SBL Module 4: Stakeholder

Management
Contents
Governance ................................................................................................................................. 3
Agency ..................................................................................................................................... 3
The agency problem ................................................................................................................ 3
Managing the agency problem ................................................................................................ 4
Difficulties with remuneration ................................................................................................ 4
Exam focus ............................................................................................................................... 4
Stakeholder Analysis and Social Responsibility........................................................................... 4
Stakeholder conflict ................................................................................................................. 5
Mendelow’s Stakeholder Mapping Matrix .............................................................................. 6
Problems with Mendelow’s matrix ......................................................................................... 6
Corporate Social Responsibility (CSR)...................................................................................... 7
Reporting to Shareholders .......................................................................................................... 8
Integrated reporting framework ............................................................................................. 8
The six capitals of IR ................................................................................................................ 9
Guiding principles .................................................................................................................... 9
Content elements .................................................................................................................. 10
Benefits of IR.......................................................................................................................... 10
Exam focus ............................................................................................................................. 11
Sustainability reporting ......................................................................................................... 11
Social and environmental reporting ...................................................................................... 11
Exam focus ............................................................................................................................. 12
Governance Scope and Approaches ......................................................................................... 12
Advantages and disadvantages of rules and principles-based approaches .......................... 13

1
 Sarbanes Oxley (SOX) ............................................................................................................ 14
International bodies .............................................................................................................. 14
Insider model ......................................................................................................................... 15
Institutional shareholders ..................................................................................................... 15
Public Sector Governance ......................................................................................................... 15
Dealing with questions related to public sector organisations ............................................. 16
Differences between private and public-sector organisations ............................................. 17
Board of Directors ..................................................................................................................... 18
Structure of the board ........................................................................................................... 18
Non-Executive Directors (NEDs) ............................................................................................ 18
Sub-committees of the board................................................................................................ 19
Unity and two-tier boards ..................................................................................................... 20

2
Governance
Agency

An agent is a party that acts of behalf of a principal.

In business the shareholders (the principals) appoint directors (the agents) to work on their
behalf.

The agency problem

The agency problem involves ensuring that agents are acting in the best interests of the
principals, rather than in their own best interests.

It arises as a result of two main factors:

1. Self-interest – the agenda and objectives of the directors are unlikely to perfectly align
with those of the owners.
2. Information asymmetry – the directors know more about the company than the owners

3
Managing the agency problem

There are two key approaches:

1. Governance – appointing non-executive directors to monitor the activities of the

executive directors
2. Remuneration – this needs to be carefully considered to ensure the directors (agents)
are working in the best interests of the shareholders (agents)

Difficulties with remuneration

Remunerating directors to ensure they work in the best interests of shareholders is difficult in
practice. Consider these examples:

Linking bonuses to current year profits – this can create short-termism as directors prioritise
short-term profits at the expense of everything else. E.g. they may save money to boost short
term profits by cutting training or not replacing staff but this will destroy long term value

Linking bonuses to share price – may encourage risk taking as directors will achieve huge
bonuses if the risk pays off but will not lose anything if it does not.

Exam focus

In the exam you may need to identify any problems with agency which may have arisen in the
organisation and analyse the factors that have caused it to arise. Suggesting improvements for
managing the situation may also be required.

Stakeholder Analysis and Social Responsibility

Stakeholders are any people or groups of people that have an interest in an organisation or are
affected in some way by its actions.

Active stakeholders, such as managers and employees are directly involved in the business,
whereas passive stakeholders, such as customers or the general public are affected by its
actions.

Stakeholders that communicate directly with the organisation are direct stakeholders, whereas
those who can’t do this (for example the environment) are indirect stakeholders.

Johnston, Scholes and Whittington classify stakeholders using the ICE framework:

4
 I Internal Stakeholders within the organisation Managers, employees etc.

Linked to the organisation (often via a Shareholders, customers,

C Connected
contractual relationship)
Outside of the organisation, but still
E External
affected by its actions.
suppliers, lenders etc.
Competitors, the media, the
local community etc.

Stakeholder conflict

Stakeholder all have their own specific interests in an organisation.

The interests of the various groups rarely align with each other.

This creates conflicts between the various stakeholder groups.

