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ACCA Applied Skills · Audit and Assurance

Corporate Governance for ACCA Audit and Assurance

Corporate governance is the system by which a company is directed and controlled. In AA you must explain how boards, non-executive directors, committees and internal controls reduce agency problems, and how the external auditor reports on and relies on governance. Solve questions by linking each weakness to a specific fix.

What this chapter covers

This chapter covers how companies are directed and held to account. It starts with why governance exists (the separation of owners and managers, known as the agency problem) and moves to codes of best practice, the role of non-executive directors and board committees, the board's responsibility for internal control and risk, and finally what the external auditor does about governance.

It is a bridge chapter. The ideas you learn here feed straight into later areas of the paper: the audit committee and internal audit link to internal control and to the work of internal audit, and the auditor's communication duties link to reporting. The control environment, which is a core part of understanding the entity, depends on the quality of governance.

The chapter is mostly applied. You will rarely be asked for a pure definition. You will be given a scenario, such as a board dominated by one person or a company with no audit committee, and asked to identify the weakness, explain the risk and recommend a fix. Practise that pattern.

Governance is tested in the objective test cases, where one scenario can carry several questions on board structure, committees or auditor responsibilities, and each question is marked all or nothing. It also supports the written constructed-response questions, where you may need to evaluate a company's governance, recommend improvements, or explain the auditor's duties. Because the ideas are logical rather than numerical, the chapter is a good place to gain marks reliably if you learn the link between each weakness and its remedy. It also strengthens your answers on internal control, internal audit and the audit of a company with a weak control environment.

Corporate governance: topics in the order to study them

  1. 1Corporate Governance Principles and Agency TheoryStart here because every later topic is a response to the agency problem and the principles of fairness, transparency, accountability and responsibility.
  2. 2Corporate Governance Codes and Best PracticeNext, learn what codes recommend, since committees and NED rules come from them, and how comply-or-explain differs from rules-based approaches.
  3. 3Non-Executive Directors and Board CommitteesOnce you know the best-practice framework, study the main people and bodies that apply it: NEDs, and the audit, remuneration and nomination committees.
  4. 4Internal Control and Risk Management ResponsibilitiesThis follows because the board and audit committee are responsible for control and risk, and internal audit often supports them.
  5. 5External Auditor's Role in Corporate GovernanceStudy this last because it pulls everything together: the auditor reviews, reports on and communicates about the governance you have just learned.

How to prepare Corporate governance

Treat this chapter as a set of linked cause-and-effect pairs rather than lists to memorise. The aim is to spot a weakness in a scenario and respond with a precise recommendation.

  1. Learn the agency problem in your own words, with one example of managers acting against owners, and tie it to the four governance principles.
  2. Read the main points of a governance code and note the reason behind each, such as why the chair and chief executive roles should be separate.
  3. Build a one-page table of each board committee, listing its purpose, typical membership and key tasks.
  4. For NEDs, learn what independence means and the signs it may be compromised, such as long service or close ties to management.
  5. Separate who is responsible for internal control (the board) from who monitors it (audit committee, internal audit) and who reports on it (the external auditor).
  6. Practise scenario questions: for each weakness, write the risk it creates and a specific recommendation in one or two lines.
  7. Finish with objective test practice, and check why each wrong option is wrong, since answers are all or nothing.

Common mistakes in Corporate governance

  • Writing definitions only when the question asks for application to a scenario.

    Fix: Quote or use a detail from the scenario, name the weakness, state the risk, then give a recommendation.

  • Confusing the roles of the board, audit committee, internal audit and external auditor on internal control.

    Fix: Remember: the board is responsible, the audit committee oversees, internal audit evaluates and the external auditor reports to the extent relevant to the audit.

  • Assuming NEDs are automatically independent.

    Fix: Check the scenario for length of service, shareholdings, relationships or other business links before deciding.

  • Treating a code as a set of legal rules that must always be followed.

    Fix: Explain that under a principles-based approach a company may depart from the code if it explains why, though the requirements depend on the jurisdiction.

  • Giving vague recommendations such as 'improve governance'.

    Fix: Give a concrete action, such as setting up an audit committee made up of independent NEDs or separating the chair and chief executive roles.

  • Overlooking the external auditor's limits in governance.

    Fix: State that management and the board are responsible; the auditor assesses controls for audit purposes and communicates findings, but does not design or run them.

Last-day revision: Corporate governance

  • Corporate governance is the system by which a company is directed and controlled.
  • The agency problem arises because managers run the company but shareholders own it, and their interests can differ.
  • Key principles: fairness, transparency, accountability and responsibility.
  • Comply-or-explain means a company follows the code or discloses and justifies where it does not.
  • The roles of chair and chief executive should normally be separate to avoid too much power in one person.
  • NEDs bring independent judgement, scrutiny of executives and a wider perspective.
  • Independence of a NED can be weakened by long service, share options, family ties or past employment with the company.
  • The audit committee oversees financial reporting, internal control, internal audit and the external auditor relationship.
  • The remuneration committee sets executive pay; the nomination committee leads board appointments.
  • The board is responsible for internal control and risk management; management implements it.
  • Internal audit has no formal ownership of control but evaluates and reports on it; it should have access to the audit committee.
  • The external auditor expresses an opinion on the financial statements and reports significant governance and control matters to those charged with governance.

Corporate governance in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Corporate governance: frequently asked questions

What is the agency problem in corporate governance?

It is the conflict that arises when managers (agents) run a company on behalf of shareholders (principals) but pursue their own interests, such as higher pay or empire building. Governance structures such as NEDs, committees and transparent reporting aim to reduce it.

What do I need to know about board committees for AA?

Know the purpose, usual membership and main tasks of the audit, remuneration and nomination committees. Pay particular attention to the audit committee because it links directly to internal audit, internal control and the external auditor.

Is corporate governance tested in objective questions or written ones?

Both. Objective test cases can ask about board structure, committees or auditor responsibilities in a scenario, and constructed-response questions may ask you to evaluate weaknesses and recommend improvements. Objective questions are marked all or nothing, so read the options carefully.

Which governance code should I learn for ACCA Applied Skills?

Focus on the common principles found in good practice codes rather than memorising one national code word for word. Exam questions are generally based on the ideas, such as independence, separation of roles, committees and comply-or-explain.

How is the external auditor involved in corporate governance?

The auditor reports on the financial statements, may review aspects of governance disclosures as required, and communicates significant control deficiencies and other matters to those charged with governance. The auditor does not take over the board's responsibility for governance.