Strategic Governance and Management Accounting: Evidence ... - SSRN

ABACUS, Vol. 47, No. 3, 2011

doi: 10.1111/j.1467-6281.2011.00344.x

JANEK RATNATUNGA AND MANZURUL ALAM

Strategic Governance and Management Accounting: Evidence From a Case Study

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This paper seeks to establish if top management (the board) of a firm should extend its overview of the governance process to the execution of strategy (i.e., strategic governance) and, if so, does the management accounting information system (MAIS) have a role in facilitating this strategy execution process. This study investigated the role of the board and MAIS in strategic governance by examining a company with a public record of both successful governance and integrated strategic management accounting processes in a high-risk industry. The analysis demonstrates that boards should go beyond the minimum conformance (compliance) requirements of the governance-regulatory legislation and assume ultimate responsibility for strategy execution and enterprise performance. However, while management accounting techniques, processes and reports were found to be used extensively in strategic governance to integrate the policy-management interface in numerous conformance–performance domains, the traditional role of the management accountant was found to be limited in terms of their role in such governance. The study demonstrates that a more strategic governance role offers the management accountant a way back into senior management by using the routines of management accounting to socialize the board and curb any opportunism that may arise. Key words: Corporate governance; Enterprise governance; MAIS; Management accountant; Management accounting; Strategic governance; Strategy execution; Structural governance; Value creation.

The topic ‘corporate governance’ has gained worldwide prominence since the spectacular corporate collapses in the first half of the twenty-first century (Child and Rodrigues, 2003; Monks and Minow, 2004, Roberts et al., 2005). As confidence in financial reports diminished among investors and creditors, a sense of urgency was felt among regulators in various countries to restore public confidence and to protect shareholders and investors (Gordon, 2002; Lambert and Sponem, 2005). Apart from corporate scandals, there has been normative pressure for better governance as the business environment has become more volatile, less predictable, more globalized and riskier.As the existing governance framework was realized to be inadequate, the usual regulatory response was to enact new oversight measures, controls and legislation intended to improve transparency, accountability and integrity (Vinten, 2002,

Janek Ratnatunga ([email protected]) is a Professor in the School of Commerce, University of South Australia, and Manzurul Alam is a Professor in the Murdoch Business School, Murdoch University.

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2005; Parker et al., 2002; Doost and Fishman, 2004). However, several commentators have viewed such an approach to corporate governance as limited, as it considered governance from a compliance perspective that produced a checklist, which they felt was unlikely to solve overall governance problems (Anderson and Chapman, 2002; Seal, 2006). Due to this culture of compliance and checklist approaches to improving corporate governance, much research in accounting has concentrated on issues such as ownership structure, board composition, audit committees, financial reporting, earnings restatements, and disclosure practices (Eng and Mak, 2003; Ajinkya et al., 2005; Karamanou and Vafeas, 2005; Beekes and Brown, 2006).1 Such approaches to governance have been collectively labelled ‘structural governance’ (Schmidt and Brauer, 2006). Such an approach, although consistent with deductive research using agency theory, is seen as only partial as it fails to address how external requirements can also be accommodated through internal organizational processes of a more strategic nature, leading ultimately to organizational success. The view emerging is that mainstream accounting research has failed to project a balanced system for integrating governance into internal organizational processes, which is the domain of management accounting (Pettigrew and McNulty, 1995; Seal, 2001, 2006; Finkelstein and Mooney, 2003; Daily et al., 2003; Schmidt and Brauer, 2006). MOTIVATION, CONCEPTUAL FRAMEWORK, AIMS AND ORGANIZATION The motivation for this paper arose due to a growing tendency among commentators and researchers, especially in the wider business literature outside accounting, to expand and clarify the role of the board as being not only responsible for upholding formal structures and processes, but also for providing leadership in using an organization’s competitive advantage to produce better performance (Hart, 1995; Carpenter and Westphal, 2001; Farinha, 2003; Charan, 2005; Schmidt and Brauer, 2006). More recent reports from the professions have also taken the stance that while the compliance nature of corporate governance was useful, it is too narrow in its focus. The Committee of Sponsoring Organizations (COSO) in 2002 highlighted the importance of enterprise risk management (ERM) in the corporate governance process, which extends and integrates the compliance requirements with that of strategic performance management. Similarly, the International Federation of Accountants (IFAC) highlighted the importance of strategic oversight mechanisms in governance (CIMA, 2004). Another impetus was the corporate governance guidelines of the Australian Stock Exchange, which clearly specified the role and accountability of the board in developing and ensuring a proper corporate governance system. This requires not only proper structural governance processes to ensure compliance, but also the procedures necessary to govern the formulation and implementation of strategy, the management of organizational risk, and the resultant 1

Another key reason why there has been so much research into compliance issues has been the ready availability of external databases with this information represented.


S T R AT E G I C G OV E R N A N C E A N D M A N AG E M E N T AC C O U N T I N G

evaluation of performance. These are the strategic governance processes of an organization. The above indicates that there is clearly a growing concern that, when seen in terms of long-term shareholder value creation, governance policies need to be designed to provide implementation guidance on strategic decisions and actions to take when critical issues arise in the organization. Therefore, this study focuses on strategic governance processes, especially how management accounting and the management accountant can help the board gain relevant information for decision making and evaluate performance in the execution strategy in a competitive industry. The reason for such a research focus is that while the normative (prescriptive) need for strategic governance processes has been articulated in the academic and professional literature, there has been very little descriptive empirical research on strategic governance in practice in commercial organizations. The likely reason is that both the sensitivity and high degree of secrecy surrounding strategy issues make the board’s effectiveness in guiding strategy execution more difficult to assess externally compared to structural governance issues. Some empirical work has been done by using public information; for example, Schmidt and Brauer (2006) suggest using a ‘strategy consistency’ approach, that is, to use the relationship between a firm’s resource allocation and its announced strategy as a proxy for boards’ effectiveness in guiding strategy execution. However, a case study approach, with good access to managers, staff and documents at all hierarchical levels of the organization enables a more detailed study of strategic governance issues and clearer insight as to how boards, senior management and other executives work together for organizational success. This approach has been employed in this study, offering a unique contribution to the literature.2 Undertaking a case study was also useful in the development of a theoretical conceptual framework for analysing the difference in focus of the contextual approaches to corporate governance in modern enterprises. The literature in the area of governance indicates that organizations have to have both a ‘compliance’ focus (emanating from legal and societal pressures) and a performance focus (emanating from economic pressures). This dichotomy was extended in an iterative manner while undertaking the case study, where it was found that the case study firm strived not only to enhance overall governance by getting an effective balance between conformance and performance, but also that the firm needed to have short-term and long-term focus in its governance processes. This four-way conceptual framework is shown in Figure 1, and assisted in the subsequent data analysis of the case study company. In this study, we specifically concentrate on the strategic process view of corporate governance, which is not merely a simple adaptation of rules and procedures (a compliance view). It is instead the application of sound principles and policies when 2

The Professional Accountants in Business Committee (PAIB) of the International Federation of Accountants undertook 27 short international case studies, drawing material from published sources (CIMA, 2004). However, no in-depth case study of strategic aspects of governance has been reported in the academic literature to date.


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Short-term

• • • • •

Legal compliance Audited financial statements Stock market disclosures Corporate affairs requirements Occupational health and safety

• • • • •

Net profit EBIT ROI Share price Dividends per share Incentive-based KPIs

Conformance

Performance • • • • •

• • • • •

SOX CLERP 9 ASX guidelines Ethical guidelines Directors code of conduct

Value creation Strategic management Risk management Mergers and acquisitions Change management

Long-term focus

using organizational resources and providing a strategic direction for organizational adaptation with its environment, and for the protection and enhancement of its value (a performance view). Taking a performance view of governance requires the adaptation of a broader perspective in accounting research. Therefore, rather than only an external reporting focus, an internal focus is also taken, with the paper specifically considering how the strategic governance process can be facilitated by the management accounting information system (MAIS).3 This, as discussed above, has been a neglected area of academic research. As such, this paper reports on a study that investigated the following issues: 3

The terms ‘management accounting information systems’ (MAIS), ‘management accounting information’ and ‘management accounting’ are used interchangeably to describe the application of tools, techniques and information dissemination processes required to create, protect, preserve and increase value so as to deliver that value to the stakeholders of enterprises. This requires the identification, generation, presentation, interpretation and use of information relevant to formulating business strategy; planning and controlling activities; decision making; efficient resource usage; performance improvement and value enhancement; safeguarding tangible and intangible assets; and corporate governance and internal control.



1. The role of the board in the overall governance of organizations. Should boards go beyond the minimum conformance (compliance) requirements of the governance regulatory legislation and assume ultimate responsibility for strategy execution and performance at all hierarchical levels? 2. The role of the MAIS in governance processes. In addition to the provision of decision information, does the MAIS have a role in socializing both the board and senior management in the areas of strategy and policy development by communicating and implementing governance systems aimed at executing strategy in an organization? 3. The role of management accountants4 in the wider organizational governance processes, such as strategy execution and performance management. Could the integrative communication role the management accountant has traditionally performed when undertaking the budgeting process be extended to contribute to effective governance and performance management, by providing decision information to formulate a company’s strategic policies and plans, and to direct and oversee the governance process as this strategy is executed?

LITERATURE REVIEW Despite various aspects of corporate governance having been discussed in the literature during the past decade, a uniform definition of corporate governance has not as yet been established. In broad terms, the term ‘governance’ refers to the act of governing, or the authority to rule and control. Through common usage, however, and its application across both private and public sectors, the term has taken on various meanings. Ratnatunga and Ariff (2005) provide at least three definitions from an economic, legal and societal viewpoint. Most of these definitions assume the existence of a separation of control from ownership. In general, governance is seen as the distribution of responsibilities among different parties for the successful oversight and management of the organization. Central to governance are the concepts of leadership, authority, accountability, transparency and stewardship. The literature on governance has concentrated on either (a) the roles played by various actors, such as directors, managers and shareholders, or (b) the rules and procedures as prescribed by different professional bodies and regulatory institutions. These are essentially structural governance issues. This can be contrasted to what is emerging as a new way to analyse governance issues in organizations, termed ‘strategic governance’. Governance in its wider sense, encapsulating both structural and strategic elements, has been given the term ‘enterprise governance’5 in recent times and describes the entire accountability framework of an organization (CIMA, 2004). 4

‘Management accountant’ is a job title given to an individual who is formally responsible for providing management accounting information.

