The role of risk management in corporate governance: Guidelines and applications

Abstract

Risk management should be a key concern of board members to enhance corporate governance in any organization. Eleven key numbers, ratios, and models were advocated in this paper for risk management analyses, including an analysis of their variability with graphs. They are applied to Kaisa, a Chinese property developer, located in Shenzhen but incorporated with limited liability in the Cayman Islands. The importance of such risk management analyses was demonstrated in this paper as Kaisa destroyed $12.9 billion in four different types of investments: $2.2 billion in stock market value, $0.3 billion in private equity investments, $2.5 billion in global bonds, and $7.9 billion in Chinese short-term and long-term debt. Thus, the use of key financial statement metrics, including fraud models and ratios, has been shown here to provide enhanced corporate governance with risk management guidelines and applications. Boards of Directors need to pay attention to key financial statement metrics, which have been shown to work over and over again, as with Kaisa in this paper. These key metrics usually start with operating cash flows which then may indicate problems with debt service (the fixed charge coverage ratio) which then may lead to bankruptcy predictions by the Altman bankruptcy model. To cover up such survival problems, companies often resort to earnings management and even fraudulent financial reporting which are typically red flagged by the quality of earnings, the quality of revenues, the new fraud model and the old fraud model.