The King IV corporate governance report 2017 by the Institute of Directors (IOD) includes supplements for municipalities, parastatals, NPOs and investment funds.
Lack of corporate governance underpins virtually all the ills imperiling democracy and social welfare, said the IOD of Southern Africa at its launch of the King IV update in late 2016.
The institute listed municipal, state, parastatal, and private business corruption, incompetence, nepotism, personal enrichment, collusion and dysfunction, as among the reasons for the wage gap.
Corporate governance offers part of the solution to these challenges, if “mindfully applied” and linked to value creation.
Public companies, SMEs, NGOs, non-profit organisations, and institutional investors, such as retirement funds and public sector entities, all affect the governance of one another. King IV aims to be more accessible to all users by:
- Using generic vocabulary, such as “organisation” rather “business” or “company”; “governing body” rather than “board”, and “governance duties” rather than “directors”.
- Providing supplements to interpret and implement King IV in various circumstances.
- Providing guidance on how to scale the recommended practices proportionally, in line with the organisation’s size and resources, and the extent and complexity of its activities.
King IV follows an outcomes-based approach, using structural building blocks, principles and practices.
Corporate governance is not an end in itself, but a means towards realising certain benefits, such as ethical culture, good performance, effective control, and legitimacy. Aspirations expressed in the principles optimise organisations to realise governance outcomes.
The King IV principles are an expression of fundamental organisational aspirations. Examples of principles in King IV include: “The governing body should:
- lead ethically and effectively;
- govern risk in a way that supports the organisation in setting and achieving its strategic objectives;
- ensure that the organisation remunerates fairly, responsibly and transparently, so as to promote the achievement of strategic objectives and positive outcomes in the short, medium and long term.”
Organisations may use greater freedom of judgement about whether to apply the recommended practices; and how to do so; provided their overall aim is to achieve the aspiration expressed in the principles. Practices should be aimed at principles.
‘Apply and explain’ regime
King IV emphasises disclosure of the impact or effect of organisational practices. To balance the less prescriptive approach, it emphasises greater transparency in how organisations exercise their judgement.
The updated report seeks to reinforce qualitative application of its principles and practices, by proposing an ”apply and explain” approach, instead of “apply or explain” as previously recommended.
The King IV Report consists of seven parts:
Part 1: Glossary of Terms.
Part 2: Fundamental Concepts.
Part 3: Application and Disclosure.
Part 4: One-page summary.
Part 5: Code on Corporate Governance; outcomes, principles, and practices.
Part 6: Sector Supplements; for municipalities, SMMEs, state-owned enterprises (SOEs), non-profit organisations (NPOs) and retirement funds.
Part 7: Content Development Process, and King Committee.
King IV extracts
The King IV draft was widely consultated, led by Ansie Ramalho. The King Committee appointed a task team from its members
To move from tick-box compliance to genuine application of corporate governance, ethics have a critical role. Only an ethical organisation made up of ethical individuals will act responsibly and fairly, even when nobody is looking.
King IV understands corporate governance as a leadership issue; thus creating an ethical organisation depends on leadership that is both ethical and effective.
Ethical leadership is exemplified by integrity, competence, responsibility, accountability, fairness and transparency (ICRAFT).
It involves anticipating and preventing, or at least ameliorating, the negative consequences of the organisation’s activities and outputs on the economy, society and the environment, as well as on the capitals1 that it uses and affects.
Effective leadership is results-driven, but goes beyond an internal focus on effective and efficient execution. Ethical and effective leadership go hand in hand, the one reinforcing the other.
King IV devotes Part 5.1 to a Code to ethics;
- how the governing body sets an example by displaying the ICRAFT characteristics;
- how the governing body ensures that the ethics within the organisation is managed;
- recommendations on how the organisation acts as a responsible corporate citizen to its internal and external stakeholders, and society.
Governance integration into management
King IV advocates integration of management, including compliance, stakeholders, and sustainable development. These concepts are supported by several principles.
Principle 3: The governing body should ensure that the organisation is, and is seen to be a responsible corporate citizen.
Principle 4: The governing body should appreciate that the organisation’s core purpose, its risks and opportunities, strategy, business model, performance and sustainable development are all inseparable elements of the value creation process.
Principle 5: The governing body should ensure that reports issued by the organisation enable stakeholders to make informed assessments of the organisation’s performance, and its short-, medium- and long-term prospects.
Principle 6: In the execution of its governance role and responsibilities, the governing body should adopt a stakeholder-inclusive approach that balances the needs, interests and expectations of material stakeholders in the best interests of the organisation over time.
Principle 7: The governing body should comprise the appropriate balance of knowledge, skills, experience, diversity and independence for it to discharge its governance roles and responsibilities objectively and effectively. Academic research since the global financial crisis has however shown that, despite the prescribed number of independent directors, they still failed. King IV recommends that all members of the governing body have a legal duty to act with independence of mind in the best interests of the organisation. Independence is only one of the factors to be considered in achieving balance in the composition of the governing body. The need for the governing body to set and disclose progress on targets for race and gender diversity has been included in the Code.