5

We shall use the term ‘enterprise governance’ to describe collectively the two strands of overall governance, that is, structural and strategic.


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Enterprise governance has two dimensions—conformance and performance. The conformance dimension is what is most often referred to as structural governance, and covers issues such as board structures and roles, executive remuneration, financial reporting and assurance. The performance dimension focuses on strategy and value creation and is referred to in this paper as strategic governance. This dichotomy is shown in the conceptual framework developed in Figure 1. The term strategic governance has been used in the past fifteen years mainly by governments, state authorities and councils to encompass the processes by which the public sector is managed at a strategic level to ensure the efficient, effective and equitable allocation of state funding (see Schuster et al., 1994; Leslie, 1996; Queensland Government, 2003). However, the term is taking on a somewhat broader definition in commercial organizations. Strategic governance is the term now used to assess the board’s effectiveness in fulfilling its strategic role by guiding strategy execution. The argument is that truly good governance should be tied to organizational success.6 Therefore, it follows that an organization’s governance practices should evolve alongside the organization itself. Governance practices should therefore be oriented to help organizations become more sustainable and effective. Theoretical Perspectives in Enterprise Governance A number of different frameworks have emerged to explain and analyse governance from diverse theoretical perspectives, such as agency theory, economic theories (transaction cost), organization theories and stakeholder theories. Therefore, it is important to distinguish how different theories view governance processes, be they structural or strategic. The three main competing governance theories and perspectives are summarized in Table 1. Governance issues are prominently focused in agency theory which highlights the tension between principal (owner) and agent (manager). Agency theory stresses the need for proper governance mechanisms because of the separation of management and ownership in the corporate structure (Jensen and Meckling, 1976; Davis et al., 1997). The premises of agency theory are based on the assumption that both agents and owners are self-motivated and that there is asymmetric information sharing between agent and principal. Such an arrangement may lead to opportunistic behaviour which can reduce overall corporate performance. A concern with regard to the current agency focus of corporate governance is that its objective is mainly to reduce the excessive concentration of power in the hands of top management (i.e., the board of directors) as a result of separation of ownership and management of organizations. From such a shareholder perspective, the corporate governance problem is viewed not as a matter of how the board controls the lower echelons of the firm, but how ‘outside’ capital controls top managers and ‘insider’ capital. Thus the corporate governance debate is generally 6

This relationship is logical, as the benefits of governance to the organization’s stakeholders should logically outweigh its costs. However, there has been mixed empirical evidence of the relationship between good governance (in whatever way it is measured) and the performance of the company (as measured by its stock price, etc.). Some view good governance as an insurance policy for the organization, protecting it from a potential catastrophe but not guaranteeing financial success.


S T R AT E G I C G OV E R N A N C E A N D M A N AG E M E N T AC C O U N T I N G Table 1 COMPETING GOVERNANCE THEORIES AND PERSPECTIVES

Board’s role in corporate governance Risk attitude

Agency theory

Stewardship theory

Top down: control and monitoring

Strategic decision making empowering managers Prioritize and adopt risk attitude. Empower employees to manage risk (risk owners) Short- and long-term value creation via product differentiation and cost leadership strategies Management accounting: detailed, strategic and operational data; ex ante information

Risk averse (minimization of risk)

Performance evaluation

Short-term measures (profits, EPS, share price)

Accounting information

Financial accounting: aggregate ex post compliance

Resource dependency theory Boundary spanners: linking role Reduce uncertainty and promote survival via obtaining and allocating resources Short- and long-term resource management in terms of efficiency and effectiveness Selective financial and management accounting information. Resource utilization based KPIs

based on a suspicion of boards. It is this suspicion that generates structural governance mechanisms to be implemented, such as the role of non-executive directors and the added requirements of financial reporting and auditing practices. If shareholders could trust the board, then none of these governance mechanisms would be required, nor would the area have attracted the immense volume of academic and practitioner interest to date. Therefore, although this research study concentrates on strategic governance, these suspicion issues cannot be ignored.7 In theory, the agency problems can be solved by instituting proper monitoring and incentive mechanisms. It is expected that such mechanisms will align a manager’s objectives with a principal’s interests and prevent an agent from pursuing opportunistic behaviour. To alleviate such problems, accounting researchers, in line with regulatory requirements, have concentrated on designing comprehensive disclosure practices in the areas of organizational oversight and assurance activities. It is usually assumed that better reporting practices would unveil major corporate problems. However, the recent corporate scandals and collapses have led to the re-examination of traditional governance issues. Subsequent corporate governance regulations have concentrated on auditing and reporting issues (Treadway Commission [COSO], 1987; Cadbury, 1992; Financial Reporting Council, 2003) and the effectiveness of the board’s role and control mechanisms (COSO, 2002). This has developed a compliance culture, which has become the central focus of governance 7

This suspicion can be seen as now extending to senior management, given the recent furore worldwide regarding excessive executive salaries.


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found in most organizations; financial accounting reports play a major role in supporting this culture. Such a culture, however, provides little practical guidance as to how governance procedures can be implemented when executing the strategies of the organization. In contrast to agency theory, the resource dependency theory lays emphasis on reducing uncertainty by securing vital resources for organizational survival (Pfeffer and Salancik, 1978). Under this perspective, the roles played by the board are seen mainly as ‘boundary spanners’ as the organization adapts to its environment and reduces uncertainty emanating from the environment. Organizations can take advantage of the resources under their control to gain a competitive advantage in creating better customer value via product differentiation and cost leadership strategies (Porter, 1980, 1983). Accounting research adopting this perspective needs to take a wider view to understand how management accounting can aid in the process of resource generation and resource utilization. The other major perspective in governance is stewardship theory. This theory argues against managerial opportunism and places emphasis on trust and the need for recognition of achievement on the part of managers. Accordingly, both managers and owners are seen to have similar objectives, with top management (the board) expected to take an active part in the strategy formulation process (Donaldson and Davis, 1991). Theoretically, the board, senior management and other employees should work as a team, not merely to ensure compliance, but also to enhance organizational performance through collaborative efforts, which would ultimately lead to an enhancement of organization value to the owners. This is the area of strategic governance, and the role of the players in governing strategy execution. Thus, governance is seen as a process to promote trust and provide empowerment as a means of motivating all employees (management and staff) to achieve organizational objectives (Ratnatunga, 2004). However, stewardship theory has been criticized as it leaves management (especially the board) with multiple and often ill-defined collective functions (Davis et al., 1997). In such a context, management accounting information systems are seen as being useful in both the policy formulation and policy execution areas of strategic governance, especially in coordinating the activities of the organizational functions and processes. It is through such information systems that the board can provide an overall direction to the organization and monitor managerial performance (see Roberts and Scapens, 1985; Miller and O’Leary, 1987; Roberts, 1990; Miller and O’Leary, 1993; Simons, 1994; Ahrens, 1996). It can be seen from Table 1 that although the agency, resource dependency, and stewardship theoretical perspectives, when taken individually, focus on only a small part of the whole governance process—with each providing a one-dimensional view—they are nevertheless useful as they highlight different aspects of governance (Hung, 1998; Tricker, 2000). These theories are, however, not without limitations. For example, while agency theory is often criticized for treating managers as opportunistic and self-interested, the stewardship theory is considered too optimistic about managerial behaviour. There are other theories that could also be considered, such as political economy theory, stakeholder theory, and legitimacy theory. Political economy theory 350 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney


recognizes the potential for management to tell its own story or refrain from doing so, according to its own economic self-interest (see Jaggi and Tsui, 2007). Legitimacy theory states that companies undertake disclosure, not only due to reasons of accountability and visibility, but also as a way of legitimizing their activities and portraying themselves as acting in a manner consistent with prevailing social norms and expectations (see Eng and Mak, 2003). Stakeholder theory states that companies are seen as having an obligation to consider society’s long-run needs and wants, which implies that they engage in activities that promote benefits for society and minimize the negative effects of their actions, so long as the company is not prejudiced by engaging in such activities (see Branco and Rodrigues, 2007). This theory is very close to legitimacy theory. We did not specifically study these theories in a governance setting, as they pertain mainly to voluntary disclosures. However, aspects of these theories were found in the case study observations and will be referred to in the relevant discussion. As discussed above, accounting research, in addressing corporate governance issues, has mainly focused on agency theory and structural governance; specifically, financial accounting and reporting compliance requirements that are significantly influenced by institutional guidelines for improving better disclosure practices. The Cadbury Report (Cadbury, 1992) initially highlighted the importance of compliance with prescribed codes and regulations. Similar reports, such as the Treadway Commission Report (1992) and the Hilmer Report (1993) provided guidelines for best practices on internal controls, reliability of financial reports, and compliance with laws and regulations. The U.S. Sarbanes-Oxley Act (2002) suggested new responsibilities for trustworthiness, reliability of financial reports (s. 302), and requirements of internal controls (s. 404). Such guidelines are primarily based on agency theory and suggest that improved disclosure can reduce agency costs for better information flows. Bushman and Smith (2001) describe the importance of financial accounting information in corporate governance. Accounting researchers have also investigated whether relevant and reliable disclosure could attract institutional investors (Kim and Verrecchia, 1994). Bhimani (2008) is critical of the above compliance-based structural governance codes that regulatory bodies have adopted (that are, in fact, based on certain economic rationales, as articulated, for example, by agency theory, transaction cost economics, stakeholder theory and stewardship theory as discussed above), without disclosing (or even understanding) that these codes have been simply adopted wholesale from economic rationalism. He takes issue with the ways in which highly particular codes of moral behaviour have been slipped into corporate governance rules and standards of conduct without revealing the economic axioms on which they are based. Bhimani (2008) is particularly critical of regularity rules that exhort companies to follow an ethical code of conduct without ever offering a clear economic justification as to why this is required. He therefore calls for a more overt fusion between ethical codes found in governance regulation and modern economic rationality in the academic discourse on the subject. Governance codes should recognize that they are aimed at the moral behaviour of ‘free-riders’ who may circumvent the organization 351 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

