The objective of this report is to evaluate corporate governance and its close relationship with risk management in an organization. The paper critically analyses Microsoft Company internal controls and other corporate governance procedures. The paper discusses definition of corporate governance and the association with risk management. The report then argues the importance of internal controls and the requirements of regulations. A discussion of international corporate governance regulations, the differences between countries and impact of these differences on Microsoft Company follows. The report concludes by highlighting the findings on how Microsoft Corporation has adopted rules and regulations to strengthen its corporate governance procedures.
Corporate governance is the management of relationships between a company and its stakeholders as interpreted from a stakeholder theory viewpoint. This a broad view and goes beyond from the shareholder theory perspective which views corporate governance and management of relationships between a company and its owners (Tricker, 2015). According to the Cadbury report (1992), corporate governance is a structure by which a corporation is directed or controlled (The Committee on the Financial Aspects of, 1992). Corporate governance has also been defined as a set of mechanism both institutional and market-based which influences the decision of making of a firm with a goal maximizing the value of capital providers to the firm. In other words, corporate governance reduces the risk of the management acting against the interest of shareholders or tries to solve the agency problems between management and owners of capital (Shleifer & Vishny, 1997).
Whereas the corporate governance is concerned with assuring the providers of capital to the firm that they can get a good return on their investment risk management is concerned about minimizing probabilities of loss or failure. There is a relationship between the risk and return, which is positive and hence corporate governance, and risk management both tries to protect the interest of shareholders and other stakeholders by maintaining an acceptable risk limit to minimize downward and at the sometimes maximizing upward return (Price, 2018).
Internal control is any policy, behavior, procedures, and the task is taken by management to enable effective and efficient response to any risk whether it is; operational, financial, business, legal or any other risk that an organization may face (Brennan). The following are the specific importance of internal control;
The internal control system is important in the management and mitigation of risks. The internal control system assists management in the identification of possible risks, understanding of the risks, measurement of risk and management of these risk to reduce the organization overall exposure to risks. For example, internal controls help management in identification of areas with high risk or weaknesses, and in doing so management is able to plan well on reducing the likelihood of failures.
Internal control improves compliance of organization to the applicable regulatory and legal framework. An internal control system ensures that all regulatory and legal requirements are meet and hence reduces the legal risks associated with non-compliance. This also improves the relationships between an organization and other stakeholders such as the government, regulatory authorities, suppliers, customers among others.
Internal controls facilitate effective external reporting. The internal controls mechanisms significantly reduce the risk of material financial reporting misstatements. Moreover, the internal controls provide assurance that the financial reports represent a true and fair view of a company financial position and performance. Strong internal controls such as reconciliation of account support the financial reporting by detecting any material misstatements.
A strong internal control system prevents and detects fraud and errors. Internal control aspects such as secretion of duties, internal check, and audit reduce the possibility of fraud and errors, the internal control ensures that any error in financial accounting is identified and corrected while at the same time tries to detect any fraud. This internal control procedure increases awareness among the involved parties that fraud and errors will be detected and hence discourages any such behavior (Zhang, 2016).
Internal control systems assist an organization in developing corporate practices and culture. The existence of a strong internal control system will shape the behavior of employee by encouraging due diligence, care, and integrity. When this behavior is maintained for long periods, it develops into a traditional practice and an organizational culture.
Good internal controls foster effective and efficient operations that reduce wastage (SVA Certified Public Accountants). Effective internal controls ensure that operations are done in a procedural way that is economical and effective. Effective operations ensure the quality of products and services offered (Mahadeen, Al-Dmour, Obeidat, & Tarhini3, 2016).
Internal control systems also support management assertions and safeguard the asset and interest of the firm (AICPA). For example, physical control such as an authorization ensures that assets including important information are protected from misappropriation or access to unauthorized persons.
The regulatory requirement of Internal controls (Turnbull report)
Turnbull combined code guidance was developed between 1999 and 2005 to guide companies in implementing the requirements of the combined code of best practice. A committee by the Institute of chartered accountant of England and Wales developed these guidelines, and the committee chaired by Nigel Turnbull hence the Turnbull report. The following are regulation requirements of the combined code guideline;
Maintenance of a sound internal control system- Management board/directors is mandated to uphold a comprehensive and effective internal control system. The guideline on the combined code of best practices states that the management board should put in place suitable policies on internal control and regularly seek assurance that will allow it to satisfy itself that the internal control system is effective. The Code requires the board of directors to guarantee that the internal control system is effective in managing the specified risks in the manner, which it has stipulated (Page & Spira, 2004).
The Code also requires the board of directors to review the effectiveness of the internal control system at once in a financial year and disclose that it has done the review to the shareholders. The review of effectiveness should cover all the functional areas of the system such as financial, compliance operational and other risk management systems (FINANCIAL REPORTING COUNCIL, 2005).
The companies registered and listed in the UK are required by the code to provide the following items in their annual reports. A disclosure of how the listed company has applied the code’s principles as specified in section 1 of the combined code and in a way which is easy for the shareholders to understand how the code has been applied. The listed companies are also required to provide a compliance report stating how it has complied to the combined code requirement if it has or the reason for non-compliance and the specific areas of non-compliance if it has not fully complied.
Corporate governance practices or code are different in different countries due to several factors affecting eternal business environment which includes; political factors, legal and regulatory factors, socio-cultural factors, efficiency and development of capital markets and reliability of accounting frameworks. The international corporate governance objective is not significantly different among the countries as it based on the optimization of shareholders value and to an extent the value of other stakeholders. Following is an analysis of differences and comparison of corporate governance practice in the selected major world economies based on both internal mechanism and external mechanism.
