Board Matters Quarterly, January 2016 - EY - United …FILE/ey-board-matters-quarterly-january-2016.pdf · Board Matters Quarterly | January 20165 Investor and stakeholder engagement

January 2016

Board Matters Quarterly

EY Center for Board Matters

Board Matters Quarterly | January 20162

Board Matters Quarterly | January 2016 3

In this issue04 Top board priorities for 2016

Board members will continue to see their agendas expand as they oversee the development and implementation of strategies to respond to the challenges faced by today’s organizations. Find out what issues will be top of mind for boards in 2016.

07 Five things compensation committee members need to knowSay-on-Pay has led some compensation committees to change pay practices, disclosures and investor communications. We highlight 5 things comp committees should know.

11 Accelerating board performance through assessmentsBoard self-assessments can be a strategic opportunity. We review the benefits of assessments, the key elements of board effectiveness, possible approaches and key considerations for a successful board assessment.

14 As M&A grows, so does the board’s roleDeals that bring companies together often happen at high speed, which creates the potential for missing some of the critical risks. We provide an overview of the board’s role in M&A.

16 Big data and analytics in the audit processBoard members should gain an understanding of how their company is leveraging big data and analytics and how those items drive the business.

January 2016

Board Matters Quarterly


Top board priorities for 2016

As a result, the trend of expanding board agendas will continue in 2016. As boards balance multiple priorities, most will heighten their focus on the following:

• Board effectiveness, composition and refreshment

• Investor and stakeholder engagement

• Cybersecurity preparedness

• Oversight of Enterprise Risk Management (ERM)

• Oversight of talent risk management

Board effectiveness, composition and refreshment

It is a recurring question for directors and their organizations — how do good boards become great? Improving board effectiveness, making sure boards maintain the right combination of skills and experience, and enhancing transparency and accountability will characterize exceptional boards in 2016. Performing robust and thoughtful board self-assessments, with consideration of peer and individual director evaluations, will be critical for board effectiveness.

Effective boards will balance the viewpoints of tenured directors with the fresh perspectives of new members. These boards will make certain that the appropriate breadth of industry expertise is represented in the boardroom and that the composition of the board reflects the increasing convergence of sectors. Boards will seek directors with a greater diversity of knowledge and experience in order to match boardroom talents with evolving business strategies reflective of the interconnected global economic environment and technological and demographic changes.

We recently found that among Fortune 100 companies with retirement-age policies, 19% of directorships are held by individuals within five years of reaching the board’s designated retirement age.1 Since a significant number of directors are currently approaching retirement, boards will have an opportunity to review their oversight needs and engage in strategic director succession planning in the coming year.

Organizations are faced with many critical challenges — including rapidly changing technology, environmental risks, regulatory and legal requirements, major shifts in markets, ethical breaches, and big data and cybersecurity issues — that threaten their long-term success and sustainability. Directors have a unique opportunity to step forward and proactively oversee the development and implementation of effective, long-term strategies responsive to these challenges.


Investor and stakeholder engagement

The day of the passive investor is behind us. Investors around the globe are increasingly asking tough questions on the issues that matter most to them. They want to understand the board’s role in the oversight of enterprise risk, including emerging risks, strategy and execution. They want to know if boards are robustly evaluating their own performance and confirming that the right portfolio of skill sets aligned with company strategies are represented in the boardroom.

Investors will continue to seek meaningful communications and engagement with board leadership and committee chairs on issues such as company strategy, board composition (including diversity), director tenure, succession planning and executive compensation.

As a result, effective communication is emerging as a growing responsibility of corporate directors. Boards will focus on shareholder communication plans to ensure first, that required filings are not merely “compliance” documents but effective communication tools, and second, that designated directors are fully prepared to engage directly with investors on appropriate governance matters such as oversight of strategy, disclosure effectiveness and board refreshment processes.

Improving board effectiveness, ensuring boards maintain the right combination of skills and experience, and enhancing transparency and accountability will characterize exceptional boards in 2016.