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from achieving its economic objectives. Thus, economic rationality underscores the moral behaviour expected, as ultimately enterprises seek wealth maximization, human motivation is acquisitive, and managers are self-interested. Studies of the organizational consequences of strict adherence to the external requirements of financial reporting have shown that these may, in fact, discourage managers from acting for the economic benefit of the organization (Bhimani, 2008; Ahrens, 2008). Similarly, a strict adherence to complying with ethical codes may discourage managers from acting in the spirit of those codes in corporate governance reporting by placing undue constraints on entrepreneurial behaviour. Other researchers have also found that managerial disaffection sets in when accountability becomes formalized and standardized (Roberts and Scapens, 1985; Hopper and Powell, 1985; Cooper and Hopper, 1990). This ultimately leads to a reduction in organizational value, although no regularity codes have been broken. The view is, therefore, that formal structural governance systems undermine organizational learning and managers’ commitment to the organization, whereas more informal, socializing forms of ‘communicative’ governance enhance learning and in-depth understanding.8 This communicative aspect of governance is what is referred to as strategic governance, which is, as stated before, the particular focus of this paper. The key issue that remains in all governance perspectives is whether the board should restrict itself to compliance and control issues or take an active involvement in how the strategic direction of the company is being executed at the lower hierarchical levels. There are those who argue that the traditional style of governance structure may not be effective for creating long-term values unless the conduct of governance is seen not only as a control mechanism between the owners and the board, but also as a two-way process of communication and interaction between the board, senior management and employees for achieving the desired organizational performance (see Child and Rodrigues, 2003). Thus it can be argued that single paradigm theoretical approaches, such as those summarized in Table 1, may not be useful in explaining the complexities faced by modern business organizations in practice (Morgan, 1986; Child and Rodrigues, 2003). A better understanding can arguably be gained by taking a multi-paradigm (or integrated) approach of organizational governance based on economic rationality (Hillman and Dalziel, 2003). Management Accounting in Strategic Governance: Theory vs Practice As discussed above, the wider business literature, in contrast to much of the financial accounting and auditing literature, has gone beyond (agency theory based) structural governance, and now recognizes that governance includes the process whereby the board provides direction, authority and oversight over the organization’s strategy execution (see Wood, 1991; Bansal and Roth, 2000; Holme and Watts, 2000; Porter and Kramer, 2002; Kytle and Ruggie, 2005). Ultimately, both the enterprise governance strands (strategic and structural) are for the benefit of the company’s stakeholders with the goal of protection and 8

It is recognized, however, that some elements of each of these are needed in the modern corporation; that is, formal oversight mechanisms combined with informal ones.



enhancement of the company’s value (CIMA, 1999, 2004; Carpenter and Westphal, 2001; COSO, 2002; Charan, 2005). The two strands are often intertwined. This can be demonstrated by answering the three key enterprise governance questions posed by Shleifer and Vishny (1997), who take essentially a shareholder (owner) perspective. The first is, ‘How do the suppliers of finance get managers to return some of the profits to them?’ This can be addressed by both strands: strategic governance can provide the strategic objectives and performance measures (such as net profit, ROI and EPS) and ensure that strategies are implemented and results achieved; while structural governance can provide assurance that these performance measures are properly computed and reported. The second question is, ‘How do they make sure that managers do not steal the capital they supply or invest in bad projects?’ Again, both strands are required. ‘Steal’ in a narrow sense includes misappropriation of funds and the payment of exorbitant executive salaries, prevention of which require robust internal controls and other structural governance mechanisms. However, ‘steal’ in a broader sense, by the board investing in loss making ventures, polluting the environment, and undertaking questionable business practices with corporate funds, clearly requires strategic governance processes. The last question is, ‘How do suppliers of finance control managers?’ Here, the control of top management (the board) could be direct, via both structural/legal compliance (e.g., independent directors, audit committees) and strategic/economic performance (e.g., dividends and share price). However, in terms of lower-level managers, control by shareholders can only be indirect, via its control of the board. The board could be seen, therefore, as having a possible role of a link-pin that integrates the two dimensions of enterprise governance (Likert and Likert, 1976). It can be argued, therefore, that as the governance process is about both accountability and value creation, it is important to evaluate the process in terms of the different roles played by directors and senior managers (especially in terms of strategic decision making and resource deployment) to achieve organizational objectives. It follows that an organization’s governance arrangements are important in determining clear objectives for management and staff to devise a system for sound decision making in risk and performance management. It is this value creation aspect of enterprise governance (where management accounting can be most useful) which has been neglected in much of the overall accounting literature. Although the U.K.-based management accounting professional body, CIMA, issued a report to highlight the importance of corporate strategies, risk management and voluntary disclosures for better governance in 1999 and again in 2004, this appears to have been largely ignored by regulators, accounting researchers and even the accounting profession in general. In contrast to conformance requirements which are external in their focus, the value-added dimension, with its performance and risk management aspects, requires the board not only to work closely with senior management, but also requires it to have forward vision, strategic thinking and risk taking abilities (CIMA, 1999, 2004; Seal, 2001; Scapens et al., 2003). Of specific interest to the subject of this paper would 353 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

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also be the roles played by management accountants and the MAIS in all of the above activities. Management accountants provide information to senior management on control and performance evaluation. Different functions of management accounting, such as attention directing, problem solving, and controlling are traditionally used by senior management to control subordinate employees. Often those in management roles do not communicate cross-functionally, staying within their silos. In such situations, it has been argued that the management accountant could not only act as an ‘integrator’ in providing communication and guidance for executives, managers and auditors who are involved in enterprise governance on a day-to-day basis, but also that management accounting information systems could support governance processes as the organization pursues its strategic goals, especially by monitoring the deployment of appropriate resources and the progress towards the achievement of stated objectives (Seal, 2001; Atkinson and Salteri, 2002). There is a rich literature over the last 25 years demonstrating how strategic management accounting (SMA) information systems have linked long-term or strategic goals of an organization with performance evaluation (see Simmonds, 1981; Ratnatunga, 1983, 1999; Bromwich, 1990; Wilson, 1991; Palmer, 1992; Ward, 1992; Lord, 1996; Tomkins and Carr, 1996; Hoque, 2002; Roslender and Hart, 2003). It follows that management accounting and control systems could, in turn, process governance information on the various activities through their data collection, information processing and analysis of sub-systems, and communicate such information (using internal reports) in an interactive and coordinated manner via senior management to the board. Such reports could be used by the board and senior management to make decisions that could ultimately lead to increased organizational value. The Simons (1995) interactive systems lever of control is also relevant here in terms of communicating and implementing the organization’s strategy. The purpose of an interactive system is to promote debate related to the assumptions underlying the organization’s strategy to promote learning and growth, and ultimately, value. Traditionally, management accounting techniques such as budgeting, standard costing and variance analysis have been used for performance evaluation and rewarding the efforts of managers and staff. Professionals with the job title management accountant are usually closely aligned to the chief financial officer (CFO) and, theoretically, should be perfectly positioned to facilitate the communication that must occur between the CFO, the board and the entire management team for effective enterprise governance, especially in the area of performance management. However, even though the above visibility and surveillance aspects of management accounting information are highlighted in the literature (Roberts and Scapens, 1985)—and thus there is an expectation of observing a significant role for management accountants in these areas—in practice, the use of management accounting techniques in strategic governance, performance and risk management is hardly mentioned in the related empirical studies. In fact, the limited empirical research undertaken to date on the links between these three areas has surveyed management accountants and found that they have little involvement in strategic governance processes involving performance and ERM (Collier et al., 2007). Therefore, a 354 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney


key aim of this paper is to establish if management accounting tools, techniques and information dissemination processes are being used in strategic governance processes, and if not, why not? RESEARCH METHOD AND SITE SELECTION In methodological terms, the study adopted an exploratory case research approach (Van Maanen, 1979; Yin, 1989; Scapens, 1990). Such an approach was justified, as the study aimed to understand the strategic value-enhancing roles of the board and senior management in general (and management accounting in particular) in strategic governance processes. The research could have been done either via questionnaire surveys or contextually within an organizational setting. The results of the limited empirical work done via questionnaire surveys on the MAIS role in governance were, however, contrary to the theoretical expectations; that is, they showed limited involvement in strategic governance processes by management accountants (see Collier et al., 2007). Therefore, a case study approach was considered more suitable to obtain an in-depth understanding of the governance of strategy execution. Case methodology facilitates the adoption of a holistic approach to understand different perspectives. At worst, a case study analysis would provide reasons why the results of the questionnaire surveys were contrary to theoretical expectations; at best, it could provide new insights into the theory vs practice discussion. The study was based on Sigma Pharmaceuticals Limited (hereafter Sigma), a leading manufacturing company in the pharmaceutical industry in Australia. We chose the pharmaceutical industry because the evolving global regulatory climate has become more complex, costly and risk-laden for this industry, with greater disclosure requirements for drug trials, increased transparency in pricing and marketing activities, and compliance with new financial and corporate governance laws. In this industry, Sigma was identified as being a very good fit in terms of our study objectives: (a) being in a high-risk industry that arguably requires both transparent structural governance procedures and dynamic strategy implementation capabilities; (b) having publicly available information on the conformance–performance aspects that were central to the study; and (c) having a publicly disclosed high reliance on management accounting information. Sigma is not only a key player in the volatile Australian pharmaceuticals industry, but has in recent times a share price history that has demonstrated significant volatility, demonstrating once again the risk–return relationship that the industry is susceptible to. The CEO was approached and provided with the rationale for choosing Sigma for an in-depth case study; he allowed us (the researchers) access to divisional managers and to different levels of information. As we were given open access granted under the CEO’s authority, we were freely able to undertake our investigation into the board and senior management linkages in the strategic and value-generating governance processes, and the emerging role of management accounting in these processes. The research was conducted through a series of face-to-face, semi-structured interviews with key informants over a three-month period in 2007. Face-to-face 355 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