This compromises the structure of management and ownership of the company.
In most countries the management of companies is led by a board of directors, however, differences exist in how the management board of directors is composed or structured. In the UK and USA, there is a unitary system of the board of directors while in Germany and Austria the structure is a two-tier model (Larcker & Tayan). The model of the board is a legal requirement in some countries such as Germany while others it is optional for example France (Denis & McConnell, 2003).
Another difference in management structure regarding the corporate governance issue is the enactment of the corporate governance for example in UK corporate Governance code of best practice is a legal requirement while in the US the implementation of the code of governance and specification of the code is a choice of the board of directors.
Some countries restrict foreign ownership of companies, for example, China while others do not. Studies also indicate that there are significant differences in ownership and control, for instance, public shareholders in Germany voting is some way limited compared to the US and UK markets (Larcker & Tayan). Another difference is the concentration of the ownership in UK and US there is less concertation of ownership and control is market-based as opposed to Germany and Japan where ownership is concentrated and banks have greater control in the management of the businesses (Denis & McConnell, 2003).
These include factors such as regulatory system, market control, and efficiency of capital markets. In some countries, companies are highly regulated for example US, European countries, Japan among others while some countries such Brazil and underdeveloped countries regulation are low or non-existence. In China, the government controls most of the resources including companies and other minority owners have limited control.
High market control and hostile takeover threats exist in some countries for instance in the UK and the USA however in a country like Germany there has been low threats hostile take-overs.
Developed countries such as UK, Germany, Japan, France, and the US have developed capital markets which are efficient and corporate governance performance is reflected in the stock and bond markets.
Microsoft Corporation is a Richmond (WA. USA) based multinational technology company that develops licenses, distributes, and services a range of products and services including software applications, mobile devices, and cloud computing solutions (Reuters, n.d.). The Microsoft company albeit not based in the UK has complied with the Turnbull guideline on combine code of best practice because they have put in place an effective system and have disclosed that they reviewed the system and the management was satisfied that the inter controls were effective.
Leadership-The Microsoft Corporation has a capable board of director comprised of leading professionals mostly the CEO of other large organization, which provide leadership to this company. Under the board of director is team of management professionals from different academic fields that overseeing the implementation of Microsoft strategic plans led by the CEO Satya Nadella. The board has provide leadership over development and implementation of policies and procedures that facilitate effective and efficient control and management of risks. Also an audit committee provides further check and enhances the effectiveness of the system of internal control.
Effectiveness-Microsoft Corporation states that the management has put in place effective control and procedures. Moreover, they have evaluated and made a disclosure as required by the exchange act rule of United States 13a-15b as at the conclusion of the reporting period (Microsoft, 2017). The company reports that the CEO and CFO were satisfied with the evaluation of the effectiveness of the controls and procedure. The company also indicates that there no significant change in its internal controls were made in the financial year 2017 that would reasonably affect the effectiveness of controls and procedures (Microsoft, 2017). The management claims that it implemented the system of internal controls evaluation to guarantee they have we have sufficiently appraised their contracts and accurately evaluated the effect of the new revenue recognition and leases accounting standards on their financial reports to enable the adoption on July 1, 2017. The company does not expect substantial changes to their system of control and procedures over the accounting because of adopting the new accounting standards (Microsoft, 2017).
Accountability- management of Microsoft Corporation has accepted the responsibility that they are accountable for instituting and upholding an internal control and procedure system that is effective. The Microsoft management claims that their system of internal control over financial accounting is effective and can offer sound guarantee concerning the dependability of their financial statements information to external users according to the prescription of the USGAAP.
Remuneration –the company has executive incentive plans that provide stock-based compensation to senior executives as a reward. This plan motivates the directors to work in the best interest of increasing shareholders value. The other Microsoft employees are also rewarded with stock-based compensation to motivate them. The company is fair to it employee and compensate them well for their services and loyalty to the organization.
Shareholders-Microsoft Corporation respects the right of shareholder by ensuring that the company information is well communicated to them or is available, in good time and form that is easy for them understand and help them in decision-making are suggested by principle of good governance (ASX Corporate Governance Council, 2007). The company also arranges an annual general meeting every year.
The product and services offered by Microsoft corporation do not necessarily require the physical presence of Microsoft in the international markets they are offered. However, some rules and regulation in some markets, for example, Europe, which relates competition and laws regulating security and integrity of personal information and privacy may affect operations Microsoft Corporation in such markets. The company operations can also be hit internal regulations relating to trade, for example, in case trade war escalation between the US and China. Strategic acquisitions by Microsoft can be limited by differing regulation in foreign countries such as China, which limit foreign ownership of companies.
With a significant amount of revenues being generated outside the USA, Microsoft Company faces a major risk in case of trade wars escalation, change in regulation and rules that may affect its revenue generation in those countries.
Conclusion
Microsoft Corporation has adopted rules and regulations to strengthen its corporate governance procedures. For example, the company complies with exchange act rule of the US 13a-15b, on disclosing evaluation of the effectiveness of the internal controls. The company also provided an audit report from the external audits to comply with rules and regulations. Additionally, the financial statements are prepared in accordance with US GAAP. The management has put in place effective controls and procedures that provide reasonable assurance to the external user that the statement presents a fair and true view of Microsoft transactions. As recommended by practices of good corporate governance, Microsoft Company has provided the names and professions of its board members (Edkins). The Microsoft corporation management board, have the ideal skills require in management and leadership which an important factor in the management of enterprise risk (Kirkpatrick, 2009). Corporate governance is an important determinant in the management of risk and overall success of a firm.
References
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