King IV Report on Corporate Governance
The British economist, Sir Paul Collier, is reported to have stated that the “tearing up Exxon deal will be disastrous”; the contract is a reasonable one; and the focus should instead be on scrutinising costs (SN 22 March 2018). We are not aware of any suggestion that the agreement should be scrapped. Rather, we have advocated for a renegotiation of the 2016 Production Sharing Agreement (PSA) based on several areas of concern. These include: the low royalty rate of two percent; the 50/50 profit sharing arrangement (after deducting 75% of revenue to offset recoverable costs), as opposed to a revenue-sharing one, and the associated difficulty in verifying such costs; the over-generous fiscal concessions granted; and exemptions from various forms of taxation. We note that a legal challenge is being mounted on whether the Minister responsible for petroleum has the powers to sign off on an agreement that is so generously weighted in favour of the U.S. oil giant; and whether Exxon’s three subsidiaries met all the legal requirements for the grant of a petroleum licence. However, this does not equate to a call for the scrapping of the contract with Exxon.
While we agree with Sir Paul about the need to scrutinise costs, we have already been saddled with an invoice in the sum of US$460 million representing pre-contract costs and for which we have no idea as to whether this figure was independently verified before it was inserted in the PSA. We believe that the Administration should make a sincere and dedicated effort to engage Exxon with a view to amending the Agreement to ensure that Guyana gets a better deal for the exploitation of what turns out to be its most valuable natural resource.
At a business forum in Toronto, the Minister of Finance is reported to have stated that: production of crude oil is expected to begin in 2020 at 120,000 barrels per day (bpd); by 2025 the figure will be 500,000 bpd; by the late 2020s, it is expected to rise to one million bpd; and the latest estimate of oil reserves is 3.7 billion barrels (SN 20 March 2018). Like gold, diamond and other minerals, crude oil is not a renewable resource but rather an exhaustible one. Our calculation, based on the Minister’s assessment of production, is that after 16 years of production, or by 2036, our oil reserves will be completely depleted, assuming no further discoveries are made. This reinforces the need for the diversification of our economy to avoid not only the Dutch disease but also the resource curse that many oil producing countries have experienced. It is in this regard that we must view the comments of Mr. Eric Parrado of Chile, the expert on Sovereign Wealth Fund (SWF), about the importance of having a stringently managed SWF in place to cater for the ‘rainy day’. The November 2017 IMF report entitled “A Reform Agenda for Petroleum Taxation and Revenue Management” referred to the need for the revenue generated over and above the estimated sustainable income (i.e. the notional measure of the return that should reflect the actual long run average return on financial savings) to be saved in the form of financial assets. We believe that this is the right course of action since we are exchanging a physical asset for a financial one, the capital portion of which should be preserved for future generations.
Now for today’s article. The King IV Report on Corporate Governance outlines 17 basic principles that organisations should embrace to ensure efficiency and effectiveness of operations as well as positive outcomes and impacts in achieving their strategic objectives. These principles have been grouped into five categories, namely: leadership, ethics and corporate citizenship; strategy, performance and reporting; governing structures and delegation; governance functional areas; and stakeholder relationships. The report defines corporate citizenship as “the recognition that the organisation is an integral part of the broader society in which it operates, affording the organisation standing as a juristic person in that society with rights but also responsibilities and obligations. It is also the recognition that the broader society is the licensor of the organisation.” A key responsibility relates to the protection of the natural environment on which society depends.
In the Foreword to the publication, Prof. Mervin King stated that certain concepts form the foundation stones of King IV. These are: ethical leadership, the organisation in society, corporate citizenship, sustainable development, stakeholder inclusivity, integrated thinking and integrated reporting. He further stated that these concepts are relevant to the connected three paradigm shifts in the corporate world: from financial capitalism to inclusive capitalism; from short-term capital markets to sustainable capital markets; and from siloed reporting to integrated reporting. Prof. King also considered three areas in which the shift is taking place: stakeholder management – ongoing relationship with major stakeholders to understand their legitimate needs, interest and expectations); technology governance and security – dealing with risk and opportunity, and ensuring the security of information systems; and strategy – not just focusing on inputs and outputs but also on outcomes and impacts.