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interviews included the CEO/managing director, an independent director, the company secretary, the chief legal officer, the CFO, the GM-human resources, the corporate management accountant and three other accountants.9 The CEO was interviewed first, and all other nine individuals were selected by us (often after follow-up of information obtained in an earlier interview) and then permission was obtained from the CEO to interview them individually. In addition to these formal interviews, other ad hoc, informal discussions were carried out with selective managers and employees representing different segments of the company. The informal interviews were documented and confidentiality was given to all these interviewees. As the interviews were unstructured, no interview protocols were developed for either the formal or informal interviews, the overall goal being to obtain in-depth information of strategic governance processes within the company. In order to cross-validate information generated through interviews, other information (from annual reports, governance statements, constitution, management reports, etc.) was also obtained and analysed. In total, in the first phase of the study, fifteen individuals were interviewed (formally and informally) over a three-month period. Most of these interviews lasted 60 to 90 minutes. The second phase of the study took place eight months later, in 2008, after comments were received (from two ad hoc reviewers and the participants of two conferences at which an earlier version of the paper was presented) that suggested that the thrust of the paper needed to be refocused, and thus further data needed to be collected. An advantage of undertaking a single-site case study was the ability to gather subsequent data that was not specifically focused in earlier interviews. Only the CEO and CFO were interviewed in the second interview phase, which took one morning on site, although several phone calls were made to other key executives to expand and/or explain aspects arising from the phase one interviews (or the documents provided) that were specific to the refocusing of the research study. Data collected in phase two specifically addressed further issues relating to strategic governance at Sigma. CASE STUDY ANALYSIS Although Sigma was established nearly 100 years ago,10 it was listed on the Australian Stock Exchange (ASX) only in November 1999. Soon after Sigma was listed, it changed its name to Sigma Pharmaceuticals Limited, following the merger between it and Arrow Pharmaceuticals Limited, and re-listed on the ASX in late 2005. Following the merger, Sigma was one of the largest 75 companies listed on the ASX. The business expanded to provide a comprehensive service and product offering to its customers. During the period over which the case study was conducted (2007–08), 9

10

No requirements with regard to privacy considerations in the formal interviews were requested or provided. The names of the individuals have been omitted in this paper, although many can be easily obtained by an examination of the corporate website. Confidentiality and privacy were, however, guaranteed for the ad hoc, informal interviews. Sigma was founded by two Melbourne pharmacists in 1912.



it had ownership of the two largest and most recognized pharmacy retail brands in Australia, Amcal and Guardian, as well as strategic relationships with numerous independent pharmacists and medical practitioners. In the five-year period 2003–07 Sigma was one of the strongest performers on the ASX with a greater than 200% increase in its share price.11 At the time of undertaking the case study, Sigma had grown to be the leading Australian pharmaceuticals manufacturer and marketer, and the most efficient wholesale distributor and retail banner group in the pharmaceuticals industry in Australia. During that period the company had approximately 1,200 shareholders listed on the share registry. A significant amount of shares were, however, concentrated amongst a few individuals; one representing a 17.5% holding who was also an executive on the board. As such, the company was considered to have a high shareholder concentration, thus necessitating a significant transparency in structural governance procedures to allay any dominance fears held by other stakeholders. For example, without adequate governance procedures, such shareholder-managers could get rewarded via exorbitant executive compensation in lieu of dividends and share price performance (as discussed in Ratnatunga and Ariff, 2005) at the expense of non-executive shareholders. The Role of the Board in Enterprise Governance at Sigma The company had a very small board consisting of seven members (three externals) including the CEO (who was also managing director). The ownership of shares by the CEO was minor compared to two other board executives, who represented the original owner families. All of the board members were also on the Risk Management and Audit (RM&A) committee, which was in reality both a performance and a risk management committee, as will be discussed later. From the interviews and study of the published documents, it was clear that the board of Sigma perceived itself as the top management level of the company and to be managing and governing for the benefit of all of the company’s stakeholders. Hence, it was clear that aspects of legitimacy and stakeholder theories were at play, especially in terms of the reasons for making voluntary disclosures. These stakeholders include its shareholders, employees, customers, independent pharmacists, medical practitioners, suppliers, and others. All directors (external and internal) have, as a matter of policy, full access to all senior executives and to all financial and operational information.

11

There was a drop in share price in 2008, and a further drop in 2009 wiping out most gains of the previous five years, which was attributed to the global financial crisis (GFC). The high-risk nature of the pharmaceutical industry, and the high share volatility of Sigma’s share, was however further evidenced when the shares collapsed in early 2010, due to a $424 million goodwill write-down of its Pharmaceuticals division that was forced upon it by its auditors based on the fair-value asset valuation rule. This in turn breached an asset covenant in its banking facility. At first reading, this appears to be that a non-performance in a structural governance area resulted in an inability to execute the company’s competitive strategies, which in turn led to strategic governance failure. Although this was a post-case study event, we will consider if, in hindsight, there were signals that were picked up by the researchers as to the embedded risks of the governance processes at Sigma.


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We found that, although clearly the board ‘owned’ the overall governance process at Sigma, the execution of policies made by the board was seen as senior management’s responsibility. The board, however, assumed ultimate responsibility for both dimensions (structural and strategic) of the enterprise governance process. In terms of strategic governance, processes were in place that empowered managers in both resource allocation and strategic decision making. These processes will be detailed later in the case study discussion. The performance and rewards at all levels of the company incorporated elements of short-term profitability and long-term value and there were many KPIs that measured the efficiency and effectiveness in the use of resources. Overview of Enterprise Governance at Sigma The company has a corporate governance statement, within which was what appeared to be a collection of motherhood statements12 such as (a) ‘that Sigma has established a comprehensive framework to identify, assess, monitor and manage risk across Sigma’s operations’; (b) ‘that there was monthly reporting to the board on group activities’; and (c) ‘that there was a wide range of Sigma policies and procedures and specific risk management activities in each business area’. Further, the company had prepared a Delegation Manual, a comprehensive insurance program and a specialized TGA13 compliance program including standard operating procedures. Sigma’s governance system was supported by conducting an external and internal audit of finances and controls, with periodic meetings between the board and the external auditor. It can be seen that Sigma’s governance policy and procedures, as disclosed in its governance statement, are heavily oriented towards structural governance, that is, compliance issues—both in the short and long-run. For example, it appeared that the primary objective of the RM&A committee was to ensure that the company does not damage its reputation by not complying (or inaccurately complying) with any matter related to its external regulation. As all this was very much agency focused (as discussed earlier), a further investigation was necessary as to if there were governance processes that went beyond these public statements, and if so, were there any links between such processes and Sigma’s price volatility in terms of its share market performance. We looked, therefore, for a governance-performance link between the company’s governance processes and its objectives, strategies, strategy execution and performance. The investigation had to find out the actual practices behind the motherhood statements found both in the corporate governance statement and the RM&A Committee Charter. Therefore, the interview questions specifically focused on exploring this area. The responses to these questions are detailed later, but in summary they are in line with the theoretical expectations from the literature that a 12

We have termed these as motherhood statements as similar statements appear in most organizational governance statements. What we set out to establish was if there was substance to these statements at Sigma.

13

Therapeutic Goods Administration.



conformance-performance dichotomy could be seen as evident in terms of governance focuses at Sigma. Interestingly, the data analysis was able to add to theory, as a contextual four-way governance classification was seen to exist at Sigma, in which a short- and long-run focus also emerged from the data collected (see Figure 1). This resulted in the development of a conceptual framework for the subsequent data analysis of governance focuses at Sigma, and could possibly be used for future research in the area. However, as will be discussed later, there were no clear boundaries that separated the quadrants. It can be seen from Figure 1 that, as expected, there was a clear structural (conformance) focus in the corporate governance statements and charters at Sigma (i.e., regulatory compliance), in both the long and short term. This was also evidenced by an admission from the CEO to a very general ‘Why do it?’ question. He said that the ‘visible’ governance processes found in statements and charters were only 30% of governance activity actually undertaken by Sigma. This was often done to be ‘seen to be doing’ the correct thing, and often translated to activities and disclosures done to fulfil either mandatory or voluntary regulation (see Figure 1 issues related to shortand long-term conformance). This was in keeping with stakeholder and legitimacy theories in which the company sees voluntary disclosures as a way of legitimizing their activities and portraying themselves as acting in a manner consistent with prevailing social norms and expectations. The CEO stated: We are subject to pressures such as the recommendation of CLERP 9.14 Also there are significant pressures in maintaining our TGA licence. If we lose that, we will have to shut down tomorrow. However, we recognize that there are governance aspects that cannot be legislated. Remember that governance is not about disclosing everything. If we disclose every crank or threatening letter we get, then it will panic shareholders unnecessarily. This is not good for the company or its customers and shareholders.

The company secretary and general counsel had a different take on the ‘Why do it?’ question and the response was, as expected, more structural and compliance based: My first responsibility is to keep Sigma ‘legal’ in terms of corporate and commercial law. There are also the TGA and EPA15 requirements which are mandatory. In addition, Sigma is controlled by ASX requirements as a listed company. Although the ASX 10-point corporate governance guidelines are voluntary, as a listed company we follow them anyway.16 There is a certain amount of peer pressure to do so, but even if there wasn’t, we probably will adhere as far as possible to them. These give guidelines as to the structure of our board, disclosure requirements, etc. Unfortunately the capitalist system of profit maximization produces ‘externalities’. But the law here is ‘fuzzy’. Often the TGA and EPA are seen as ‘regulating the same damn thing’. This may not necessarily cover all stakeholder expectations. 14

The Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004 (also known as CLERP 9) became law on 1 July 2004 in Australia.

15

Environmental Protection Act (EPA).

16

The ASX actually uses an ‘if not, why not?’ approach. As Sigma was complying, the ‘why not?’ reasons for non-compliance were not required to be given in the annual report.