Cybersecurity

The advent of new technologies and an ecosystem of digital interconnectedness significantly increase an organization’s exposure to theft of its most valuable assets, which include confidential customer data and vital information such as intellectual property and strategic blueprints. Preparedness is the first line of defense. Yet only 7% of organizations claim to have a robust incident response program that includes third parties and law enforcement and is integrated with their broader threat and vulnerability management function.2

The emphasis for boards will be to make sure that companies are shoring up critical infrastructure, enhancing crisis response and mapping a strategy that emphasizes a good balance of preventive and responsive tactics. This means being able to efficiently guide an organization through the layers of risks and threats, and boards should appropriately set the risk appetite and be prepared to swing into decisive action to handle any incidents.

Boards accept that the risk of a cyber breach needs to be continually managed, and adequate preparation that enables an organization to get back up and running quickly following an attack will be a key consideration for boards.

Knowing where the vulnerabilities lie is vital. Boards will continue to confirm that companies have a system and backup plan that facilitates data migration in a crisis. They will also need to make sure that their organizations firm up relationships with federal investigating authorities, who can move swiftly in response to attacks and minimize exposure and damage.

Oversight of ERM

As boards continue to focus on their roles in long-term value creation, effective oversight of ERM will be high on their agendas. Oversight of ERM will comprise operational, financial, strategic, compliance and reputational risks.

Board oversight will entail setting the “tone at the top” by promoting, assessing and monitoring risk culture and appetite.

of directorships are held by individuals within five years of reaching the board’s designated retirement age among Fortune 100 companies with retirement-age policies

19%


Boards will play an important role in ensuring that leadership stays focused on building the right talent strategy.

Oversight of talent risk management

Boards recognize the crucial role they play in human capital matters as they relate to overseeing the management of three key risks: culture, talent and strategy. The business reason is compelling since talent and culture are arguably the biggest drivers of innovation, growth and the ability to outperform the competition. In recent conversations we have had with board directors, three out of four said that human capital strategy will be one of the top emerging risks that boards will face in 2016.

Boards will play an important role in ensuring that leadership stays focused on building the right talent strategy. Boards will focus on how to prepare for generational transitions in their organizations and anticipate the changing dynamics at the boardroom and management levels. As new and complex opportunities and risks emerge with evolving strategies and growth markets, having the right people to execute on strategies is an important imperative for success.

For many boards, talent management remains a big challenge. Failure to understand and mitigate human capital risks and complexities will impact strategy and value creation.

Boards will seek rigor from management about leadership development and want to know where the next level of talent will come from, especially with emerging risks, globalization and technological advances.

Endnotes

1 “Five year outlook: nearly 20% of directors poised for board exit,” Ernst & Young LLP, August 2015

2 “Creating trust in the digital world: EY’s Global Information Security Survey 2015,” Ernst & Young Global Limited, November 2015.


Five things compensation committee members need to know

The SOP vote also has added an element of uncertainty for directors serving on compensation committees. While average support is high, 20% of companies have seen investor support for their pay plans drop 20 percentage points or more at least once in the past five years.1 At the same time, investors have cast a higher number of votes against directors on compensation committees of companies with low SOP support (defined as less than 70% of votes cast). An EY Center for Board Matters study shows that these developments are happening at a time of steady, strong overall support for SOP proposals and high — and rising — support for directors.

Here are five tips for compensation committees based on the EY Center for Board Matters’ review of the current landscape:

1) Anticipate that investors are three times more likely to vote against compensation committee members at companies with low SOP support

A review of the S&P 500 shows that investors are voting against compensation committees in conjunction with votes against SOP proposals, even in a company’s first year with a low SOP vote. This year, votes against compensation committees at companies with low SOP votes averaged 9% — an “opposition penalty” of three times the average 3% vote against other directors of these companies.2 Five years ago, this opposition penalty was 1.5 times. This heightened opposition is occurring against a backdrop of an overall decline in director “against” votes, which peaked at nearly 10% in 2009 and is now less than 4%.3

Compensation committees face an increasingly challenging environment. Since 2011, companies have been required under the Dodd-Frank Wall Street Reform and Consumer Protection Act to give investors an advisory vote on executive pay policies and practices, i.e., an opportunity to vote “for” or “against” a company’s pay program to show their level of support. This Say-on-Pay (SOP) vote has motivated many compensation committees to change pay practices, disclosures and investor communications.