For example:

Customers: Reasonable price and good quality goods/services

Employees: Fair pay, job security, good working conditions, career development

Shareholders: Maximise profits and receive a dividend

This creates conflict as not all of these needs can be simultaneously met.

The organisation will need to find a way to keep all stakeholder groups satisfied and avoid
meeting the needs of one group at the expense of the others.

For example, keeping wages low and charging high prices in order to pay good dividends is
unlikely to be successful long term. Employees will leave (staff turnover is costly and may also
result in less skilled staff), and customers will stop buying the product if they are unhappy with
the cost. Both of these will compromise future dividends.

Stakeholder management is a balancing act of the various needs.

5
Mendelow’s Stakeholder Mapping Matrix

Mendelow’s matrix is used to determine strategies for managing stakeholders by plotting their
relative power and interest in the organisation.

Power: ability to influence decisions made by the organisation

Interest: degree to which they are affected by the actions of the organisation

Interest
High Low
High Key players Keep satisfied
Power
Low Keep informed Minimal effort

Key players: These stakeholders are interested in the organisation and have the power to affect
it. They will need to be considered in any decision.

Keep satisfied: These stakeholders have a lot of power, however they are unlikely to exert this
power as they have little interest in the organisation. They will need to be satisfied because if
they are not their interest levels may rise and they may decide to exert that power.

Keep informed: These stakeholders have a lot of interest in a decision, or a particular decision
that it is making, but do not have the power to do anything about it. They must be kept
informed. These stakeholders can increase their power by lobbying those that do have power
(e.g. trade unions or governments) if they are insufficiently informed and reassured.

Minimal effort: these stakeholders have little power or interest and as such will need only
monitoring in case either of these factors should be raised at any time.

Problems with Mendelow’s matrix

 Does not show how conflict can be resolved

 Levels of power and interest can change over time
 There is a range between ‘high’ and ‘low’ which is not really covered by the model
 Stakeholder management is an art, not a science

6
Corporate Social Responsibility (CSR)

CSR relates to the impact that an organisation has on society as a whole and how it manages
that impact.

Organisations may have a narrow or broad CSR stance (Johnson et al)

Narrowest: Focus is on short-term profitability; unlikely to support

charity which it would view as an expense

Narrow: Focus is on profitability over the longer term; charity viewed

as an investment so would only be supported if profits would
rise as a result

Broad: Focuses on other stakeholders, not just shareholders, others

would be considered due to moral obligations not simply
because profit would increase as a result

Broadest: Large, influential organisations that consider that they have a

moral responsibility to enter discussions internationally and
take an active role in responsibly shaping society and the
world in which they operate.

Grey, Owen and Adams also describe a spectrum of CSR stances which organisations take:

Pristine capitalist: Business exists only for shareholders, money would not be
spent on anything that does not direct increase the wealth of
shareholders and to do so would be considered to be theft

Expedients: Might support CSR only if shareholder wealth would increase

as a result

Proponents of the social contract: Beyond acting within the law, if customers do not approve
of their actions the social contract will have been breached
and revenue will fall. Recognises that actions need to be seen
to be moral as well as legal.

Social ecologists: Businesses have a moral obligation to consider their social

and environmental impact

Socialists: Business decisions should be made to serve all (not the

shareholders)

7
Radical feminists: Promote traditional feminine values, e.g. compassion,
cooperation and understanding

Deep ecologists: Man has no right to exist or consume resources than any
other animal or plant

Reporting to Shareholders
Traditionally organisations have reported their results primarily in a financial context. There are
a couple of problems with this:

 The focus is too narrow, showing only the financial results with no explanations as to
how the results were achieved
 They are historical and therefore backwards looking. This may not be an accurate
prediction of future performance.

These problems can be reduced by adopting an approach of integrated reporting (IR)

Integrated reporting framework

The integrated reporting framework was developed by the International Integrated Reporting
Council.

The aim of this was to develop an approach to shareholder reporting which demonstrates the
link between strategy and the use of the resources within the organisation to create value.

The focus is no longer simply historical and ideally aims to demonstrate how value is created in
the short, medium and long term.

Providing more information to shareholders should increase their confidence in the business
and provide a much better foundation on which they can base their decisions.