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It was clear from the discussions that the company had a number of structural governance drivers, the main ones being TGA, EPA, unions, consumer associations (e.g., animal rights), ethical investment funds and equal opportunity laws (e.g., gender balance). The CEO said, however, that other pressures were often exerted on the company from its numerous stakeholders, some of which they had actively resisted. For example, Sigma does not, as a policy, contribute directly to charitable organizations. It prefers to give pay dividends to its shareholders so they can give to the organizations of their own choice. The board’s view was that charity is a personal matter, and that it cannot second-guess the desires of its diverse shareholders as to which are worthy charities for donations. Despite the strong and externally visible compliance requirements at Sigma (both in the long and short term), the CEO forcefully stated that 70% of what is undertaken as governance at Sigma is not subject to any regulatory requirements, and done because the company believes such actions ‘add value’.17 This was the strategic or performance perception of governance, again with a long- and short-term focus (Figure 1). One must not, however, consider the conformance–performance quadrants shown in Figure 1 as providing boundaries that it is forbidden to cross. Simons (1995) levers of control work on boundary systems might usefully be drawn on here because it recognizes the need to reconcile tensions between value creation and risk management on the basis that ‘a fast car requires good brakes’. While boundary systems describe constraints in terms of employee behaviour—that is, formally stated rules, limits and prescriptions tied to defined sanctions, and credible threat of punishment—they must provide incentives when the organization performs well and adds value. The CEO believed that most often these value additions arise in the area of how the company manages risks; for example, Sigma needs to implement a process to identify risks, assess them and insure against downside risk when possible, but it also needs to have a war chest (finance) to take advantage of upside risks when they arise. Both dimensions of risk require strategic alternatives to be considered. The CEO said that as Sigma’s profit grows, its capacity to take strategic risks also should grow. Strategic Governance Processes at Sigma The CEO was a CIMA (U.K.) qualified management accountant with an executive business qualification from Harvard. His view was that governance in a holistic sense should move beyond the checklist approach and instead flow from, and be directed by, both strategic and annual operating plans. Sigma has therefore established a (semi-formal) contextually driven process which includes (a) setting strategic objectives and determining specific timeframes for undertaking strategic planning, (b) methods for prioritizing strategies, (c) allocating resources, and (d) executing strategic decisions. There was also a feedback process to the board, often via the 17

While this percentage could not be established empirically, the documents analysed in the case study company (from which Figure 1 emerged) indicated an overwhelming majority was in fact performance related.



RM&A committee, that includes both performance evaluation and regularly scheduled updates and adjustments to strategic plans. The CEO believed that the board is ultimately accountable for all governance, including the development of strategic plans, and that delegating the strategic planning function to non-board managers impedes the level of commitment and understanding that is required for board effectiveness. While he conceded that the board does delegate some elements of governance and planning to senior management in functional areas, especially to the CFO’s area in preparing the business model that would follow from the strategy, the CEO firmly believed that the responsibility and accountability for the content of the strategic plan and the expected performance outcomes in executing the plan rests with the board. Table 2 summarizes the governance roles and performance management responsibilities at Sigma. The belief that the board was ultimately responsible for all governance was echoed not only by all its members, but also the senior managers and the CFO staff interviewed. Therefore, strategic planning is, as expected, a board function at Sigma. However, the CEO said: Strategic planning is not a formal process that is done at a specific time, but instead the planning timeframes are determined based on the situation that presents itself. For example, a drug going out of patent or an acquisition possibility of a competitor may be the starting points of the planning process.The board should also retain oversight responsibility of the functional and operational plans developed by senior and middle management to implement the strategy.

From the discussions with managers, it was established that planning at Sigma takes two forms—strategic and operational. As discussed above, formulating a strategic plan from amongst the many alternative choices available to the company was primarily the responsibility and role of the board (with significant input from senior management in functional areas). Operational planning was divided into high-level planning by the functional units, and detailed planning by middle management and staff, often with the help of consultants (see Table 2). In all cases the board was responsible for oversight of all plans, which essentially encompasses the area of strategic governance. The CFO had the following to say about the oversight role of the board: While oversight can be the function towards which boards most easily gravitate, it is equally important that they spend time on looking at what’s happening outside our walls (scanning) and planning accordingly. Without input, understanding and ownership of the overall strategic initiatives and operational plans to achieve them, it is virtually impossible for the board to effectively oversee their progress. Also the board is needed to settle petty squabbles between functions.

The CEO was also of the view that board responsibility for the strategic governance process is required because the process should be immune to undue influence by the parochial preferences of functional managers or even of individual interests. He believed that effective strategic governance is comprised of five primary steps: (a) analysing strategic alternatives (scanning), (b) developing strategic objectives and competitive positioning strategies (planning), (c) oversight of strategy execution (implementation), (d) oversight of performance and rewards (measurement), and 361 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

A BAC U S Table 2 GOVERNANCE ROLES AND PERFORMANCE MANAGEMENT RESPONSIBILITIES AT SIGMA Performance management responsibilities?

Primary roles in strategic governance

Board of directors

Yes (delegated to performance management [RM&A] committee)

Performance management (RM&A) committee

Yes (setting performance management priorities and standards )

Senior management (functional units)

Yes (implementing performance management strategies at operational level)

Consultants, internal and external auditors

Yes (providing assurance in performance management results reports)

Ultimately responsible for all governance. Specifically, the board undertakes environmental scanning and provides strategic policy, performance management direction, authority, oversight of strategy execution and replanning. Has primary responsibility for performance management. Delegates management authority, and specifies risk tolerance thresholds to senior managers in functional units. Reports performance plans and performance results to the board of directors. Assigns specific management authority, performance KPIs and risk tolerance thresholds to technician-level personnel. Undertakes operational planning and strategy execution. Reports performance results to RM&A (performance management) committee. Provide independent, objective assurance to senior management and the board of directors about the effectiveness of management, control, and governance processes in performance and risk management

(e) feedback and replanning (adjustment). As these steps indicated a systematic (almost textbook) approach to strategy formulation and execution, we asked the CEO to elaborate further. In terms of scanning and planning, he said: We are constantly examining and evaluating the environment in which Sigma operates, both at a macro level and a micro level. The macro environment considers not only the general economic conditions, but also legislation and regulation and population demographics. Obviously we keep a close eye on TGA and EPA regulations. The impact of an aging population and immigration policies obviously affect the demographics and therefore needs of our customer base. The micro environment is specifically the industry in which we



operate. Often the two are intertwined. For example, the pharmaceutical industry is significantly affected by societal values and lifestyles, such as the rising obesity of children, the increasing sexual experimentation amongst teenagers, the increasing stress levels of the workforce. Most often the medical conditions that these lifestyle choices bring about are treated with both over-the-counter and prescription-only drugs that we manufacture and market. We obviously also keep a close eye on what our competition is doing in these markets.

In terms of oversight, the CEO had this to say: At Sigma the board has oversight over the feedback process of the results obtained in the execution of strategy. This is done formally at the RM&A Committee as well as the board. Periodic re-scanning must go hand in hand with this to identify changes in the macro- and micro-economic environment. The board is continuously involved in assessing the progress toward achieving strategic objectives. Operational oversight includes regularly scheduled board monitoring for strategic programs and initiatives, the operational safeguards in place and the financial outcomes expected.

In terms of adjustments to plans, the CEO noted: In the past, the review of the company’s long-term strategic goals was done infrequently, generally not changing over several years. Now the industry is volatile, overly regulated and highly competitive, and thus the ongoing scanning of the economic environment and the industry in which Sigma operates is critical to determining how often the strategic goals and the strategic plan should be adjusted.

The key driver of adjustments to plans can be analysed in terms of what Hopper and Powell (1985) state is the major reason for institutionalized change; change comes about when the ‘working hypothesis’ character of the basic assumptions that are embedded in management knowledge are put to the test through experiences from the performance of role behaviour. When conditions change, experiences also change. Eventually, this leads to changed basic assumptions and—by extension—to changes in normative messages guiding organizational behaviour. The messages conveyed via the MAIS in the socializing of managers are gradually altered and changed, especially with the successional change of role incumbents. This means that new managers will be carriers of new ideas about appropriate managerial behaviour. The operational plans (and adjustments) follow from the strategic planning (and re-planning) processes at Sigma. Operational plan adjustments were also contextual, and occurred throughout the year at Sigma. The types of adjustments that have been made in the past at the functional and operational level are: (a) adjusting operational programs or activities, (b) discontinuing or sunsetting non-performing programs or activities, (c) adjusting expected outcomes, (d) reprioritizing and reallocating resources, (e) revising operational safeguards, and (f) providing feedback to the board as to the need for adjusting the strategies themselves. The CEO stated that operational oversight by the board is required to ensure that any adjustments to the operational plan must be aligned to the initiatives of the strategic plan. As this oversight falls within the area of strategic governance, it attracted our interest as researchers. At Sigma, we were able to establish that board oversight mostly focused on: (a) performance outcomes of the organizational functions (e.g., manufacturing, marketing) for the plan components assigned to them, 363 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

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(b) how well individual programs and initiatives are achieving defined outcomes, (c) decision making to resolve problems that arise in strategy implementation, (d) action to take advantage of newly identified, unplanned opportunities, (e) reprioritization resulting from board oversight actions, (f) adequacy of procedures and controls used to safeguard the company’s tangible and intangible assets, and (g) the chief executive’s performance outcomes. Communication Channels in Strategic Governance Processes The conventional wisdom of the literature suggests that there must be effective communication channels linking the owners and the board on the one hand, and the board and senior managers on the other, as joint risk owners (Farinha, 2003; Monks and Minow, 2004; Ratnatunga, 2004; Beekes and Brown, 2006). This was seen as critical to successful strategic governance. At Sigma, although the communication channels linking the owners and the board were mostly formal and conformance based, as there was high shareholder concentration in the board, communication was also direct. While this can be seen in a positive light in terms of ‘noise-free’ communication channels between the owners and management, we have already discussed how high shareholder concentration raises agency issues for non-executive shareholders. The conventional wisdom in the literature also states that relevant and reliable upward communication from risk owners to the board is also imperative for effective governance (Barton et al., 2002). At Sigma, there were formal and informal communication links between the board and the senior management in the functional areas, and these flowed down to the lower echelons. Further, the organization’s external consultants and the internal audit function assisted managers at various hierarchical levels (as risk owners) in preparing the formal performance and risk management plans they presented to the RM&A committee, which then communicated key aspects of this to the board. One of the management accountants had this to say: At certain periods, the quarterly forecasting and budgeting process is ‘my life’. The forecasts are made based on last year’s performance, the sales force forecasts, and trends and competitor activity is particularly considered. Most of the communication is ‘downstream’ (top-down). However, theoretically it is ‘upstream’ as well (bottom-up) as the CEO is very accessible to all staff, and I have often consulted him and the CFO on budgeting matters. As he was the former management accountant and then CFO, his insights are particularly useful; but he takes my views up to the board as well.