2) To drive higher SOP support, focus on providing clear disclosures around pay practices and programs first, then consider purposeful engagement and meaningful responsiveness to shareholder concerns

Many investors emphasize that pay-related disclosures should be simple and straightforward.4 And companies are responding by using proxy statements to communicate in plain English the board’s key messages on pay. The compensation section of the proxy is well-known for its length and complexity, but companies are increasingly sharpening their messaging by highlighting leading practices and using summaries, graphics, tables, charts, headers and callouts.

For some companies, additional effort in the form of investor outreach may be helpful. The off-proxy-season months of July through February are the best time to reach out, if needed. Companies initiating engagement should do so with a clear purpose and be aware that investor interest may be mixed based on factors such as time of the year, relative size of investment stake and the significance of company-specific concerns.5

Of the S&P 500 companies with low SOP support in 2014, nearly all (88%) modified their pay practices and/or disclosures following outreach efforts.6 These engagement-driven changes appear to have paid off, with the average SOP vote increasing nearly 30 percentage points from 57% to 85%.

3) To enhance company-investor dialogue about pay issues, involve a knowledgeable independent board leader, compensation chair and/or committee member in the conversation

Since pay is a board matter and under the purview of the compensation committee, investors concerned by a company’s pay practices are likely to be interested in engaging with an informed director (rather than management). All parties involved in engagement discussions, including directors, should be fully prepared, knowledgeable about the topics at hand and actively participate. Directors should be aware that investors are increasingly using engagement conversations to shape their assessments of individual directors and the board.

Of the S&P 500 companies that disclosed in 2015 that they engaged with investors, directors were involved in nearly 20% of the conversations.7 Compensation committee members and chairs were most often involved.

What drives investor opposition to SOP?

• Pay-for-performance misalignment• Poorly structured performance metrics• Excessive absolute pay levels• Problematic pay practices such as tax gross-ups,

executive hedging and pledging of company stock, guaranteed bonuses

Did not disclose engagement

Disclosed engagement only

Disclosed engagement — including directors

56% of S&P 500 companies disclosed engagement

46%

10%

44%


The vast majority of SOP proposals average more than 90% support. Each year only about 2% fail.

4) Anticipate that investors will continue to file shareholder proposals on pay and campaign for specific pay-related changes and disclosure

In 2016, some investors plan to continue their long-standing initiative of engaging with companies that lost SOP votes to request pay and other governance reforms. These requested reforms are tailored to each company and may include shareholder proposals on:

• Board accountability — independent board chair, proxy access, majority voting in director-election requirements, enhanced board diversity

• �Specific�pay�practices�— limits on the accelerated vesting of equity awards, enhanced performance metrics for equity plans, the elimination of tax gross-ups

The most common pay-related shareholder proposals in 2015 asked companies to:

• Limit accelerated vesting of equity awards

• Adopt clawback policies

• Adopt an equity retention policy

• Report on the executive pay ratio

• Ban tax gross-ups

• Allow shareholder approval of severance agreements

• Link executive pay to sustainability matters

5) Start to evaluate new and pending pay-related requirements and consider how to best communicate to investors

As mandated by the Dodd-Frank Act, the U.S. Securities and Exchange Commission (SEC) voted in 2015 to finalize the “pay ratio” rule. The SEC also issued proposed rules on clawback policies, as well as the disclosure of pay-for-performance and company hedging policies for employees, officers and directors.8 Pay-ratio disclosure will not be required until the 2018 proxy materials of most companies, and the pay-for-performance, hedging and clawback rules are unlikely to be finalized for the 2016 season.9

However, directors may want to plan now for implementation of the final and expected rules and consider how to best communicate with investors. Concerns over complexity and optics have prompted some boards to begin analyzing the possible effects of the forthcoming pay-ratio and pay-for-performance disclosures. In addition, some companies have already proactively adopted hedging and clawback policies in advance of the expected rule changes.