IR is voluntary therefore the way in which the requirements are applied by organisations can
vary greatly and may not even by applied at all.

However, IR is gaining in popularity and is becoming increasingly mainstream.

Progress towards a more consistent approach on this is being made, as the requirements of IR
are now considered by standard setters when new accounting standards are developed.

Integrated reporting incorporates three key elements:

 The six capitals of IR

 Guiding principles

8
  Content elements

The six capitals of IR

In order to create value, an organisation will make use of six capitals.

 Financial – money
 Manufactured – factories, tools and equipment
 Human – experience, skills and motivator of the workforce
 Intellectual – intangible assets such as brand, patents and copyrights
 Social – relationships with key stakeholders (suppliers, customers etc.)
 Natural – natural resources such as raw materials and water

Explaining how these are used is a key part of IR as it allows the company to demonstrate how
the value has been created.

Guiding principles
The integrated report should present readers with a big picture perspective of the organisation
which is both clear and easily understood.

To achieve this, the following guiding principles need to be taken into consideration when an
integrated report is produced:

1. Strategic focus and future orientation – the information presented should have a ‘big
picture’ focus and the information presented should be forward looking
2. Connectivity of information – the information should link together to give the reader a
coherent single overview of the organisation
3. Stakeholder relationships – the report must take into account the relationships with
stakeholders, this will determine what is reported, and what exactly is meant by ‘value’
4. Materiality – the information reported should be sufficiently high level, avoiding an
excess of unnecessary detail
5. Conciseness – the report should be presented in such a way that it is easy for the reader
to understand and allows the formation of an overall picture of the organisation.
6. Reliability and completeness – the report should give readers confidence that there are
sufficient processes in place to ensure all issues have been identified, appropriately
measured and reported
7. Consistency and comparability – reports will only be useful if they can be compared
against prior years and other organisations

9
Content elements
Although specific contents of the integrated report of an organisation may vary, typically they
could include:

1. An overview of the organisation and its external environment. For example, SWOT and
PESTLE information could be incorporated.
2. Details of the governance of the organisation
3. Description of the business model, i.e. how input capitals are used to generate output
capitals
4. Risks and opportunities faced by the organisation
5. Strategy and resource allocation
6. Performance
7. Outlook
8. Basis of preparation and presentation of the report
9. General reporting guidance

Benefits of IR
We have already stated that improved confidence of shareholders is a key benefit of IR,
however, its implementation does have a number of benefits, not only for the shareholders and
external stakeholders, but also for the organisation itself and the employees within.

In a report entitled ‘Insight into Integrated Reporting: Challenges and Best Practice Response”
published by the ACCA in April 2017, the following benefits of IR were noted:

 More integrated thinking and management

 Greater clarity of business issues and performance
 Improved corporate reputation and stakeholder relationships
 More efficient reporting
 Employee engagement
 Improved gross margins

The full article expands on these benefits and provides excellent background reading which may
help to further your understanding of integrated report in a more practical sense can be
accessed here:

http://www.accaglobal.com/content/dam/ACCA_Global/Technical/integrate/pi-insights-into-ir-.pdf

10
Exam focus
In the exam you could need to argue the case for the adopting an integrated report approach to
reporting, i.e. demonstrating how the benefits outweigh the cost.

Sustainability reporting
Sustainability refers to the ability of the business to continue into the future.

It involves ensuring current actions do not compromise the future.

Sustainability reporting is voluntary, and has three aspects:

 Profit: the economic sustainability of the organisation. If it does not make a profit, it
cannot continue long term.
 People: social reporting
 Planet: environmental reporting, ensuring that the organisation does not compromise
the future of the planet

Social and environmental reporting

For the exam, you will need a general awareness of the following two schemes:
1. EMAS: Eco-Management and Audit Scheme (European Commission) – this is a
voluntary scheme that requires:
 Expressed commitments to
 Comply with legislation
 Continually improve environmental performance
 An environmental management system to control and measure the
impact the organisation has on the environment
 Audit at least every three years
 Audited statement with detailed disclosure of environmental impact
2. ISO 14001 (International Organisation for Standardisation) – this scheme is similar to
the above, however it does not include a requirement for external audit verification.
While this is not required, organisations can still choose to obtain this should they
choose to provide additional assurance to the readers.
This scheme requires only that a public declaration is made that the standard has been
complied with.
This will be supported by internal audit.
Benefits of accreditation of EMAS or ISO 14001:
 Improved stakeholder communication

11
  Improved stakeholder relationships and reputation
 Environmental impact can be better managed, reducing cost
 Reduced risk of non-compliance with regulations

Exam focus
In the exam you may need to convince a board to gain accreditation with one of these schemes.

