perform for the company. In addition, the audit

committee provides a channel of communication between the auditors and the

board of the company, in addition to the communications that the auditors maintain

with the finance director and CEO.

An audit committee usually has the following responsibilities.

 It monitors the external audit of the company, and discusses with the external

auditors any issues that have arisen during the course of the audit work. The

auditors should be expected to discuss any disagreements they might have with

the executive management about accounting policies or estimates used to

prepare the financial statements.

 It considers whether the scope of the audit is sufficient to ensure that the

financial statements are audited to the required standard. The committee will

discuss the scope of the audit and the audit plan with the auditors and

(probably) the finance director.

 The committee should be asked to approve the annual audit fee that is

negotiated with the auditors.

 The committee assesses the quality of the audit work. In reaching its opinion, it

might consult the finance director.

 The committee recommends whether the auditors should be re-appointed for the

next annual audit.

 The committee should be responsibly for deciding company policy on how

much non-audit work may be given to the external auditors.

 The committee should also make recommendations about internal audit, and

assess the quality of the internal audit department. If there is no internal audit

function in the company, the audit committee should express an opinion ach

year on whether the company should have such a function.

The audit committee and the remuneration committee are both committees of the

board of directors, and they report to the board and submit their recommendations

for board approval.

In addition, the committees should also be accountable to the company’s

shareholders. In the UK, the annual report and accounts should include reports

from both the remuneration committee and the audit committee.

Public oversight

The general public has an interest in the proper governance of companies, because

standards of corporate governance affect confidence in the stock markets.

Corporate governance systems should therefore provide for some oversight of

governance standards, to ensure (in the public interest) that adequate standards are

maintained. Public oversight of financial reporting and governance standards

should be provided by an independent body, with responsibility for:

 monitoring compliance with those standards

Chapter 3: Culture, ethics, governance and social responsibility

 enforcing compliance with those standards.

Such an oversight body might be called a Public Oversight Board. Its main

responsibilities are monitoring compliance with laws, regulations and standards,

and enforcing compliance. It might also have responsibilities for issuing new

standards of reporting, auditing or corporate conduct.

In the UK, public oversight of financial reporting and corporate governance is the

responsibility of the Financial Reporting Council (FRC). The FRC’s responsibilities

include:

 issuing and enforcing UK financial reporting standards

 issuing and enforcing UK auditing standards, and monitoring audit quality in

the UK

 the review of the UK’s corporate governance code for main stock market

companies (the Combined Code on Corporate Governance).

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Paper F1

AccountantinBusiness

CHAPTER

Environmental influences

and constraints

Contents

1 The nature of environmental influences

2 Political and legal factors

3 Economic factors

4 Social and demographic factors

5 Technological factors

6 Competitive factors

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The nature of environmental influences

 The environment of an organisation

 The consequences of environmental change: threats and opportunities

 Understanding environmental factors

1 The nature of environmental influences

1.1 The environment of an organisation

The environment of an organisation is a term that describes anything outside an

organisation that affects what it does or how it acts. There are many influences on

an organisation that come from pressures and changes in its environment. These

environmental influences differ according to the circumstances of the organisation.

To provide a logical structure for analysing environmental influences and their

effect on an organisation, it is often helpful to categorise them into different types.

One method of analysing environmental factors is to group them into four

categories:

 P – Political and legal factors

 E – Economic factors

 S – Social, cultural and demographic influences

 T – Technological factors.

This method of analysing environmental factors is called PEST analysis.

1.2 The consequences of environmental change: threats and opportunities

Environmental factors can have a significant effect on a business organisation, and

can affect its activities and profitability. Changes in the environment might affect

the planning and other decision-making of a business organisation.

Management should monitor developments in the business environment, and

should consider how the organisation should respond to changes and

developments.

Environmental scan

PEST analysis involves considering all the environmental influences on the

organisation, recognising which are the most significant, and deciding how the

organisation should respond to these changes or developments. This type of

analysis is sometimes called an environmental scan.

Chapter 4: Environmental influences and constraints

When making an analysis of the business environment for an organisation, the

initial task is to identify factors in the environment that create threats or

opportunities.

 Threats. These are factors in the environment that might prevent the

organisation from achieving its business objectives.

 Opportunities. These are developments that provide opportunities for the

organisation, so that it can achieve its objectives more successfully.

Measures should be considered for reducing or removing significant threats.

Plans or strategies should also be considered for taking advantage of significant

opportunities.

Note on strategic planning: SWOT analysis

An environmental scan is often carried out as a part of a regular formal review of

the strategic plans of a business organisation. An environmental scan provides

information about significant threats and opportunities arising from changes in the

environment. In addition, a position analysis of factors inside the organisation is

used to identify strengths and weaknesses in the resources and systems of the

organisation, such as strengths or weaknesses in particular skills or in the product

range of the business. Environmental threats and opportunities recognised in an

environmental scan, and internal strengths and weaknesses recognised in a position

analysis or resource analysis are brought together to carry out a strategic analysis of

strengths, weaknesses, opportunities and threats, which is called SWOT analysis.

1.3 Understanding environmental factors

You need to be aware of the influence of environmental factors on the activities of

business organisations and how their decisions and actions can be affected by

changes in the environment that provide threats or opportunities.

Environmental scanning is often associated with strategic planning and strategic

information, although some awareness of the business environment is needed at all

levels within an organisation.

This chapter describes some of the environmental influences on business

organisations. You should understand, however, that it is impossible to provide a

comprehensive description of environmental factors. They differ between

organisations and according to circumstances.

Your understanding of the business environment can be improved by paying

attention to news about political and legal developments, economic conditions,

social changes and technological developments, and their potential effect on

businesses.