Endnotes

1 Based on a review of the 1,300 companies in the Russell 3000 that have held annual SOP votes since 2011. All data is from the EY Center for Board Matters’ proprietary corporate governance database, which covers more than 3,000 public companies listed in the US. Current-year data is as of 30 September. Previous-year data is full year except when otherwise specified. Vote results are calculated based on votes cast for and against the proposal, excluding abstentions and broker non-votes. Index participation is based on the time of a company’s annual meeting.

2 Other reasons for the differences in opposition levels between directors on the same board — or between companies with varying SOP support levels — include company-specific circumstances, such as board and committee turnover, the level of resources directed toward SOP-related engagement and the extent of other governance-related challenges at the company.

3 Director opposition is defined as directors receiving more than 20% “against” votes. There are a number of reasons behind this development, including stronger markets and companies getting better at avoiding common triggers for director opposition votes, such as when a director is perceived as serving on too many boards and poor attendance at board and committee meetings.

4 See 2015 proxy season insights: optimizing proxy communications, March 2015.

5 For more insights around engagement practices, see Let’s talk: governance — Navigating the company-investor engagement landscape, January 2014.

6 Based on a review of the 487 proxy statements filed by S&P 500 companies as of 15 October 2015.

7 A majority of the S&P 500 companies (56%) disclosed in 2015 that they engaged with investors, and the 20% is based on these 274 companies. Data is based on a review of the 487 proxy statements filed by S&P 500 companies as of 15 October 2015.

8 For more information, see our To the Point: SEC finalizes ‘pay ratio’ rule, SEC proposes ‘pay versus performance’ disclosures, SEC proposes requiring ‘clawback’ policies and disclosures, SEC proposes proxy disclosure of policies on hedging by employees, officers and directors.

9 It remains unclear when the pay-for-performance, hedging and clawback proposals will be finalized by the SEC and whether any of these disclosures will be required for 2017 or 2018 proxy materials.

Where do we go from here?

It’s in the best interests of compensation committees to anticipate how investors may perceive their pay-related policies and practices — and whether they are telling a clear story of how their approach supports performance-based pay. Forward-

looking boards of all companies can anticipate that the changes ushered in by SOP — such as enhanced company-investor dialogue — will become more widespread over time.

Forward-looking boards of all companies can anticipate that the changes ushered in by SOP — such as enhanced company-investor dialogue — will become more widespread over time.


Accelerating board performance through assessments

Progressive boards view assessments as a vital tool for maximizing their effectiveness. Assessments can help identify areas for improvement and performance issues and facilitate the development of approaches to addressing those issues.

Board evaluations can also bolster succession planning by identifying gaps in the perspectives and specialized skills necessary to a company’s changing needs. At the same time, assessments can help companies identify when changes to board composition are warranted to strike a balance of fresh perspectives and institutional knowledge.

Due in part to assessments, boards are increasingly looking to recruit directors who are global and diverse (in not only skills and experience but also in terms of gender, ethnicity and other aspects), and/or who have experience in technology, social media and cyber-related areas.

Institutional investors, too, are paying closer attention to board effectiveness — and they have a growing voice in the boardroom. Investors are more closely scrutinizing a range of board related issues, such as board composition and refreshment — and they are increasingly viewing assessments as critical contributors to board and director effectiveness. Today, if boards aren’t effective and don’t get their composition right, an investor may advocate change.

At the same time, policymakers are seeking more effective disclosure on key areas of interest for investors. In response, some companies are voluntarily disclosing more information about their board assessment processes.

A strategic opportunity

Through the use of assessments, boards may better evaluate and better understand the functioning of the full board and confirm that individual director competencies are aligned with corporate priorities and chief areas of stakeholder concern — and are fully understood, recognized, utilized and valued.

Progressive boards view assessments as a vital tool for maximizing their effectiveness. Assessments can help identify areas for improvement and performance issues and facilitate the development of approaches to addressing those issues.