Governance Scope and Approaches

Corporate governance is the system by which organisations are directed and controlled.

The approach taken to corporate governance can be either rules based or principles based.

Rules based Principles based

Specific rules that a company must
comply with.
Compliance required by law.
Must be complied with.
Broad general concepts (principles) to be applied
flexibly.
Requirement of listing (therefore must be
followed by all listed companies).
In non-listed companies it is considered best
practice.
Applied on a comply or explain basis.

12
Advantages and disadvantages of rules and principles-based approaches
Advantages
Compliance required by law.
Rules Increased shareholder confidence.
based No ambiguity.
Minimum standards should be achieved.
Non-compliance must be explained so is
judged by those it directly affects.
Easier to apply internationally.
Lower compliance costs.
Principles
based Increased economic activity.
Encourages good behaviour by focusing on
the spirit by which organisations should be
run, rather than the rules they must
comply with.
13
Disadvantages
No flexibility when unusual
situations arise.
Can encourage working around
the rules.
Excessive rules and severe
penalties can discourage
businesses from operating in that
location.
Not every situation can be pre-
emptied.
Bureaucratic approach likely to
increase costs of compliance.
Principles are open to.
interpretation, leading to
inconsistencies.
Confidence of investors may be
lower as organisations are not
legally required to comply.
Sarbanes Oxley (SOX)

SOX operates in the USA and is a good example of a rules-based system.

The provisions of SOX include:

1. The Public Company Accounting Oversight Board (PCAOB) can intervene in audits and
financial statements if necessary
2. The work external auditors can carry out must be approved by the audit committee, and
they are not allowed to carry out an non-audit services
3. All members of the audit committee must be independent
4. At least one member of the audit committee must have recent and relevant financial
experience
5. Annual reports should include internal control reports that describe how the adequacy
and effectiveness of internal controls is ensured
6. External auditors should review the internal controls
7. The CEO and CFO personally certify the financial statements and can be held personally
liable for them. Strong internal control procedures are required to support this.

International bodies

You should be aware of the following two voluntary codes:

Deals primarily with governance issues related to the

Organisation for Economic Co-
operation and Development
(OECD)
International Corporate
Governance Network (ICGN)
separation of ownership and control. Its principles
cover:
 Rights of shareholders.
 Equitable treatment of shareholders.
 Role of stakeholders.
 Disclosure and transparency.
 Responsibilities of the board.
Enhances OECD via practical guidance and examples.
It focuses on managing relationships with all
stakeholders.

14
Insider model

Situations where the owners (shareholders) are outside the business is known as the outsider
model.

The insider model is where the owners are also the managers, or there are a small number of
very large shareholders who will therefore be more interested and involved in the day to day
business activities.

In these situations, corporate governance will still exist and additional care may be needed to
treat all shareholders equally (not focus on meeting the needs of the single majority
shareholder)

Institutional shareholders

Institutional shareholders are financial intermediaries, such as pension companies, which invest
in companies on behalf of its clients.

The clients are likely to expect the fund manager to actively manage that investment on their
behalf.

In the UK, the Stewardship Code requires institutional shareholders to explain what action they
take to look after the investments of their clients.

The Stewardship Code must be applied, on a ‘comply and explain’ basis, by listed intermediaries
and is considered best practice for intermediaries that are not listed.

Public Sector Governance

Many of the principles of good corporate governance are the same for public sector
organisations as they are for private companies.

In many ways the need for good corporate governance is even more important in the public
sector as they need to be accountable for taxpayers’ money.