Principle 8: “The governing body should ensure that its arrangements for delegation within its own structures promote independent judgement and assist with balance of power and the effective discharge of its duties.” Committees for audit, nominations, risk remuneration and social and ethics be considered. The Companies Act, Regulation 43, stipulates the formation of a social and ethics committee, but does not address its ethics role. King IV recommends “overseeing and reporting on organisational ethics, responsible corporate citizenship, sustainable development and stakeholder relationships.”
Risk and opportunity
King IV’s definition of risk consists of uncertainty; likelihood of events; and effects, or positive and negative magnitude of events. Thus opportunity may present itself in events within the risks, or outside the risks of an organisation.
Strategic opportunities should be considered when setting strategy. Risk is becoming more complex, requiring risk oversight to be strengthened. King IV recommends that the risk committee comprises a majority of non-executive members.
Risk governance should aim for Principle 11: “The governing body should govern risk in a way that supports the organisation in setting and achieving its strategic objectives”.
Technology and information
Principle 12 provides that “The governing body should govern technology and information in a way that supports the organisation setting and achieving its strategic objectives”. King IV takes cognisance of the advances in technology that are revolutionising businesses and societies, and transforming products, services and business models. So profound are these effects that many believe they herald the dawn of a Fourth Industrial Revolution.
These advances happen quickly and can cause disruption.
Information, like technology, is a growing source of competitive advantage for the enhancement of the intellectual capital of an organisation, and for serving its customers more effectively.
Information and technology overlap but are also distinct sources of value creation, each of which has its own risks and opportunities. The King IV Code now refers to information and technology, instead of information technology.
Principle 14: “The governing body should ensure that the organisation remunerates fairly, responsibly and transparently so as to promote the achievement of strategic objectives and positive outcomes in the short, medium and long term”.
Disclosure: There are more definitive disclosure requirements; remuneration should be disclosed in three parts: a background statement; an overview of the remuneration policy; and an implementation report.
Voting: King IV recommends that shareholders of companies be provided the opportunity to pass separate, non-binding advisory votes on the remuneration policy and the implementation report.
Broader performance measures: King IV recommends the use of performance measures that support positive outcomes across the triple context in which the organisation operates, and/or all the capitals that the organisation uses or affects. In other words, remuneration is no longer linked solely to financial performance. In respect of executive remuneration, King IV recommends that organisations disclose what performance measures and targets were used in order to award variable remuneration.
Assurance and internal audit
Principle 15: “The governing body should ensure that assurance services and functions enable an effective control environment, and that these support the integrity of information for internal decision-making and of the organisation’s external reports”.
King IV addresses the meaning of assurance for the purposes of the combined assurance model, it expands on who the assurance service providers and functions consist of, the users of the model and its objectives.
The code assumes an understanding of assurance that goes beyond mere technical definitions. The combined assurance model as envisaged in King IV seeks to incorporate and optimise all assurance services and functions so that, taken as a whole, these enable an effective control environment and also support the integrity of information used for internal decision-making by management and the governing body, and of external reports.
The King IV Code’s recommendations do not prescribe the design of the model, allowing the governing body to exercise its discretion in this regard.
Auditor and audit requirements
Mandatory rotation of audit firms, and mandatory tendering, have been introduced in some jurisdictions to reinforce auditor independence and audit quality.
King IV leaves this decision to the audit committee and governing body, subject to legislative requirements.
The Code makes certain practice recommendations in support of auditor independence, among these that the tenure of an audit firm needs to be disclosed.
The audit committee should disclose significant matters it considered in relation to the annual financial statements, and how these matters were addressed by the committee. This provides users of the financial statements with three different perspectives on the annual financial statements:
- The governing body’s description of how the annual statements were prepared, and particularly its significant assumptions;
- The auditor’s explanation of what areas were considered to be most significant, and how they were addressed in the audit;
- The audit committee’s disclosure of what matters it regarded as significant, and how it discharged its responsibilities in relation to these matters;
- The audit committee discloses its views on audit quality with reference to audit- quality indicators.
Tax is a governance issue
The governing body should be responsible for a tax policy that complies with the applicable laws, but that is also congruent with responsible corporate citizenship, and that takes account of reputational repercussions. Hence, responsible and transparent tax policy is put forward as a factor in good corporate citizenship.
Principle 17 builds on these foundations by recommending that the governing body of an institutional investor organisation should ensure that it practices responsible investment in such a way as to promote the good governance within, and the creation of value by, the companies in which it invests. Responsible investing principles and practices are set out in the CRISA,8 which accord with the Principles on Responsible Investing9 and the International Corporate Governance Network Global Stewardship Code.
Disclosure on the application of King IV is effective in respect of financial years starting on or after 1 April 2017, but immediate transition is encouraged. King IV replaces King III in its entirety.
Committee for Responsible Investment in South Africa, Code for Responsible Investment in South Africa. (Institute of Directors in Southern Africa, 2011); www.iodsa.co.za
Principles for Responsible Investing available at: https://www.unpri.org/about/the-six-principles
International Corporate Governance Network, International Corporate Governance Network Global; Stewardship Code 2016; https://www.icgn.org/policy/stewardship-codes
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