Assessments go beyond simply confirming that the board members have the right skills and experience; they also help boards evaluate how effectively they are working together to manage all of their responsibilities, including strategic considerations, risk oversight, succession planning and capital allocation. Strategic benefits of a robust board assessment process may include:

• Providing clarity on the roles of directors and the board as a whole, accelerating decision-making and avoiding unnecessary director conflicts

• Strengthening understanding of business operations, customer experience and people management practices as the organization evolves

• Identifying gaps in knowledge and expertise related to rapid changes in technology, including digital, cyber and other associated risks and opportunities for the company

• Developing deeper understanding of the sector or industry dynamics and competitive threats locally and globally

• Testing the board’s understanding of key shareholders’ views on the company’s strategy and governance, and its preparedness for potential challenges from activist investors

• Identifying process management improvements to enhance effective board preparation, meeting management and communications

• Fostering alignment and agreement on company purpose and strategy, easing a board’s ability to prioritize issues and set the near-term agenda

• Protecting against weak team dynamics that fracture boards and lead to power struggles

Key elements of board effectiveness

The definition of roles, responsibilities and expectations is an important component of evaluating board performance. While boards have the option of performing the “bare minimum,” doing so misses an opportunity to enhance performance and transform a good board into a great one. An “effective board” needs to be considered in terms of the business, organization and market dynamics.

In carrying out their oversight duties, some boards may focus primarily on compliance. However, higher level boards are deeply involved with company strategy and implementation. These boards are more results-oriented, and they set annual and longer-term objectives that are outcome-based. And even more progressive boards use performance evaluation tools not only to assess their own performance against a certain set of metrics and identify areas of improvement — but also to benchmark their performance against leading practice.

There are several elements of board effectiveness to consider:

• Board/committee structure and processes

• Board/committee composition

• Legal entity and group structure

• Roles and responsibilities

• Behavior and culture

• Director training and development

• Oversight of control functions

• Oversight of reporting, disclosure and performance

Different approaches and considerations

A commitment to regular and robust evaluations can help a board to quantitatively and qualitatively assess its performance, identify strengths and opportunities for improvement and evaluate progress over time. Evaluations also can help boards to refine current and forward-looking performance goals.

Many boards have traditionally followed a checklist approach to self-assessments, but an emerging trend is to use evaluations as a thought-provoking process — one that pushes boards to actively reflect on the current environment and consider new ways to optimize function and performance.


A successful evaluation of the board should include consideration of:

• What is being measured — objectives and competencies that the board wishes to assess

• Who conducts the evaluation — an independent board or committee leader, management representative who supports the board (such as the general counsel) or external third party

• Who is evaluated — board, individual directors, committees, board and committee leaders

• Who participates in the process — directors, management, others who regularly interact with the board (such as the corporate secretary, CFO, internal audit, human resources, outside counsel)

• How the evaluation is conducted — electronic survey tool, written questionnaire, orally facilitated individual interviews, checklist form and/or open answers

• How often is the evaluation completed — annually for board, biannually (or more or less frequently) for committees, biannually or triennially (or more or less often) for third-party facilitated assessments

• How the board discusses and addresses the results — who on the team is responsible for developing a process for evaluating responses and aggregating results, facilitating discussion among directors and developing an implementation plan for changes

In addition, it is important that an independent board member be appointed to lead the process from beginning to end — even if an external firm is facilitating and aggregating responses from board members. Also, the advice of counsel should be sought for approach, access and record retention procedures.

An important component of board evaluations is full candor during the self-assessment process. While there are different ways for this to be achieved, three approaches are emerging as leading practice: conducting individual and peer assessments, 360° feedback and the use of third-party facilitators.

After the board assessment

A key component of an effective evaluation process is the follow-up. The appointed leader of the board assessment process should identify common themes and notable differences, create an anonymous summary of the main findings and schedule a board session — and individual director conversations as needed — to discuss the results.

Board members should discuss, agree upon and assign any necessary action items based on evaluation results and recommendations. It is also important to establish target dates for completion or additional discussion.

Performance evaluation is a key means by which boards can recognize and correct corporate governance problems, capitalize on the board as a strategic asset and add real value to their organizations.

Today, if boards aren’t effective and don’t get their composition right, an investor may advocate change.