At Sigma, formal reporting flows can also start bottom–up—right at the production floor itself—as indicated in the following comment from the GM-human resources: The employee share scheme ensures that corporate governance and risk management starts at the shop floor level. At this level if an employee shareholder sees a practice that will increase the risk level of the company (and hence the possibility of a lower return via share price diminution) he/she will realize that this affects his/her personal income. ‘I am a shareholder, so I don’t want to see them doing that’ is an attitude we cultivate with all employees at Sigma. At the more senior executive levels, profit, which is a team measure,



has a significant weight in the overall KPI score, and thus corporative behaviour is encouraged. The other formal but less quantitative approaches to corporate governance include an Employee Code of Conduct and a ‘Whistle-Blower’ policy. There are also the more legislative approaches such as Health and Safety, TGA and EPA.

Throughout our study of the company, it was clear that there was widespread understanding at all levels of company policy of strategic governance issues, especially the trade-off between cost efficiency, performance targets and reputation risk. This had been brought about by a two-way communication process (between the board and the other managers) of the company’s policies and strategies. The following comment from a management accountant highlights this communication flow: On the production floor, I ask the managers, ‘If this was your business, would you be happy with this process?’ Issues such as the life-cycle impact of costs, and cost-efficiency issues and performance results are confronted directly. I also ask them ‘What motivates you to look after the reputation of your company?’ This ensures that cost efficiency is not the sole objective, especially if it results in not doing a process that can actually reduce the quality or reliability of our product, and hence our reputation, and ultimately our value.

At Sigma, in addition to the more formal top-down and bottom-up communication flows, there often appeared to be more powerful informal information flows. It is these insights that an in-depth case study provides (that cannot be captured by survey-based empirical research). Many who were interviewed commented on the informality of information flows. For example, the company secretary had this to say: Most of the communications flows are informal. As most board members are also in the RM&A Committee, there is a good communication flow between these two committees. There is little written formal reporting, however, except in the area of reporting on KPIs. The organization is a fairly ‘flat structure’ with the CEO and four senior managers in the executive team. There are no ‘layers and layers’ of middle management. As the CEO has been with the company a long-time, fulfilling many roles as he progressed to his current position, he knows almost everyone by first name. Also his mobile number is available to all employees. So he is very accessible. In terms of formal communication, we have a ‘whistle-blower’ policy in place. It has never been used, however.

A similar comment was made by the GM-human resources: We have also a unique informal governance approach at Sigma in that every employee is given the CEO’s personal mobile number, and therefore feels that they have access to the top.The CEO himself walks around the shop floor and knows most people, even the payroll clerks and the cleaners.This has had a very positive impact on governance and transparency [at Sigma].

Many of these informal information flows appeared to revolve around the CEO due to his longevity with the company and thus his intimate knowledge of the company. While this bodes well for the benefits of choosing a CEO from within the ranks of the company, we were concerned that this was a risk to the company in the long term. We were assured, however, that succession planning is a key aspect 365 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

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of the company’s governance statement, although, due to the significantly sensitive nature of this issue, we did not ask for any documented evidence of this process.18 Other specific information that was communicated upward to the RM&A committee and the board includes written assertions regarding compliance with the company’s code of conduct, risk and control assessments, risk management plans, and performance reports.With regard to communications between management and external professionals, a clear understanding was obtained in writing regarding specific assurance services to be provided. At Sigma, neither the external nor the internal auditors’ assurance reports are limited to ensuring adequate financial controls within the transaction recording processes. These assurance reports now include applicable conclusions and recommendations on strategic issues, including external financing, and often include strategic action plans that require management agreement, such as the resource dependency and stewardship aspects of governance. Often conflict arises in this area because the conclusions, recommendations and action plans are based on the auditor’s evaluation of governance and performance, and these could be very different from the senior (risk owner) management’s perceptions. The CFO, therefore, needs to be an individual who not only has the authority but also the technical ability to resolve such conflict, especially in the case of strategic financing and investment recommendations. The senior management interviewed indicated that such matters are also handled by its RM&A committee. The CFO and the chairman of this committee (who is an external consultant) work very closely, especially on sensitive strategic issues. It was evident, therefore, that at Sigma communication and the provision of accounting information went beyond the agency view of aggregate ex post financial accounting (see Table 1).19 We found that in much of the communication flows, especially to both external and internal stakeholders, the use of management accounting models, tools and techniques was prevalent. Ex ante management accounting information, both quantitative and qualitative, was provided by the CFO to all levels of the organization in detail to assist with strategic and operational issues. The above discussion indicates that at Sigma, the CFO fulfils two roles: a support role and a control role. The support role was associated with supporting managerial decision making; the control role focuses on providing reliable and timely accounting information for the corporate level and ensuring that the financial function complies with relevant regulations and structural governance processes.20 It has been 18

Our concerns have been realized after Sigma’s shares dramatically collapsed in early 2010, resulting in mounting shareholder pressure for the CEO to step down in April. However, he had to continue as CEO for a number of months as there was no successor groomed.

19

However, it was the fair-value asset valuation rule that Sigma resisted the auditors disclosing in its accounts which was the event that triggered the dramatic collapse of its shares in early 2010.

20

Both the CEO and CFO argued with the auditors that the successful execution of the company’s strategies indicated that the fair-value based impairment of its pharmaceutical division was unwarranted.



argued in the literature that there is a conflict between the different roles, especially in terms of the management accounting function; that the controller’s involvement in supporting managerial decision making can be harmful to organizations because controllers involved in such support roles are more likely to be persuaded to help managers and build slack in functional and operational plans, budgets and performance measures (see Sathe, 1978, 1982; Hopper, 1980; San Miguel and Govindarajan, 1984; Anthony and Govindarajan; 1998, Davis et al., 2006).21 At Sigma, however, the involvement of the CFO in a dual role of controllership and management support is seen in a positive light by all who were interviewed.22 The rationale for this view was that since the CFO participates in both the strategic decision making and operational planning processes, he was quickly able to highlight dubious assumptions underlying the numbers in the strategic, budget and operational plans, which perhaps would have been more easily accepted by a controller that operates at arm’s length from a business unit’s management. Sigma was able to reap the benefits of the CFO’s involvement in management, in the form of better informed business decisions, without (it appeared to us as the researchers at the time)23 incurring the costs of loosened control. Key Characteristics of the Strategic Governance Process In the second phase of the research study, the face-to-face and telephone interviewees were asked what they considered to be some of the more important characteristics in the governance of Sigma’s strategic planning process and its oversight of the execution of the strategy. These interviews were summarized by us and five common characteristics emerged. The first common characteristic is that Sigma’s strategic governance was focused; that is, the board focused its activities only to (a) vision, mission and goal development, (b) public policy and advocacy positions, (c) strategic plan development and approval, and (d) the organizational oversight of operational plans in terms of monitoring outcomes. The planning of the operational aspects were left to functional groups and those responsible for organizational processes, with committees, task forces, work groups, project teams, etc. carrying out the planning and execution of the strategy. The more operationally focused groups at Sigma (such as the RM&A committee) had, as discussed earlier, their responsibilities and duties outlined in specific charters

21

This conflict was vividly evidenced in the discussions between the company and its auditors with regard to its asset impairment, which in the Sigma case had disastrous consequences for its asset covenants and its share price, and resulted in the eventual takeover of its pharmaceutical business.

22

This view may be different if the question was posed today (2010) subsequent to the takeover of Sigma’s pharmaceutical business by Aspen (South Africa).

23

The researchers still hold this view, which pertains to the company’s strategic governance issues. The share price collapse in early 2010 was mainly due to structural performance (compliance) issues.


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(or similar documents) defining the group’s responsibilities within the overall strategic context of the organization. Such ‘scopes of responsibility’ include aspects of environmental scanning, plan implementation specifics, performance metrics, and procedures to recommend adjustments to plans. With the input of these subgroups, using focused reporting mechanisms, the board at Sigma had been able to efficiently accomplish its strategic charge of scanning, planning, implementation oversight and adjustment. The second common characteristic that emerged from the interviews is that Sigma’s strategic governance process was results-oriented; that is, governance exists to identify and achieve the organizational goals and strategic outcomes. Success of the board in fulfilling this objective is measured by the overall accomplishment of its stated goals. As these performance management systems are part of the MAIS, they will be discussed in detail in the next section of the paper. The third characteristic of Sigma’s strategic governance process is that it was structurally effective. The structure was kept to the minimum number of governing bodies necessary to produce strategic plan results. There was also significant overlap in the two main governance bodies, the board and the RM&A committee. Other special-purpose governance units came into existence only when there was some specific assignment to complete or a specific quantifiable outcome to achieve. Project teams, task forces, special committees and other ad hoc work groups were deployed to meet specific strategic governance requirements in strategy execution. They were disbanded when their assigned work was complete. The fourth characteristic that distinguished Sigma’s strategic governance process was that it was empowered. Functional units and operational processes were empowered to produce results with clearly defined outcomes, timeframes and progress milestones, and, most importantly, adequate resources (financial and staff support) were provided at relevant hierarchical levels to enable strategy to be executed. Information, via two-way communication, was also continuously disseminated regarding progress, performance evaluation and strategy adjustment to relevant functional and organizational process levels. As a result of this information sharing, the respondents believed that managers and staff at all levels of Sigma can be relied upon to provide advice and counsel in the areas of their expertise, be accountable for results of activities assigned to them, and to monitor and report on strategic governance progress in their sphere of activity. This leads to the final characteristic of Sigma’s strategic governance process that emerged from the discussions, that there is hierarchical accountability. Organizational units and individuals responsible for strategy implementation were held accountable for the work assigned to them, were expected to produce results, and were rewarded for good performance. Despite these positive endorsements of the characteristics found in the strategic governance processes at Sigma, some respondents voiced concerns as to possible weaknesses. The first concern was that there was inadequate training at both the managerial and staff levels in some skills required to fulfil governance responsibilities. The respondents felt that some skills are important regardless of the governance position held, while other positions require skills that are unique. The 368 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney


lack of financial skills in some of the functional areas24 was specifically mentioned. One interviewee said that the strategic governance process should include the identification of the skills needed to produce results in each hierarchical governance position and make those skills part of the appointment criteria. Those without the required skills should be provided with adequate training to prepare them for the governance positions they want to hold. The other concern was that too much emphasis was given to anecdotal experience of the governing board members in understanding the requirements of the various stakeholder groups, instead of commissioning quantitative and qualitative research and collecting data from open forums, panel discussions, opinion polls and surveys, think-tank groups and focus groups. The view was that just because some board members had 30 years pharmaceutical industry experience, it did not mean that they were familiar with the current nuances of the industry. ROLE OF MANAGEMENT ACCOUNTING In earlier sections of this paper, we argued that the board is ultimately responsible for ensuring that the organization is able to respond to changing circumstances and take advantage of relevant market opportunities even as it continues to pursue its planned goals and objectives. In other words, enterprise governance needs to contribute to both business prosperity and to accountability. In the current environment it is all too easy to forget the former. Nevertheless, business leaders and shareholders alike need to ensure that undue concentration on aspects of accountability does not destroy entrepreneurship and, ultimately, value.25 Strategic Governance Information Systems and Communication Flows At Sigma, while the board was the owner of the strategic governance process, day-to-day guidance and oversight by the board in implementing this process was seen as clearly not feasible. Thus, Sigma’s board relied on other parties—executives, managers, and auditors—to work with it in fulfilling its governance responsibilities (Table 2). Controversy arises, however, as to where to set boundaries in terms of respective functions (Simons, 1995), especially with regards to: (a) the roles and responsibilities of the board and senior management, (b) the information content required for governance in terms of conformance and performance (see Figure 1), and (c) the formal and informal communication flows needed for effective (hierarchical) execution of strategy. The existence of such controversies has also been discussed by Lynall et al. (2003) and Hillman and Dalziel (2003). We have observed that at Sigma such boundaries depend on organizational circumstances and the various roles and responsibilities of the parties (which often coexist—see Table 2). 24

This was perhaps an early signal that there were concerns regarding financial accounting reporting, which was the start of the downfall of Sigma in 2010.

