Are Fair Values Used to Assess Management's Stewardship - Assignment Example

Are Fair Values Used to Assess Management's Stewardship? Introduction The basic objective of management of a business is to increase the shareholders’ wealth and as such their basic purpose is to take actions and make decisions which consistently increase the value of the shareholders. Accordingly, managers of firm therefore operate as the stewards for shareholders and it is the basic responsibility of shareholders to ensure that managers fulfill this responsibility. One of the most important documents which give shareholders a direct and most effective means of assessing stewardship of managers is financial accounts. Audited financial statements provide required information which can help shareholders to properly assess the financial strength of the firm and understand as to whether the actions of managers actually resulting into increasing the wealth of shareholders or not. Financial statements also provide an insight into whether the managers actually are carrying out their duty of stewardship or not. Managers however may not always act in best interests of shareholders as theory suggests that managers may take actions which may not result into increase in shareholder wealth. Such actions of the managers may therefore suggest that managers may not be fulfilling their role of stewardship. The potential conflict between the shareholders and managers of the firm therefore may not result into the overall welfare of the shareholders and firm in general. This paper will therefore discuss as to whether the financial accounts are prepared to enable shareholders to actually monitor the stewardship of managers or not. Stewardship Agency Theory outlines that there may be conflict of interest between the shareholders and managers of the firm. The basic objective of managers is to ensure that they act in a manner which always results into an increase in the value for shareholders. This therefore requires that the managers must actively pursue the objective of maximizing shareholders wealth. This objective however, may be jeopardized as the managers may take actions which only result into their own benefits and may not entirely result into creation of value for the shareholders. For example, managers may make decisions to increase their compensation or earnings regardless of the fact that such actions may damage the overall shareholder interest in short or long run. Such conflict of interest therefore outlines that the managers must have been kept on watch in order to ensure that their actions do not result into losses for shareholders. It is because of this reason that the theories of corporate governance have been forwarded to design a framework which can ensure that the managers must act in a certain manner. This is for ensuring that the overall interests of the shareholders are protected while at the same time ensuring that the managers get substantial authority to pursue such objectives. (Cane, 2008) An opposite to Agency theory is the theory of stewardship which requires the shareholders to basically to assume the roles of managers. Through active participation of shareholders, it may be possible to have an effective check over the actions of managers. Managerial Stewardship Stewardship as a concept has some ethical considerations because it embodies the ethical responsibilities of the management to responsibly plan and manage the resources of the firm. From accounting and finance perspectives, managers therefore are considered as the custodians of the firm’s resources and it is their professional and ethical responsibility to ensure that they plan and manage resources in the best of the interest of the organization and hence its shareholders. It has been however, outlined that the overall research on understanding the stewardship and the role of mangers have been limited. It is also because of this reason that the accounting standard setters face dearth of information which can further strengthen the stewardship ability of the managers. Stewardship theory therefore outlines that the managers are stewards rather than rational individuals having their own self interests. One of the early proposals on the convergence of financial reporting frameworks was based upon the fact that the sole purpose of financial statements of a company should be based upon providing complete information which is useful in making investment and credit decisions. The proposal also included the providence of information in order to make better allocation of resources. This therefore required that the managers sole purpose is to serve as the stewards of the firm and to make decisions which can effectively help the organizations to better allocate their resources. This optimal allocation of resources therefore can further result into increase of shareholder wealth because shareholders share the highest level of risk. (Lennard, 2010) Financial Statements and Manager Stewardship In order to assess whether the company accounts should allow shareholders to assess the stewardship of managers or not should be based upon the criteria of decision usefulness or whether stewardship should also be one of the separate objectives of preparing financial institutions. It is argued most of the time that the financial statements are prepared with an implicit notion of ensuring the stewardship of the managers. As such according to this notion, the financial statements are prepared with the assumption of ensuring the stewardship of the managers. The question however, is as to how the managers will actually be able to assess and determine the stewardship of the management through the financial statements. Since there is a separation of ownership and management of the firm, it is therefore critical that a mean of communication must be set up between the shareholders and the managers. One most effective means of communication is the financial statements. Financial statements are considered as the most effective ways of ensuring that the managers and shareholders communicate with each other in a manner. (Henderson, 2010) Financial statements can serve as a very effective mean of assessing the stewardship of the mangers because it contains information which can directly provide an insight into how the managers are actually managing the resources of the firm. Shareholders by using different tools and techniques can effectively measure the performance of the managers and resultantly decide as to whether the managers have been successful in carrying out their responsibility or not. Theoretically it has also been suggested that information which a firm releases before releasing or publishing its financial statements ultimately is reported in the financial statements. Financial statements therefore are the essential package of information which can provide shareholders a very chance to assess as to what management has accomplished over the period of time. It is also based on these financial statements that shareholders in annual general meeting raise important questions about the overall performance of managers in effectively carrying out their responsibility of stewardship.( Muth, and Donaldson, 2002) For example, financial statements of Eagle limited carryout the assessment of managers and directors regarding the performance of the company. This report by the Directors and Chief Executive Officer of the company offers a critical insight into the factors which management considers as important while managing the organization. Another important way through which shareholders can actually assess the effective utilization of resources is to compute financial ratios. Though financial ratios may be limited in scope however computing them performs one of the critical insights into the historical and current performance of the firm. Notes to the accounts published along with the company accounts also give a very useful information regarding how the managers actually designed various accounting policies and procedures and whether these policies were made in the best interest of the organization or not. For example designing such accounting policies which can increase the tax burden of the firm may not be considered as the actions which can benefit the firm. It is also argued that the financial statements not only offer the insights into assessing the integrity as well as efficiency of the managers but they also serve as an ethical responsibility of managers to inform the shareholders regarding their successes and failures. Conclusion The debate of whether the financial statements of a company provide an opportunity to shareholders to assess the stewardship of the managers should be based upon the notion of whether this should be sufficient objective. It is argued that the financial statements are prepared with an intrinsic objective of informing the shareholders regarding the stewardship capability of the managers along with the decision usefulness criteria. However, it has also been argued that the stewardship should be represented as a separate objective of financial statements. Stewardship is considered as the ethical responsibility of the managers to effectively and honestly manage the resources of the firm. Managers therefore are considered as stewards of the firm however, managers are also considered as self-interested individuals who can pursue their own objectives too. Such tendency of the managers therefore requires that the shareholders must use company financial statements to ensure that the managers are performing their stewardship duty. Through techniques such as financial ratio analysis, shareholders can actually look into the overall performance of the managers and decide whether such performance is actually according to the ability of managers. If assessed performance is considered as below-par it may be concluded that the managers may not be fulfilling their responsibility. References Cane, A. (2008) The Oxford handbook of corporate social responsibility, Oxford: Oxford Handbooks Online. Muth, M. and Donaldson, L. (2002) Stewardship Theory and Board Structure: a contingency approach, Corporate Governance: An International Review, 6(1), p.5-28. Henderson, D (2010) Are Fair Values Used to Assess Management's Stewardship? An Empirical Examination of UK Real Estate Firms, [online] Available at: http://www.rotman.utoronto.ca/accounting/henderson.pdf [Accessed: 18th Dec 2011]. Lennard, A (2010) Stewardship and the objectives of financial statements, [online] Available at http://www.frc.org.uk/documents/pagemanager/asb/Andrew%20Lennard%20Paper%20on%20Stewardship.pdf [Accessed: 18th Dec 2011]. Read More