According to Bloomberg data, the value of M&A traded for 2015 will almost certainly exceed last year — and maybe even surpass the record of $36.7 trillion set in 2007. There are no signs of that appetite diminishing in the coming year either, as companies increase their fields of vision for M&A, looking beyond traditional industry boundaries and national borders.

The latest edition of EY’s Global Capital Confidence Barometer, released in the final week of October and incorporating a survey of more than 1,600 executives in 53 countries, provides additional insights regarding the current C-suite mindset around M&A. A quick snapshot of it shows that 59% of companies expect to actively pursue acquisitions in the next 12 months, with 48% intending those pursuits to target acquisitions outside their own sector. A hefty 55% of companies currently have three or more deals in their pipelines, and 26% of companies have increased their intention to make an acquisition in the Eurozone. Deals of less than $250 million are the primary target (71%), but more than a quarter of planned M&A would fall under the category of upper-midmarket (from $250 million to $1 billion).

“This is a more mature M&A market than we have seen in years’ past, which points to a continuation of strong deal activity,” said Rich Jeanneret, EY Americas Vice Chair, Transaction Advisory Services. “After two years of heightened valuations, prices have come back down to earth. With modest increases in global GDP, positive shareholder reaction to deal-making and the ever present possibility of an activist agenda, executives are continuing to look to M&A to meet their growth agendas.”

As one might expect, this brimming voraciousness and, in particular, the exploration of new territory in terms of cross-pollination of sectors, ratchets up the importance of the board’s role in M&A.

The board’s cycle of responsibilities in M&A

The M&A process is one of the more immersive experiences for board members, as the responsibilities run from well before the deal is done to well after. At the outset, that includes being wary of succumbing to deal mania.

As M&A grows, so does the board’s roleDeals that bring companies together often happen at high speed, creating the potential for missing some critical risks

Everyone in the business world knows that M&A is shorthand for mergers and acquisitions, but these days you could just as readily believe it stands for “moving ahead.” If nothing else, the numbers alone should get the attention of board members at a time when an increasingly holistic view must be taken in every stage of the transaction, including strategy, due diligence, deal approval, integration and post-integration.

This article appeared on the Bloomberg Board Directors’ Forum hub. EY is the exclusive sponsor of the Board Directors’ Forum in partnership with Bloomberg Media.


“Often when a company is looking at a deal, they get very caught up in the idea of the deal itself,” says Jennifer Lee, EY Center for Board Matters. “Sometimes they forget to step back and really assess some of the assumptions and understand the full spectrum of the risks beyond just market, financial and operational risks. The board can make sure that everyone involved is being objective, and ensure that all the critical assumptions that management is using for assessing the viability of a deal are challenged.”

That specific role for board members is really just the starting line. From a holistic perspective, the full menu includes strategy review and risk assessment, due diligence (including the vital nonfinancial variety), deal approval, the integration process and the post-integration process.

As deals cross sectors more frequently, nonfinancial due diligence becomes increasingly important — and difficult to define or quantify. “That’s an area that’s really hard to measure and assess, because it’s not information that you can simply request, and time is not necessarily on your side when you’re going through the deal,” says Lee. Elusive information can include the level of cyber risk that would be taken on by the company on day one, for example.

Among the aspects of nonfinancial due diligence is attempting to assess the intangibles of bringing two different companies together. “When companies join, there are questions around the compatibility of culture and the ideologies of the companies that, while seemingly simple, can present major challenges,” says Ruby Sharma, EY Center for Board Matters. “The ideologies and the cultures of the organizations could clash on things such as how people work, what hours people work, how much time they are expected to be in the office and so on. The impact of this on human capital is a risk that needs to be assessed. A very high proportion of deals that fail do so because of a lack of cultural integration.”

This can be especially acute, says Sharma, in cross-sector mergers.

“If it’s a business you haven’t historically been involved in, that can be fraught with challenges that they don’t teach you to plan for,” says Sharma.

