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October 30, 2018

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Institutional Investors' ESG remit should also include Fraud Risk Assessment

December 22, 2017

A recent FT Article (‘New guards of the City take aim at corporate delinquents’, 10 Nov. 2017) makes interesting reading. The main thrust of the article is that Stewardship, which for years has languished in relative obscurity, is now firmly established and gathering pace.

 

Excessive Executive remuneration, board diversity and bad management practices are now firmly in the investment spotlight, and Heads of Institutional Investment ESG Teams are able to wield significant power over companies in which they are invested. A growing number of Institutional Investors are unafraid to publicly criticise the companies they invest in, and many have voted against board recommendations at annual shareholder meetings.

 

Each of the Stewardship Heads of the Institutions mentioned, namely Schroders, Blackrock, Royal London Asset Management, Aviva, Aberdeen Standard Investments, and Legal & General, which collectively have very substantial investment firepower, have outlined their Stewardship and ESG priorities for 2018. These include Capital Allocation decisions, Climate Change, Succession Planning, qualities of Boards, Remuneration, Diversity, Corporate Culture and Auditors. These are evidently valid and positive priorities, but there is no mention of Fraud Prevention as a governance priority.

 

If a corporate makes a poor decision in any of the aspects of governance mentioned above, it may well suffer, in particular, reputational damage, but this is unlikely to be disastrous. A major fraud, conversely, can be catastrophic, resulting in the complete destruction of investors’ capital. We believe, therefore, that Institutional Investors’ Stewardship and Governance remits should be widened to include analysis of fraud risk within the corporates in which they invest.

 

Fraud Risk Analysis (www.fraudriskanalysis.com) has examined most major frauds during recent years. Our research demonstrates that the majority of these could have been prevented if an independent fraud risk assessment had been conducted as part of the investment due diligence process.

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