The Hindu Business Line : CFO may give evasive answers to CEO's tough questions

THERE are some ground rules to be followed when 500-plus elected representatives and a disproportionately large number of parties struggle to form a new government. Such as, that we don't quiz them on tricky issues, and that they don't blurt out anything offhand.

However, boards of companies do not deserve such kid-glove treatment. Directors can't enjoy the luxury of ignorance, inexperience and illiteracy.

And if they are on audit committees, Roman L. Weil wouldn't be happy if they can't add. "Before Enron, I'd been an obscure professor of accounting at the Graduate School of Business at the University of Chicago," he writes in www2.aya.yale.edu. Ever since, he has been busy telling people what went wrong. "What does financial literacy mean?" Here is Weil's answer: "Being financially literate means that you both understand the transactions your company undertakes and the accounting issues surrounding those transactions."

Contrast this with one of the recommendations in the Report of the Committee on Corporate Governance: that all audit committee members should be "financially literate" and at least one member should have accounting or related financial management expertise.

"Financially literate means the ability to read and understand basic financial statements, i.e., balance sheet, profit and loss account, and statement of cash flows."

And "a member will be considered to have accounting or related financial management expertise if he or she possesses experience in finance or accounting, or requisite professional certification in accounting, or any other comparable experience or background which results in the individual's financial sophistication, including being or having been a chief executive officer, chief financial officer, or other senior officer with financial oversight responsibilities."

Before the reform is put in place, we may have to think of a workable definition of literacy.

Reverting to Weil, dangerously for directors, he comes armed with a multiple-choice quiz! In the latest issue of Harvard Business Review, he mentions, "Only about half the directors we've asked to take the quiz have agreed to, which says something in itself." What is the score among the ones who took the test? "10 out of 25".

Here is a question that is picked from `the first or second chapter of any basic accounting book':

"Retained earnings on the balance sheet is an account usually referring to: (a) cash and other liquid assets, generated by income, with which the firm can pay dividends; (b) the assets, liquid and illiquid, generated by income, that the firm can distribute as dividends; (c) part of the firm's owners' claims to net assets of the firm; (d) none of the above; or (e) more than one of the above." Disappointingly, "only 23 per cent of respondents get that one right."

A common opposition that Weil faces from board members is this: "How can you expect me to know 700 pages of detailed accounting rules for financial derivatives? And I don't need to, because I know how to ask the tough questions," is a sample response. But Weil asks: "What good does it do the CEO or anyone with corporate and shareholder responsibilities to know how to ask the tough questions if she or he can't understand the answers and ask the appropriate follow-up questions?"

Grilling your CFO may not help, he advises, because the finance man may give you answers that range from satisfactory to evasive. So, there is `tough question' quiz where there are seven answers to a query posed by the audit committee to the CFO: "How do you know the reserve for uncollectible accounts is adequate?"

And the exercise is to mark them a, b or c: "(a) unresponsive, a reply you might hear from a CFO who doesn't know his business or is trying to trick you"; (b) OK as far as it goes but needs a follow-up question, which you must pose; and (c) satisfactory and complete."

Does Weil have solutions that can be readily implemented by the board? Yes. "Hire tutors." A good avenue for CAs! "Amount of learning board members will do is inversely proportional to the number of people in the room".

How about a one-to-one?

AccountSpeak@thehindu.co.in

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