As in many cases, board members need not know all of the answers, but should be proactive in setting the growth agenda and asking the right questions, which can be an effective method of driving nonfinancial due diligence. What happens when you communicate with stakeholders and they do not like what they are hearing? What happens to the morale of your employees as well as the employees assumed through acquisition? And what is the impact of a workforce that doesn’t believe in the mission — especially if it is a workforce composed of very specialized skills and talents? How would you manage that? This is just a sampling of relevant questions. Sharma says that one of the first things to pop to mind in addressing these types of questions is the synergy of the management teams who would be responsible for addressing them. “A delay in assessing that synergy could be damaging,” she says.

Playing devil’s advocate

During all of the cycles of M&A, the board can act as the glue that strengthens the process and holds it together.

“One of the strengths of management is that they are typically very good at analyzing what they have, but often might not necessarily contemplate what’s missing, or have limited information,” says Lee. “That’s where the board can be really helpful in terms of providing guidance to management. Depending on the deal, you might be given a very short period of time, and management and directors can find the amount of information to deal with a bit overwhelming. When due diligence has to happen in a very short period of time, it’s very easy to forget to contemplate where the gaps are, or what other information should be considered or assessed. That’s where the board can really provide a steady hand.”

In simpler terms, a board should be willing to play devil’s advocate — a provoker of deeper, more informed thought on assumptions that might raise an eyebrow. “Good oversight requires exactly that,” says Sharma. “It’s pushing management to focus on all of the challenges, risks and opportunities.”

During all of the cycles of M&A, the board can act as the glue that strengthens the process and holds it together.


Big data and analytics in the audit processMitigating risk and unlocking value

In just the last few years, the terms “big data” and “analytics” have become hot topics in company boardrooms around the world.

For many, embracing big data and analytics is crucial to keeping their organization nimble, competitive and profitable. Board members need to understand the complexities and have a grasp of the issues surrounding these technology trends. Equally important, they should be prepared to ask the right questions of the executives in charge of big data and analytics initiatives.

The sheer volume, variety and velocity at which data becomes available present technological challenges in how it is secured, stored and analyzed. But companies that can effectively do so in an efficient manner stand to uncover a treasure trove of valuable insights that can help drive growth while enhancing risk management. These insights can be leveraged by management and boards to better inform decisions and actions and help prioritize resources to create strategic value.

Leveraging big data and analytics in audit functions

To keep pace in today’s increasingly complicated governance and risk management landscape, progressive external audit firms and internal audit functions are beginning to use technology to revolutionize the way that audits are conducted.

Both internal and external auditors are combining big data and analytics, and greater access to detailed industry information, to help them better understand the business, identify risks and issues, and deliver enhanced quality and coverage while providing more business value. Information and insights that may be relevant to board members now extend far beyond traditional financial transactional data in a company’s general ledgers and extends into data from email, social media, video, voice, texts — mountains of unstructured data. Insights gleaned from such data can and should extend beyond risk assessment.

Integrating analytics into audits is not without its challenges. Access to audit relevant data can be limited; the availability of qualified and experienced resources to process and analyze the

In today’s business environment characterized by constant disruption, slow growth and uncertainty, boards face more challenges than ever in creating a risk-aware corporate culture and establishing sound risk governance and controls.


data is scarce; and timely integration of analytics into the audit continues to be a challenge for auditors. However, progress is being made on each front.

Properly developed, analytics can help internal auditors act as a strategic advisor while holding the line on cost or even reducing it. Analyzing data to produce actionable information is a key challenge and opportunity for companies. Properly utilizing this information will be a differentiator for forward-leaning companies.

The board’s role

Boards are generally not involved in the day-to-day activities of managing big data and analytics and the associated costs. But in discussions with the CEO and other C-level executives, board members should insist on clarity of vision and collaboration across all disciplines to maximize the return on any investment in big data and analytics.

First and foremost, board members should gain a better understanding of how the company is internally leveraging big data and analytics and how those items can drive the business. In addition to using big data and analytics for compliance and risk monitoring efforts, leading companies and boards should consider leveraging analytics for other strategic imperatives for value creation. Leveraged appropriately, big data and analytics provide an endless range of opportunities for companies — from uncovering ways to optimize cost structures, gaining invaluable insights into consumer preferences, and identifying opportunities for new revenue channels, to name a few.

Boards also need to ask management about the resources being deployed to capitalize on big data and analytics and whether the company has the right talent to develop a quality big data and analytics program effectively.

