Finance fundamentals every director should be across to meet their obligations to scrutinise and sign off on financial accounts.
Financial literacy is not a skill many of us are taught, yet it is a vital building block of the skills of an effective director. As a director, you’re expected to have an appropriate level of financial literacy and basic accounting knowledge to tease out the full story in the accounts and meet your legal responsibilities. Directors are expected to understand financial concepts, ask probing questions when presented with financial information at board meetings, draw conclusions and make decisions.
The Corporations Act 2001 (Cth) requires listed companies, certain public companies and certain proprietary limited companies, to prepare financial reports in accordance with the Australian Accounting Standards Board (AASB). Section 295(1) of the Act lists the content of a financial report as including the financial statements, the notes to the financial statements and the directors’ declaration.
The format and content of the “financial statements” is governed by AASB 101 Presentation of Financial Statements.
Dianne Azoor Hughes MAICD, author of Financial Fundamentals for Directors (AICD), a member of AICD’s Reporting Committee, describes financial literacy as a language that expresses the activities of a company. It tells the story of how it has progressed from year to year, transactions it has undertaken and alliances it has entered into. It is fundamental for directors to understand the language of that story, she says.
While all companies are dealing with growing complexity of financial statements and disclosures, the 2011 Centro case confirmed, among other things, that corporations law requires directors and officers to exercise due care and diligence in carrying out their responsibilities and that directors cannot delegate their responsibility for approving the statutory financial reports to others.
Federal Court Justice John Middleton said directors need to be involved in the process themselves, not to delegate that responsibility to management or experts. They need to read the financials, take a diligent and intelligent approach to the information presented, understand the information and apply an enquiring mind.
Azoor Hughes writes that the Centro case put the spotlight on director duties and responsibilities as they relate to financial matters, especially when it concluded with significant penalties for several directors.
For company directors, there are four pillars of financial literacy, she says. It is largely about the ability to:
- Acquit formal legal and statutory obligations as they relate to financial matters — such as signing off on the annual financial reports
- Monitor financial results to assess solvency
- Balance risk mitigation (financial and otherwise) with the ability to drive the company’s financial performance by understanding the story told by its financial reports
- Know when financial experts are required to assist with the above points.
Other factors may also shade the depth of financial skills and knowledge needed, such as the company’s business model, business plans and strategy, stage of growth and financial health, risk profile, the skills mix around the boardroom table and the state of the economy.
AICD’s 50 Matters to be Considered Before Signing a Company’s Financial Statements (3rd Edition) states that to be able to make the declarations, directors must first satisfy themselves about the accuracy of the financial report. This will require directors to examine and interrogate the financial information of their organisation. It is a director’s responsibility to ensure:
- The integrity of the accounting system
- Appropriate expertise is applied; due process is sound
- Essential elements of the process are scrutinised and tested by directors
- Where appropriate, independent expert advice is obtained.
This will lead to a director’s confidence in the integrity of the outputs of the financial and management systems. It outlines two basic questions for directors:
- Do the financial statements make sense and provide a “true and fair” view of the financial performance, position and cash flows of the company?
- What are the major areas involving a higher degree of subjectivity, discretion and/or judgement, and have these areas been subject to additional scrutiny?
In an AICD interview, Azoor Hughes said, “[Directors] should talk to management, to auditors... understand the gaps in their knowledge and not be afraid to ask questions... identify the gaps and take appropriate steps to fill those gaps. Directors can never sit back and say, ‘I’ve done it’. They need to keep updating their knowledge.”
- Financial Fundamentals for Directors by Dianne Azoor Hughes (AICD). Revised version available 2019.
- 50 Matters to be Considered Before Signing a Company’s Financial Statements (3rd Edition) (AICD). Complimentary for members.
- Financial Literacy for NFP Directors: Role of the board(AICD). Complimentary for members.
- Business.gov.au has a range of planning tools and templates available for business.
Topping up your skills
The AICD offers a range of course options for directors and aspiring directors:
- Financial Literacy for Directors and Driving Financial Performance are two modules of the Company Directors Course.
- Mastering Financial Governance focuses on key issues and financial risks relating to the stage of the life cycle of a company, financial governance and reporting responsibilities, governance practices relating to external financial reporting and critical financial considerations and risk areas in financial reporting.
- Mastering Financial Governance. WA, Oct 16.
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