Unlike the previous versions of the Report, King IV advocates “apply and explain” instead of “apply or explain”. This will not only enable stakeholders to decide whether the organisation is achieving the governance outcomes identified in King IV but also “encourage organisations to see corporate governance not as an act of mindless compliance, but something that will yield results if it is approached mindfully, with due consideration of the organisation’s circumstances”.
Leadership, ethics and corporate citizenship
Ethical and effective leadership is the heart of corporate governance and involves the display of integrity, competence, responsibility, accountability, fairness and transparency by the governing body. Here, governing body includes the board of directors of a company, board of a retirement fund, the accounting authority of a State-owned entity and a municipal council. In the context of the Guyana public sector, governing boards include directors of: State-owned/controlled entities such as the National Industrial and Commercial Investments Ltd. and the Guyana Sugar Corporation; statutory bodies such as the Bank of Guyana and the Guyana Geology and Mines Commission; the National Insurance Scheme; the ten Regional Administrative Councils; the Georgetown City Council and the other five municipalities; and the 65 Neighbour-hood Democratic Councils.
King IV considers that governing bodies should not only lead ethically and effectively but also govern the ethics of their organisations in a way that supports the establishment of an ethical culture. They should also ensure that their organisations are and are seen to be responsible corporate citizens.
Strategy, performance and reporting
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. It should therefore 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. King IV considers sustainable development as “development that meets the needs of the present without compromising the ability of future generations to meet their needs is a primary ethical and economic imperative. It is a fitting response to the organisation being an integral part of society, its status as a corporate citizen and its stakeholders’ needs, interests and expectations.”
King IV asserts that the survival and success of organisations are intertwined with, and related to, three inter-dependent sub-systems, namely, the economy, society and the natural environment. Accordingly, it advocates that “Organisations and their leadership need to intentionally interact with, and respond to, the challenges and opportunities presented by the dynamic system of the triple context in which it operates and the capitals that the organisation uses and affects with the aim of achieving the creation of value over time. Such integrated approach is a hallmark of sustainable development and it is for this reason that the organisation’s core purpose, its risks and opportunities, strategy, business model, performance and sustainability are presented in King IV as inseparable elements of the value creation process”.
Governing structures and delegation
The governing body should serve as the focal point and custodian of corporate governance in the organisation. It should comprise the appropriate balance of knowledge, skills, experience, diversity and independence for it to discharge its governance role and responsibilities objectively and effectively. In addition, the governing body should ensure that its arrangements for delegation within its own structures promote independent judgement and assist with the balance of power and the effective discharge of its duties. It should ensure that the evaluation of its own performance and that of its committees, its chair and individual members, support continued improvement in its performance and effectiveness. The governing body should ensure the appointment of, and delegation to, management contribute to role clarity and effective exercise of authority and responsibilities.
Governance functional areas
The governing body should govern risk in a way that supports the organisation in setting and achieving strategic objectives. It should govern technology and information in a way that supports the organisation setting and achieving strategic objectives, including considerations relating to disaster recovery and business continuity. In addition, the governing body should govern compliance with applicable laws and adopted non-binding rules, codes and standards in a way that supports the organisation being ethical and a good corporate citizen. It should ensure 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.
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. Here, we are referring mainly to internal arrangements in managing risks and ensuring compliance; internal audit function conducted in accordance with the Institute of Internal Auditors’ standards; independent external audit function performed in accordance with the International Standards of Auditing, including competitive bidding and periodic rotation; and other forms of external assurance.
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 interest of the organisation over time. For an institutional investor organisation, the governing body should ensure that responsible investment is practised to promote good governance and the creation of value by the companies in which it invests. While the main stakeholders of a company are its shareholders, the board should consider other stakeholders “not merely as instruments to serve the interest of shareholders, but as having intrinsic value for decision-making in the best interest of the company over time”.
To be continued –