How failing to recognise corporate governance can really hit your bottom line

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Corporate Governance (‘The system by which organisations are directed and controlled’, Cadbury Report 1992) is becoming increasingly important across the public, private and third sectors. Corporate Governance can be seen in two ways. Firstly, there are many opportunities to maximise profit, value for money and investment through best practice corporate governance.  Many academic studies have shown that companies that are governed better perform financially better.

However, the other side includes risk.  This includes adherence to a strict set of regulatory mechanisms, internal policies and procedures.

Failure to comply with these regulatory mechanisms can result in large fines, such as J P Morgan being penalised £33.32 million in 2010 for failing to segregate client and business funds. This example is, of course, related to the financial sector and it may just be possible that some procurement personnel see corporate governance as being confined to accountants and senior management. After all, it was the financial sector that contributed to the 2008 financial crash that led to corporate governance becoming embedded into most organisations culture.

But procurement does have a large part to play contributing to the overall corporate governance of an organisation as they are responsible for:-

  • Spending large amounts of company money
  • Deciding which suppliers to use

Additionally, they are also in a position of responsibility and have greater opportunity to commit fraud for personal gain.

In September of this year an English council awarded a contract to a construction company for local public services. It was then found afterwards that the final cost was £1m over budget, nearly double of what was originally planned. An external audit relating to the tendering and supplier selection process has been initiated to find out the background to what has been described as a ‘catastrophe’.

Initial findings found that:-

  • There was no signing off money from decisions made by procurement officers, one to the tune of £319,000
  • No tendering process was made prior to supplier selection

The key element for procurement governance is control, essentially being able to show that the organisation is in control of their spending. To do this the following three areas need to be addressed as an absolute minimum.

1.       Senior management support and stakeholder co-operation. Corporate Governance needs to be bought into in many areas of an organisation. Without this procurement will be running against the wind. Buyers could feel frustrated if end-users insist on circumventing procedure to obtain their third party services or materials quickly from a supplier that hasn’t been approved only to receive no backing from senior management.  Procurement needs to highlight the strategic importance to senior management in this case and how Corporate Governance will contribute towards the company goals and objectives.  In these cases it also proves useful to also highlight areas where the company has lost money through poor Corporate Governance and the risks it can bring if changes aren’t made.

2.       Robust procurement procedures. This will include segregation of duties, clear approval levels, defined roles and responsibilities along with supplier selection. Personnel involved within the procurement process, not just buyers, don’t just need to know the current procedures but also a step further and understand why they are required. Very often procurement personnel are placed in a role and learn on the job, this needs to be supported by the development of policies and procedures aligned to the company corporate governance strategy.  Key here is not only to consistently update your procedures ensuring alignment but also to communicate them to effected stakeholders ensuring they understand the associated drivers.

3.       Monitoring and reporting mechanisms. This final area looks at how an organisation can gain confidence that they are doing what they set out to do with their procurement activities. Due to resource constraints in every organisation these need to be focused on the higher risk areas such as approval for higher value purchases and supplier selection. Of course, the key here is prevention where a firm focus should be on creating robust procurement procedures and policies. However, verification of those procedures and policies are also required starting with internal audits. Having procedures alone is often not sufficient, as in the case of the council example mentioned earlier where procedures were laid down but not followed.

In summary

1. Have senior management and personnel linked to the procurement process on board

2. Ensure robust procedures are in place and are known and understood to those in 1

3. Conduct internal audits and report findings regularly to management