Therefore, they still need to:

 Maintain objectivity and independence

 Separate operational and NED roles
 Work in the best interests of the owner

15
Dealing with questions related to public sector organisations

If you are faced with a corporate governance question relating to a public-sector organisation
you will need to

1. Consider corporate governance principles that are used in the private sector
2. Tailor your response based on the specific needs of the company bearing in mind the
following key differences between public and private sector organisations

16
Differences between private and public-sector organisations

Private Sector Public Sector

Ownership Shareholders Governments on behalf of tax payers.
Agent: Directors Agent: Directors.
Agents/Principles
Principle: Shareholders Principle: Taxpayers via the government.
Provision of high quality service.
Value for money (VFM) as measured by the three E’s:
Maximisation of
Objectives shareholder wealth Economy: cost of inputs.
(profit)
Efficiency: ratio of inputs to outputs.
Effectiveness: quality of outputs.
Capital is provided for
the creation of future
returns.
The government (funded by taxpayers) provides funds
Finance The more successful a to meet a wide range of public policy objectives.
company is, the easier it
will be for it to raise
funds.
High level of scrutiny. Public sector organisations are
spending the money of the taxpaying public, so they
Lower level of scrutiny,
are more accountable and held to a higher standard in
mostly from
Level of scrutiny terms of reporting, behaviour and governance.
shareholders.
There could be severe repercussions if funds are not
used in the best interests of the tax payers and the
public policy objectives are not achieved.
Public sector companies usually report to an oversight
body such as a Board of Governors to assure the
External audit provides owners that the organisation is meeting its objectives
assurance to and the resources of the organisation is used in the
Assurance
shareholders and other best interests of the state.
key stakeholders.
Many public-sector organisations will be subject to
both external audit and political scrutiny.
The better a private Funds tend to be directed towards those public-sector
sector company organisations which do not perform well. This is in an
Generating funds
performs, the more attempt to improve the service that is provided by that
funds it will attract. organisation for the public it serves.

17
Board of Directors
The board of directors manage organisations on behalf of the shareholders; they have a duty of
care to act in their best interests.

The main duties of the board include:

 Monitoring and controlling business activities

 Overseeing strategy and direction
 Setting the cultural tone of the organisation by providing leadership, corporate vision
and setting a good example for the rest of the organisation to follow
 Risk management
 Raising the corporate profile and managing relationships with key stakeholders, such as
major investors

The chair of the board is responsible for determining the size and make-up of the board and
ensuring that it functions effectively overall.

Structure of the board

 To ensure that too much power is not held by a single individual the chair and CEO
should not be the same person.
 At least half of the board members should be non-executive directors

Non-Executive Directors (NEDs)

NEDs are independent directors which do not have an operation role in the organisation.

In the exam you may need to identify instances where the independence of NEDs has been
compromised, for example due to a close personal relationship with an executive or business
dealings with others connected to the organisation.

NEDs have the following roles:

 Contribute to strategy
 Monitor the activities of the executive directors
 Assist in risk management
 Ensuring the right people are employed in the executive director positions

18
Sub-committees of the board

The audit committee is made up entirely of NEDs, one of which will

have recent, relevant financial experience. It:
Reviews financial statements before they are signed off by the board.
Improves the independence and strength of internal audit by signing
Audit committee off reports and recommendations before they are issued.
Appointing and remunerating external auditors and acting as a
clearance point for their work.
Ensuring that adequate risk management processes are in place and
operating effectively.
This committee manages all appointments to the board and
undertakes succession planning for the board.
Nomination The balance of the board in terms of diversity, skills and experience
committee will be managed by this committee.
They will also be involved with the annual reappointment of directors
in larger companies.
Determines the pay and reward packages for executive directors. To
do this they will:
Remuneration Consider market rate, skills and experience.
committee Ensure overall amount is attractive but not excessive.
Ensure bonuses and share options motivate executives to work in the
best interests of the shareholders.

19
Unity and two-tier boards

Structure Definition Advantages

Less bureaucracy, so faster decisions.
Only one board exists. Less meetings, so less cost.
Unity Mixture of executive Improved decision making as more people with
directors and NEDs. different perspectives and knowledge will be
involved in each decision.
Two boards.
Supervisory board of Executives cannot dominate all decisions due to the
NEDS. full segregation of executives and NEDs.
Two-tier Management board of Each board will monitor the other.
executives.
The time of NEDs will be freed up as they will not be
Management board involved in detailed operational matters.
reports to supervisory
board.

20