The case for regulatory protection of Bangladesh’s CFOs

Illustration: TBS

The recently published White Paper on the state of the Bangladesh economy has exposed the poor quality of financial reporting practices in the country, especially in the banking sector. 

The presence of a state-business nexus has forced commercial banks, many of which were permitted to operate under political considerations, to extend loans under political considerations. This has resulted in persistent loan defaults and threatened the banks' financial stability. 

The White Paper observed that in many cases, the banks' balance sheets did not accurately depict their actual financial conditions, as many of their assets were not reported at fair values. Also, the banks were allowed to reschedule a large number of their non-performing loans, a clear violation of the International Financial Reporting Standards. 

Naturally, fingers have rightly been pointed towards the state of audit quality offered in the country. However, relatively little discussion has taken place regarding the state of financial reporting quality. 

The responsibility for preparing the financial statements falls on the management, and more specifically, on the Chief Financial Officers (CFOs). The CFOs are responsible for maintaining the integrity of the financial reporting practices within an entity and ensuring compliance with internationally accepted and nationally adopted standards of financial reporting. 

Indeed, the Financial Reporting Act (FRA) of Bangladesh (2015) has given the Financial Reporting Council (FRC) the authority to hold the CFOs of public interest entities (PIEs) accountable for their failure to comply with international financial reporting standards. 

The FRC can also take disciplinary actions against the CFOs for failure to comply with the provisions of the FRA, which include compliance with international standards of financial reporting. However, despite such strong regulatory mechanisms being in place, the quality of financial reporting practices in Bangladesh, in the majority of the cases, raises a lot of questions.

Why is the quality of financial reporting poor in Bangladesh?

Traditionally, poor quality of financial reporting in PIEs is associated with the skills and expertise of the accountancy professionals, as well as the efficacy of corporate governance mechanisms. 

Bangladesh has a small number of professionally qualified accountants. This means that many of the accountants in charge of preparing financial statements in PIEs are part-qualified or unqualified. Although this can have an impact on the quality of financial reporting practices, it might not be the most important factor in the context of Bangladesh. 

Although these accountants may not have a formal qualification or a membership in the Institute of Chartered Accountants of Bangladesh (ICAB) or the Institute of Cost and Management Accountants of Bangladesh (ICMAB), most of them tend to be fairly competent and experienced, having trained with professional accounting firms. 

In many countries, CFOs tend to join various professional associations that can protect their individual and collective interests and act as a shield against poor corporate practices. In the context of Bangladesh, although some of the CFOs would be members of the ICAB and the ICMAB, a significant majority would not have memberships in any professional bodies, denying them the opportunity to take collective actions.

I think the major factor affecting financial reporting quality in Bangladesh is the state of corporate governance. The high ownership concentration in the Bangladesh corporate sector has nurtured a culture where corporate governance mechanisms are usually ignored by family owners, even of large PIEs. 

In many cases, CFOs of PIEs would narrate horrific stories of how they were harassed, thwarted, and even threatened by the owners of the PIEs for objecting to instructions for intervening with the financial reporting process in clear violation of accounting standards. 

Given the political economy of the country, where powerful oligarchs could almost get away with virtually anything, it is hard to see how CFOs would be able to stand up to such threats to their job security, and in some cases, even to their lives, for the sake of protecting the integrity of financial statements. 

Therefore, in the context of Bangladesh, there is a clear case for providing some sort of protection to the CFOs so that they can operate professionally.

The need for out-of-the-box thinking

Failures of corporate governance mechanisms are not really uncommon; they happen all over the world. The question is, how are the interests of the CFOs protected then? In most cases, it is done via collective actions. 

In many countries, CFOs tend to join various professional associations that can protect their individual and collective interests and act as a shield against poor corporate practices. In the context of Bangladesh, although some of the CFOs would be members of the ICAB and the ICMAB, a significant majority would not have memberships in any professional bodies, denying them the opportunity to take collective actions. 

Also, in a divisive society such as Bangladesh, where almost all such 'associations' are run by people with political self-interests, such professional associations and bodies are likely to have limited success in protecting the interests of their members. Therefore, we need a strong, formal mechanism to protect the interests of CFOs so that they cannot be removed unfairly by the company management. 

At the moment, the CFO of a company is appointed by and is accountable to the Board of Directors. If a CFO believes that they have been unfairly removed from their role, they could initiate legal proceedings against the board. 

However, in the context of Bangladesh, this process could take many years. As a more pragmatic solution, the FRC could borrow a leaf out of Bangladesh Bank's book regarding the appointment and removal of Chief Executive Officers (CEOs) of the banking companies. 

According to BRPD circular letter 20 (dated 23 December 2014), the CEOs of commercial banks cannot be 'dismissed, released or removed' without the prior permission of the Bangladesh Bank. A similar mechanism can be introduced by the FRC, requiring such approval procedures for the dismissal, release or removal of the CFOs. This will achieve two objectives. 

Firstly, the CFOs would feel empowered and more secured about their role within the PIEs. 

Secondly, this will make the CFOs accountable to both the board of directors of the PIE and the FRC. If, after ensuring such regulatory protection, the FRC feels that CFOs are still failing to protect the integrity of the financial statements, they should be taking strict disciplinary actions against such individuals. 

Understandably, this system is not foolproof. In the context of Bangladesh, providing too much power to a regulatory authority could sometimes be counterproductive, as it might create the opportunity for various forms of malpractice. The capacity of the FRC also would need to be significantly enhanced to monitor the removal process of the CFOs. 

In addition, there is always going to be the fundamental argument that the CFOs are appointed by the Board and should be accountable only to them. The regulatory protection of the CFOs, as proposed in this article, is also uncommon across the world. 

However, no other country in the world has seen such systematic violations of corporate governance mechanisms, as exemplified by the financial health of the banking sector at this point. Regulations are developed for the protection of public interest and need to cater to the needs of society. 

It is hardly a surprise that corporate governance mechanisms do not work in the context of Bangladesh—these concepts are conceived in the West and are based on assumptions regarding institutional arrangements that are absent in Bangladesh. The unique corporate culture in Bangladesh therefore needs an innovative, home-grown solution that considers the political-economic reality within which PIEs operate in Bangladesh. 

The existence of such a formal regulatory mechanism can, therefore, be an effective mechanism in ensuring CFO independence and professionalism in Bangladesh.  
 

Sketch: TBS

Professor Javed Siddiqui is a Professor of Financial Reporting at the Alliance Manchester Business School, the University of Manchester, UK, and is a member of the research advisory board of the Institute of Chartered Accountants of England and Wales and the Due Process and Oversight Committee of the Global Reporting Initiative (GRI). He can be reached at: javed.siddiqui@manchester.ac.uk. 

Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the opinions and views of The Business Standard.