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Political and legal factors

 The scope of political and legal influence on business

 Sources of legal authority

 Employment law

 Health and safety law

 Data protection law

 Competition law

 Responding to political and legal developments

2 Political and legal factors

2.1 The scope of political and legal influence on business

Politics and the law have an extensive influence in business affairs, and political

decisions and changes in the law can affect just about any aspect of business

activities. Multinational companies have the additional problem that because they

operate in many different countries, their activities may be affected by political

conditions and legislation in each of the different countries.

Here are just a few examples of political and legal factors that might affect business.

 Nationalisation of industry and privatisation. In some countries, industry is

nationalised and owned wholly or partly by the state (the government).

Occasionally, after a change of government, an incoming government decide to

nationalise a business and take ownership of existing commercial business into

ownership by the state. In other cases, a government might introduce a policy of

de-nationalising an industry (‘privatising the industry’) and transferring

ownership of state-owned businesses to commercial companies.

 Transport and infrastructure. Businesses rely on the transport system to move

their goods (and employees), and the quality of the road transport system

depends on the infrastructure of roads. Although the transport system might be

operated by commercial companies, most of the road network and possibly also

the rail network are state-owned. Government policy on transport and building

roads or rail networks can have an important effect on business activity.

 Education. In most countries the government is responsible for most of the

education system. Education policy affects the quality and skills of individuals

who make up the work force of business organisations.

 Environmental policy. Business organisations might be affected by changes in

the environmental policy of a government, such as policy to reduce levels of

pollution in the air, water or land.

 Taxation and subsidies. Governments use taxation to raise income. They might

also use taxation to influence behaviour, such as increasing tax on fuel in order

to encourage a reduction in fuel consumption and increasing tax on the disposal

of waste in order to encourage the recycling of waste. Governments sometimes

encourage particular activities by offering subsidies, such as subsidies towards

the cost of particular skills training.

Chapter 4: Environmental influences and constraints

Here are some illustrative examples of how business can be affected by government

policy and the law.

Example

In 2007, oil companies operating in the Orinoco region of Venezuela were required

by the government to hand over majority ownership in their businesses to the state

(the government).

Example

In 2007, a large shipment of corn to Europe from the United States was found to

include genetically-modified corn. Although this was legal in the US, it was illegal in

the European Union. The shipment had to be returned to the US.

2.2 Sources of legal authority

Business organisations need to recognise the different sources of legal authority that

have the power to introduce changes in the law. The sources of legal authority vary

between countries, but usually include the following:

 Supranational bodies

 National government

 Regional or local government, that exercises some powers either because it has

some independence from the national government or because some powers have

been delegated to the regional government by the national government.

Supranational bodies

A supranational body is a body that has responsibility or oversight of more than one

country. A supranational body in some cases has the power to impose decisions on

a national government. To have the ability to impose its rules, a supranational body

needs the formal support of national governments.

 In the European Union, the member countries accept that legal measures

introduced by the European Council must be introduced into the national laws

of each member country. (European Directives approved by the European

Council must be incorporated in the national laws of each member country.) A

supranational body such as the European Commission also has the power to

impose certain decisions, including decisions relating to various business

matters such as takeovers and monopolies.

 In accounting, the International Accounting Standards Board is able to impose

standard rules for financial reporting on companies in every country whose

governments have agreed that these international accounting standards should

be applied.

 Some supranational bodies attempt to influence activities in many countries but

do not have the right to enforce their wishes. Examples are the United Nations

and the World Bank.

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2.3 Employment law

Each country has employment laws. The purpose of employment law is mainly to

provide protection to employees, against unfair treatment or exploitation by

employers. Business organisations, as employers, are directly affected by

employment laws. They need to be aware of the employment law in each country in

which they operate, and understand the consequences of breaking the law or failing

to comply with regulations.

Here are some of the aspects of employment law.

 Minimum wage. A country might have a minimum wage, which is the

minimum hourly rate of pay that may be paid to any employee.

 Working conditions. A variety of laws and regulations might specify minimum

acceptable working conditions, such as maximum hours of work per week or

month. There might also be laws relating to a maximum retirement age and the

employment of children. Working conditions are also covered by health and

safety law, which is described in more detail later.

 Unfair dismissal. Employment law might give employees certain rights against

unfair dismissal by an employer. In the UK, for example, an employee who is

dismissed from work might bring a legal claim for unfair dismissal. The

employer must then demonstrate that although the employee has been

dismissed, the dismissal was not for a reason or under circumstances that the

law would consider ‘unfair’. When an employer is found guilty of unfair

dismissal, it might be required to re-employ the individual who has been

dismissed or (more likely) pay him or her substantial compensation.

 Redundancy. In the UK, dismissal of employees on the grounds of redundancy

is not unfair dismissal, provided that discrimination is not shown in the selection

of which individual employees should be made redundant. However, UK law

requires an employer to consider transferring an employee to another job before

deciding that redundancy is unavoidable. (Failure to consider transferring

employees to other work would mean that the dismissals for redundancy are

unfair.)

 Discrimination. Some countries have extensive laws against discrimination,

including discrimination at work. In the UK, employers can be held legally liable

for showing discrimination against various categories of employee (or customer)

and also for discrimination shown by employees against colleagues. There are

laws against discrimination on the grounds of physical disability, gender, race,

religion, sexual orientation and age.

Changes in any aspect of these employment laws could have significant

implications for business organisations, especially those where labour costs are a

significant proportion of total costs.

2.4 Health and safety law

Health and safety law provides rules and regulations about minimum health and

safety requirements that employers must provide in their place of business and for

their employees. Standards of health and safety law vary substantially between

ACCA F1 Accountant in Business - 2010 - Study text - Emile Woolf Publishing

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