Boards and audit committees can also be proactive with its external auditors by having discussions early on regarding the scope and use of data analytics in the external auditor’s risk assessment process and audit testing.

Board members should insist on clarity of vision and collaboration across all disciplines to maximize the return on any investment in big data and analytics.

The four Vs

Big data refers to the dynamic, large and disparate volumes of data being created by people, tools and machines; it requires new, innovative and scalable technology to collect, host and analytically process the vast amount of data gathered in order to derive real-time business insights that relate to consumers, risk, profit, performance, productivity management and enhanced shareholder value.

Big data includes information garnered from social media, data from internet-enabled devices (including smartphones and tablets), machine data, video and voice recordings, and the continued preservation and logging of structured and unstructured data. It is typically characterized by the four Vs:

• Volume: the amount of data being created is vast compared to traditional data sources

• Variety: data comes from different sources and is being created by machines as well as people

• Velocity: data is being generated extremely fast — a process that never stops, even while we sleep

• Veracity: big data is sourced from many different places; as a result, you need to test the veracity and quality of the data

Action items for the board

So how can big data and analytics improve a company’s audit capabilities? Topics to consider as a board or to discuss in more detail with management might include:

• Decide what you want to achieve with big data and analytics

• Determine what is relevant

• Focus on what will drive value

In discussions with fellow directors, the CEO, finance leaders and other C-level executives, there are key questions that board members, especially audit committee members, should be asking to ensure that investments in big data and analytics are successfully leveraged.


Questions related to internal audit• Strategy: What are management’s plans for using big data and

analytics for auditing, compliance and risk management over both the near term and long term? Does the company have an enterprise risk strategy regarding big data and analytics?

• Functional areas: How are the company’s internal audit, compliance and risk management functions leveraging big data and analytics to achieve business objectives and maximize ROI? Has internal audit evaluated how data analytics can be leveraged in validation and monitoring efforts, such as internal controls and SOX compliance? Has the company evaluated how other functional areas, such as finance, supply chain management, human resources, can leverage big data and data analytics to drive decision making and actions to create strategic value? How is the company addressing talent implications and needs for analytics tools?

• Technology: Deeper data mining increases the complexity and volume of big data and analytics. What are the steps the business is taking to identify and capture the most relevant data? How is the quality of the data assured? How is data governance managed to ensure the data can be used efficiently? How is the data secured?

• People: Which new data and analytics talent needs to be brought into the organization? How can the board create an analytics-focused mindset in the company’s finance, risk and compliance functions to ensure that data is consumed and analyzed in an optimal manner? How can the board balance audit judgment with the findings and results from analytics?

Questions related to external audit• Resources: What resources and technologies does the

external auditor have in place to capitalize on big data and analytics? Does the external auditor have programs in place to develop the right talent and technical competencies to appropriately leverage big data and analytics? How is the external auditor coordinating with management to use data analytics tools?

• Strategy: How is the external auditor leveraging analytics in the audit today, and what are the plans for doing so in the future?

• Data capture: Data capture is often a key barrier in the big data and analytics process. Can the company’s external auditor determine the scope of data currently being captured? How can the company’s internal IT function work with the external auditor to streamline the data capture process?

• Cybersecurity: Effective use of big data and analytics for audits usually requires external auditors to access internal corporate data. But many companies have invested heavily in protecting their data with multilayered approval processes and technology safeguards. How can the company give external auditors access to data while still maintaining the security of that data?

Embracing the future

In today’s increasingly complex business environment, data-driven risk governance and controls are critical. Meaningful operational change comes from the top. Board members and C-suite executives need to embrace this change, identify the best talent and empower other senior executives and the rest of the organization to adopt the best systems, technologies and analytics for their businesses.

To drive better decisions, boards must first ask the right business questions and then seek answers in the data. Not only can the integration of big data and analytics into the audit help mitigate compliance and reputational risks, but it can also lead to better financial reporting and insights to ultimately drive better decisions and actions within an organization to create strategic value.

In today’s increasingly complex business environment, data-driven risk governance and controls are critical.


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