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Cadbury Committee
 
 
Cadbury Committee on Corporate Governance
The stated objective of the Cadbury Committee was "to help raise the standards of corporate governance and the level of confidence in financial reporting and auditing by setting out clearly what it sees as the respective responsibilities of those involved and what it believes is expected of them".

The Committee investigated accountability of the Board of Directors to shareholders and to the society. It submitted its report and associated "Code of Best Practices" in Dec 1992 wherein it spelt out the methods of governance needed to achieve a balance between the essential powers of the Board of Directors and their proper accountability.

The resulting report, and associated "Code of Best Practices," published in December 1992, was generally well received. Whilst the recommendations themselves were not mandatory, the companies listed on the London Stock Exchange were required to clearly state in their accounts whether or not the code had been followed. The companies who did not comply were required to explain the reasons for that.

The Cadbury Code of Best Practices had 19 recommendations. Being a pioneering report on Corporate Governance, it would be in order to make a brief reference to them. The recommendations are in the nature of guidelines relating to the Board of Directors, Non-executive Directors, Executive Directors and those on Reporting & Control.

Relating to the Board of Directors these are:

  1. The Board should meet regularly, retain full and effective control over the company and monitor the executive management.
  2. There should be a clearly accepted division of responsibilities at the head of a company, which will ensure balance of power and authority, such that no individual has unfettered powers of decision. In companies where the Chairman is also the Chief Executive, it is essential that there should be a strong and independent element on the Board, with a recognized senior member.
  3. The Board should include non-executive Directors of sufficient caliber and number for their views to carry significant weight in the Board’s decisions.
  4. The Board should have a formal schedule of matters specifically reserved to it for decisions to ensure that the direction and control of the company is firmly in its hands.
  5. There should be an agreed procedure for Directors in the furtherance of their duties to take independent professional advice if necessary, at the company’s expense.
  6. All Directors should have access to the advice and services of the Company Secretary, who is responsible to the Board for ensuring that Board procedures are followed and that applicable rules and regulations are complied with. Any question of the removal of Company Secretary should be a matter for the Board as a whole.

Relating to the Non-executive Directors the recommendations are :

  1. Non-executive Directors should bring an independent judgement to bear on issues of strategy, performance, resources, including key appointments, and standards of conduct.
  2. The majority should be independent of the management and free from any business or other relationship, which could materially interfere with the exercise of their independent judgement, apart from their fees and shareholding. Their fees should reflect the time, which they commit to the company.
  3. Non-executive Directors should be appointed for specified terms and reappointment should not be automatic.
  4. Non-executive Directors should be selected through a formal process and both, this process and their appointment, should be a matter for the Board as a who

For the Executive Directors the recommendations in the Cadbury Code of Best Practices are:

  1. Directors’ service contracts should not exceed three years without shareholders’ approval.
  2. There should be full and clear disclosure of their total emoluments and those of the Chairman and the highest-paid UK Directors, including pension contributions and stock options. Separate figures should be given for salary and performance-related elements and the basis on which performance is measured should be explained.
  3. Executive Directors’ pay should be subject to the recommendations of a Remuneration Committee made up wholly or mainly of Non-Executive Director

And on Reporting and Controls the Cadbury Code of Best Practices stipulate that:

  1. It is the Board’s duty to present a balanced and understandable assessment of the company’s position.
  2. The Board should ensure that an objective and professional relationship is maintained with the Auditors.
  3. The Board should establish an Audit Committee of at least 3 Non-Executive Directors with written terms of reference, which deal clearly with its authority and duties.
  4. The Directors should explain their responsibility for preparing the accounts next to a statement by the Auditors about their reporting responsibilities.
  5. The Directors should report on the effectiveness of the company’s system of internal control.
  6. The Directors should report that the business is a going concern, with supporting assumptions or qualifications as necessary

Corporate Governance….Cadbury Committee and After

It would be interesting to note how the corporate world reacted to the Cadbury Report. The report in fact shocked many by its boldness, particularly by the Code of Practices recommended by it. The most controversial and revolutionary requirement and the one that had the potential of significantly impacting the internal auditing, was the requirement that ' the Directors should report on the effectiveness of a company's system of internal control.' It was the extension of control beyond the financial matters that caused the controversy.

Paul Ruthman Committee constituted later to deal with this controversy watered down the proposal on the grounds of practicality. It restricted the reporting requirement to internal financial controls only as against the ‘the effectiveness of the company’s system of internal control’ as stipulated by the Code of Practices contained in the Cadbury Report.

It took another 5 years to get the original Cadbury recommendations on internal control reporting re-instated. Public confidence in U.K. continued to be shaken by further scandals and Ron Hampel was given the task of chairing the 'Committee on Corporate Governance' with a brief to keep up the momentum by assessing the impact of Cadbury and developing further guidance.
The Final Report submitted by the Committee chaired by Ron Hampel had some important and progressive elements, notably the extension of Directors’ responsibilities to 'all relevant control objectives including business risk assessment and minimising the risk of fraud…'

The Combined Code was subsequently derived from Ron Hampel Committee’s Final Report and from the Cadbury Report and the Greenbury Report. (Greenbury Report, which was submitted in 1995, addressed the issue of Directors’ remuneration). The Combined Code is appended to the listing rules of the London Stock Exchange. As such, compliance is mandatory for all listed companies in the U.K.

The stipulations contained in the Combined Code require, among other things, that the Boards should maintain a sound system of internal control to safeguard shareholders' investment and the company's assets and that the Directors should, at least annually, conduct a review of the effectiveness of the Group's system of internal control and should report to shareholders that they have done so and that the review should cover all controls, including financial, operational and compliance controls and risk management.

Subsequent developments with regard to Corporate Governance in U.K. led to the publication of Turnbull Guidance in September 1999, which required the Board of Directors to confirm that there was an on-going process for identifying, evaluating and managing the key business risks. Shareholders, after all, are entitled to ask if all the significant risks had been reviewed (and presumably appropriate actions taken to mitigate them) and why was a wealth-destroying event not anticipated and acted upon?
In this context, it was observed that the one common denominator behind the past failures in the corporate world was the lack of effective Risk Management. As a result, Risk Management subsequently grew in importance and is now seen as highly crucial to the achievement of business objectives by the corporates.

It was clear, therefore, that Boards of Directors were not only responsible but also needed guidance not just reviewing the effectiveness of internal controls but also for providing assurance that all the significant risks had been reviewed. Furthermore, assurance was also required that the risks had been managed and an embedded risk management process was in place. In many companies this challenge was being passed on to the Internal Audit function.
The corporate world in India could not remain indifferent to the developments that were taking place in the U.K. In fact, the developments in U.K had tremendous influence on our country too. They triggered the thinking process in our country, which finally led us to laying down our own ground rules on Corporate Governance

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