25

However, in the Sigma case a lack of concentration on aspects of accountability sent the wrong signals to the market and ultimately destroyed value. Successful strategy implementation could not overcome significant compliance failures such as breach of debt covenants.


A BAC U S Table 3 THE POLICY–MANAGEMENT INTERFACE AT SIGMA Policy function • • • • • •

Management function

Business portfolio management Management • Detailed planning and resource allocation Corporate strategic guidelines ↔ accounting ↔ • Performance measurement Corporate risk policy • Monitoring and control of operations Corporate value creation • Risk management strategies Strategic resource allocation Corporate change management

However, in general, the board is principally involved with overall policy issues and overseeing the management functions (in terms of guidance in achieving overall performance), while senior management is involved with detailed planning and resource allocation, and monitoring and control of operations and performance measurement at the functional level. It was observed that at Sigma the governance process was facilitated by the MAIS at all hierarchical levels. Bromwich (1990) refers to boards that communicate their strategies to senior management and monitor the execution of these strategies from time to time. Such monitoring needs a measurement system which can be sufficiently flexible to include taking advantage of potential opportunities. In this regard, Sigma’s MAIS appeared to us (in our in-depth analysis of data and documents) to be effectively designed and able to link the conformance and performance aspects of the governance processes (see Figure 1) at differing hierarchical levels (see Table 2). The board at Sigma continued to contribute to the implementation of strategic decisions after setting appropriate procedures but reduced the amount of direct oversight, relying more on the formal internal control and reporting systems. Informal communication channels were also open if required, especially regarding potential structural governance (compliance) threats. In addition to the above conformance issues, performance issues such as how policies are translated into operational practices, how resources are sourced and used (including capital expenditure decisions and risk strategies), and how these actions translate into achieving financial targets were monitored via a system of KPI benchmarks, performance evaluation and reward systems. It is here that MAIS was observed to link the two functions of policy and management, as shown in Table 3. In terms of content, the MAIS at Sigma provided much of the needed information with regard to short-term and long-term performance governance (see Figure 1). Much of the information provided was quantitative financial and managerial accounting information, with the management accounting section also involved in many qualitative assessments.26 With regard to communication flows and links between the board and senior managers, the MAIS (managed by the CFO’s area and incorporating both financial and management accounting functions) played an 26

These qualitative assessments will be discussed in the next section.



active role in facilitating effective two-way communication between: (a) the board and senior management, (b) senior management and managers (i.e., technician level risk owners), (c) management and auditors, (d) internal and external auditors, and (e) auditors and the board. Clearly, with such communication flows the MAIS at Sigma had a socializing impact on the organization. This is in keeping with the theory. For example, Armstrong (1991) and Seal (2006) recognized useful traits in agency theory but argued for more socialized, or institutionally informed, versions. Lodh and Gaffikin (1997), using a Habermasian framework, found that accounting information had a significant impact on economic and social life. Habermas (1984, 1987) distinguished between instrumental and communicative rationality in his framework. It has been demonstrated in many studies that hierarchical instrumental accountability, which is typically associated with formal structural governance systems, undermines organizational learning and managers’ commitment to the organization, whereas more informal, socializing forms of communicative governance enhance learning and in-depth understanding (see also Roberts and Scapens, 1985; Hopper and Powell, 1985; Cooper and Hopper, 1990; Armstrong, 1991, Seal, 2006). Townley et al. (2003) found that managers responded positively to a new strategic performance measurement system (strategic governance) as it gave them an opportunity for substantial dialogue about organizational activities and means–ends relationships. They found managerial disaffection to set in when the accountability became formalized and standardized. Sigma’s MAIS with its multiple communication flows appeared to prevent such dissatisfaction from arising. Strategic Governance and Performance Management The strategic governance role of oversight over the execution of strategy would not be possible without a performance management system in place; this includes setting performance standards, evaluating performance and the rewarding of good performance (Hillman and Dalziel, 2003).As discussed above, from our interviews with the directors, senior management, and the internal and external auditors, they all considered that governance in a strategic sense needed to be linked to performance and risk management processes. Everyone interviewed stressed the importance of their specific performance and ERM responsibilities and roles, and that they continuously endeavoured to more closely align these with their company’s strategic expectations. These roles are summarized in Table 2. At Sigma, the performance of key executives is managed through the establishment of objectives for each executive’s key accountabilities at each hierarchical level. These are reviewed on a regular basis by the functional managers and the RM&A committee. The board has oversight responsibilities. These objectives are designed to achieve Sigma’s short and longer term business plans. Post-implementation, the board at Sigma evaluated the CEO’s and senior executives’ performance to ensure that their performance targets and compensation were aligned with the company’s strategy and linked to shareholder value. It also evaluated the senior managements’ succession planning process to ensure that appropriately qualified people were ready to step in and carry on corporate executive duties 371 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

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when members of the senior management team turn over. Some of the thinking behind the KPIs chosen for performance evaluation was elaborated by the CEO: All our KPIs are quantitative. But these days they are also integrated. Earlier bonuses were paid, especially on the production floor, on a single KPI indicator, e.g. ‘Lost Time due to Injuries’. This can be reduced by simply running under-capacity. Thus production volumes get affected. We saw these measures as ‘contradictory’ and not helping to achieve overall company objectives. Therefore today we have an integrated KPI system. These KPIs are weighted to provide an overall ‘integrated’ score. These KPIs also cascade downwards. [The company gave access to us (as researchers) samples of the individual performance evaluation documents to verify the above and related statements.]

The performance evaluation process is called SAS (Sigma Appraisal System), and was as follows: (a) the board sets the CEO’s KPIs such as the expected profit levels, safety record, expansion plans, etc; (b) the CEO then sets each general manager’s KPIs (for example, the KPIs for the GM-human resources are one-third profit related and two-thirds human effort related) and; (c) the GMs then sets the next level of managers’ KPIs (e.g., the GM-human resources sets the KPIs for those managers in her section, such as the national organizational health manager’s—or safety guru’s—KPI). The CEO stated that at each level the KPIs get tougher as non-achievement affects the higher level management KPIs.27 The KPIs do not, however, cascade down to the shop floor because of union activity. SAS is only for the executives and some sales employees whose commissions and bonuses are based on their KPIs. We were concerned that as SAS was not going to motivate the shop-floor employees, it would not provide the necessary motivation and empowerment required for overall value creation at that level (Carlzon, 1989; Ratnatunga, 2004). However, the company had other motivational approaches that reached all levels of the organization. The GM-human resources had this to say on the subject: While only the executive’s rewards are based on the achievement of agreed KPIs—all employees can participate in the ‘Employee Share Scheme’. They can obtain an interestfree loan from the company to purchase up to 4,000 shares per year (equivalent at present to about $10,000 p.a.). The loan is repaid by the dividends earned on the shares. So there is no ‘downside’ risk. Employees can sell the shares (and repay the loan and make a profit), repay the loan and keep the shares or simply forget about it when they leave the company. About 50% of our employees are subject to EBAs28 and the remaining 50% are on contracts of employment.

Therefore, it was clear that while the KPIs used for rewards and incentives were important for governance at the strategy execution level of the organization, they were biased toward short-term performance. Thus the company was endeavouring to provide incentives for longer term performance results (see Figure 1). Many of the long- and short-term performance results were evaluated using management 27

Confidential documents were provided to the researchers to confirm this.

28

Enterprise bargaining agreements (individual performance-based contracts between employers and employees).



accounting tools and techniques and, therefore, its role in integrating the policymanagement governance functions at Sigma were very apparent. The GM-human resources elaborated with an example: The management accountants do not get involved in the setting of KPIs—but management accounting information is used extensively. All of the incentives are finally summed as a percentage of TEC [total employment costs]. 30% of TEC is provided as incentives for STI [short-term incentives] and 40% of TEC is for LTI [long-term incentives] which are given every three years for performance in the last three years. This is mainly for senior executives. If an executive leaves within the three years he or she gets nothing. So there is an incentive to stay. The LTI is based on EPS growth and TSR [total share return] growth compared to other top 100 companies. The non-financial rewards include the ‘safety ladder’ and a formal recognition system called the ‘Sigma Stars’. These are individuals nominated by management and other employees for recognition. A bronze star gets a $25 reward; silver $50 and gold $100. However, it is the recognition that counts. You can see that all of such incentive calculations come under the wider area of management accounting.

It was evident, therefore, that Sigma had systems in place that went beyond the agency view of performance evaluation (see Table 1). Clearly, processes were in place that incorporated rewards for short- and long-term value creation and short- and long-term resource management. Management Accounting vs. Management Accountant In 2005, the CEO was quoted saying, ‘despite slower growth within the PBS29 and increased competition from generic drugs, it was cost controls, from manufacturing to distribution, which had enabled Sigma to achieve its significant lift in net profit this year’ (Medew, 2005). This was a key quote that influenced our choice of Sigma to study the links between strategic governance and management accounting. Subsequently, from the research interviews there was even more evidence that management accounting information played an important role in effective decision making at Sigma. There was, however, role conflict (see Hopper, 1980) because, although ‘management accounting’ related information flows play an important role in strategic governance, performance management and ERM at Sigma, those with the job title ‘management accountant’ did not; they instead played a more traditional budgeting and control role. It is important at this point to distinguish between management accounting and the management accountant. At Sigma, persons having the title management accountant are not in senior management roles. However, the CEO and CFO have extensive management accounting backgrounds, and as they are on both the board and on the RM&A committee, their professional backgrounds ensure the significant use of management accounting information in the governance process. The CEO states, for example: Cost and management accounting information is vital. In the performance management area the models used are only good as a starting point, as there are many grey areas. Management accounting tools and techniques provide the best approach, in my mind the 29

Pharmaceutical Benefits Scheme. Drugs on PBS are heavily subsidized by the Australian Government.


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only approach, of evaluating these grey areas, especially Cost-Benefit and Risk-Benefit Analysis; Flexible Budgets; CVP and DCF Techniques.30 Over the years I have also used financial ratio analysis to project our future performance, and working capital management to manage our short-term assets, and I consider these techniques to be part of management accounting. Sure, our external consultants and strategy guys will talk about their strategic analysis tools such as SWOT; GAP; BCG31; and the 5 Forces model,32 but they are of little value to me without the backing of the numbers.

In an earlier section we quoted the GM-human resources as stating, ‘The management accountants do not get involved in the setting of KPIs—but management accounting information is used extensively’. Similar comments were made by all the senior managers interviewed. However, despite the strong endorsement of management accounting techniques from the CEO, board members and senior managers, it was clear that those with the job-title management accountant were not directly responsible for information provision to the area of enterprise governance.The most direct involvement that a management accountant had with the governance process was through the budget, as elaborated by the following quote from a management accountant: Risk is considered in the budgeting process mainly in terms of the impact of the company’s strategies on EBIT, sales and profit targets. Attention with regards to risk is mainly in ‘one-time’ issues where attention is focused on both risks and opportunities. I believe that we try to be as ‘realistic’ as possible in our budgeting. Budgets are not ‘challenging’ and hard to achieve, nor are they easily ‘achievable’. I see my role as supporting general management. This includes challenging them on the numbers. I sit with them and first try to understand them. Then I challenge them. Once I understand the numbers, then I am ready to defend the managers and [his/her] numbers.

Clearly, therefore, in the area of strategic governance and performance management at Sigma, there was a disjoint between the use of management accounting information and the role of the management accountant. This is a key finding of the study and may explain why research done in this area in the past (especially using questionnaire surveys) has found that management accountants in a majority of organizations were being marginalized in relation to corporate governance (see Collier et al., 2007). Many of these questionnaires are sent to and answered by those holding the job title of management accountant. However, responses from them may be misleading in terms of the extensive use of MAIS in governance processes that was found at Sigma, especially at the more senior managerial levels. Management accountants could perhaps find a route back into senior management by emphasizing their professional independence and business partnership skills (CIMA, 2004), as well as using the MAIS routines in strategic governance to socialize the board and curb any opportunism that may arise.

30

Cost volume profit (CVP) and discounted cash flow (DCF).

31

Strengths weakness opportunities threats (SWOT) analysis, gap analysis (GAP); Boston Consultancy Group (BCG) matrix.

32

Michael Porter’s 5 Forces model of industry competitiveness (Porter, 1980).



SUMMARY AND CONCLUSION At Sigma the dual strands of enterprise governance, structural (conformance) and strategic (performance) were seen as important for creating value for the long-term survival of the organization (Figure 1). The board had the overall responsibility of guiding the organization in the implementation of the required governance processes for the achievement of this objective in a competitive, high-risk industry (Table 2). It was also evident that at Sigma the organization’s MAIS was useful in providing information for decision making that initiates change, and can be used to facilitate appropriate responses to such change (Table 3). The case study provided insight as to the integrated nature of the enterprise governance framework at Sigma, which had been developed: (a) to ensure conformity to regulatory requirements, and (b) for the board to provide strategic direction and information for senior management and other executives. This latter objective was seen (by those interviewed in the organization) to improve performance, reduce risk and undertake strategy implementation that ultimately adds value to the organization. As such, the overall governance function at Sigma can be expressed as:

Enterprise governance = f (conformance, strategic performance, operational performance) Much of what was observed at Sigma was in keeping with the wider literature on the normative role of governance as facilitating the organization in its development and progression (see Simons, 1994, 1995; Carpenter and Westphal, 2001; Farinha, 2003; Jonk and Schaap, 2004; Charan, 2005; Schmidt and Brauer, 2006). Sigma recognized that it faces a constantly changing environment, and therefore that it would be futile if the governance process merely satisfies the current regulatory requirements and achieves performance in the current environment. Instead, the governance process enables Sigma to adapt to its environment, with the board acting as the ‘boundary spanner’ (see Pfeffer and Salancik, 1978) for arranging necessary resources so that appropriate strategies can be undertaken. The board at Sigma also worked with the management and offered guidance in strategic actions. It was evident that the governance perception that dominates the accounting literature (with its theoretical underpinning based on agency theory) is too limited to explain the processes observed at Sigma. The contextual environment facing an organization such as Sigma has changed dramatically in terms of complexity and competition, such that a governance framework based on agency theory seems too rigid to encompass its governance needs in practice. As such, one could argue that an agency-based governance structure may actually be a hindrance to guiding organizations and a more dynamic approach is required. The argument for an integrated holistic approach to governance is therefore strong, and this was seen to be the governance framework as implemented at Sigma.We have observed empirically that a governance framework that can simultaneously serve both strategic performance 375 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

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and conformance aspects is implementable. This would integrate the theoretical underpinnings of all three major governance perceptions of agency, resource dependency and stewardship (see Table 1). It was demonstrated that such an approach will also be able to integrate both the conformance aspects covering regularity compliance with performance aspects covering value creation in the overall governance processes (see Figure 1). As the contextual environment changes, the normative view is that the governance process needs to focus on areas where changes or transitions are needed. It requires appraisal of the organizational position at regular intervals and the undertaking of strategies to prepare the organization for change. Such a system of governance can be facilitated by timely and accurate information to produce better performance for the organization. It is argued here that in theory such an information system is the management accounting information system (MAIS), which can play a wider role in governance processes in obtaining both short-term performance and in creating long-term value. This study demonstrated empirically that in a high-risk industry, there was ample evidence as to the emergence of such an information integrating role for the MAIS; there is, therefore, an opportunity for management accountants to find a way back into senior management in socializing the board via strategic governance processes. The generalizations we can draw from this case study can be summarized as follows: 1. Strategic Governance, Empowerment and Organizational Performance. Boards can go beyond the minimum conformance (compliance) requirements of the governance regulatory legislation affecting them, and assume ultimate responsibility for strategic governance (within which performance and risk management fall) at all hierarchical levels. The normative need for such a hierarchical approach to governance has been discussed in the more recent literature of enterprise governance and risk management referred to above. 2. The Communication of Governance Policies and Procedures. Successful strategy execution can be achieved by the communication of knowledge and information across the organization, empowering employees to act on this information, and by linking the rewards system to such actions. This is in keeping with the theory in this area with regard to open-book management (Barton et al., 1998, 1999) and empowerment accounting (Ratnatunga, 2004). 3. The Integration of Enterprise Governance Processes. The two strands of enterprise governance (i.e., strategic and structural) should be seen as a dynamic and integrated process in which strategic governance enables organizations to achieve performance targets by linking the organization to its environment and structural governance ensures that the rights of the providers of capital are protected. The case study confirmed empirically the normative need for integrating the conformance–performance aspects of enterprise governance (see CIMA, 1999, 2004; COSO, 2002; Charan, 2005). 4. The Role of Management Accounting and Management Accountants. Organizations should put into place more processes to couple compliance-based reporting 376 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney


and traditional management accounting with strategic governance processes, so that all the performance–conformance dimensions (see Figure 1) are linked. It was shown in this study that the link is strategic management accounting, which operates at the interface between the policy and management functions of an organization (see Table 3). In conclusion, the management accountant has traditionally performed an integrative communication role when undertaking the budgeting process. It was demonstrated that these same information collection, analysis and dissemination processes can contribute to effective strategic governance and performance management by providing decision information to formulate a company’s strategic policies and plans, and to direct and oversee the governance process as this strategy is executed. There was some evidence that this more strategic governance role offers the management accountant a way back into senior management by using the routines of MAIS beyond its control role to socialize the board in the strategy area (see Hopper and Powell, 1985). LIMITATIONS AND AREAS FOR FURTHER RESEARCH The usual limitations of case study work, especially with regards to the generalizability of results, are acknowledged. First, the empirical inquiry focused only on a specific company that was selected as it was a proven performer in a highly volatile and competitive environment subject to much regulation. This suggests that the observations, while extensive and detailed, may suffer from limited external validity. Hence, caution should be exercised in attempting to generalize from this investigation, especially if making inferences to other economic settings in less regulated and less competitive industries. Therefore, future research should be undertaken to explore the extent of strategic governance in different contextual settings. Second, the areas of governance, strategy and strategic management accounting all have multiple definitions, theories, frameworks and literatures, often in conflict with each other. Therefore, integrating these three areas and describing the varied nuances and theoretical underpinnings from the data gathered in the case study was not an easy task, and there could undoubtedly be alternative narratives that could be put forward. One needs, therefore, to view this as a work in progress with significant potential for further research. Third, future studies that can extend the conceptual and methodological aspects of this study will be helpful. For example, further study on the differences in the quality of management accounting reports presented to board members or the importance of CFO expertise in the strategy execution process may provide further elucidation of the effect of management accounting information on strategic governance level decisions. Finally, the case study company was studied in 2007–08. Since then it underwent a significant downturn in its share market performance in 2010 and was subject to a takeover of its core business, mainly due to structural governance (compliance) 377 © 2011 The Authors Abacus © 2011 Accounting Foundation, The University of Sydney

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rather than strategic governance issues. While this post-case study development is not a limitation per se (such events as these are by definition very probable in a high-risk industry), it certainly is an area for further research, such as investigating if negative performance in one area of governance can be overcome by positive performance in the other.

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