The fourth national conference under the Road to Europe Program of Accounting Reform and Institutional Strengthening for Small and Medium Enterprises (REPARIS for SMEs) in Montenegro on May 24 included important discussion of the critical role of audit committees in ensuring transparency and accountability of Public Interest Entities (PIEs) and state-owned enterprises (SOEs). The unique challenges faced by audit committees in Montenegro were examined in depth by a dedicated panel of local experts. An international expert with extensive experience serving as a non-executive director outlined international good practices, key provisions of the EU acquis, and practical solutions to enhance audit committee effectiveness. Conference participants engaged with a range of questions and comments.

The key takeaways and conclusions from the conference regarding the roles and responsibilities of audit committees are summarized below.

The Role of Audit Committees

Audit committees are fundamental to robust corporate governance. They play a pivotal role in overseeing financial reporting processes, ensuring the integrity of financial statements, and reviewing the effectiveness of internal controls and risk management systems. These responsibilities are crucial for maintaining public trust and ensuring that SOEs fulfill their broader social and economic objectives. By mitigating risks and enhancing governance standards, effective audit committees contribute significantly to the efficient use of resources and the overall stability of the organization.

Challenges in Montenegro

Montenegro’s regulatory framework mandates that all legal entities subject to audit requirements establish an audit committee, extending beyond public interest entities (PIEs). This broad application poses several challenges, particularly on medium-sized entities that are not PIEs. Audit committees in Montenegro must include at least three members, one of whom should be knowledgeable in accounting. However, these members cannot be employees, shareholders, or part of the governing body. Unfortunately, there is no requirement for a majority of audit committee members to be independent or have sector-specific competence, which weakens the potential for objective oversight and is not in line with good practices.

Moreover, there are significant gaps in reporting and oversight. Audit committees are not legally obligated to report annually to shareholders or entity’s supervisory boards. This lack of transparency extends to the requirement (or lack thereof) for audit committees to inform supervisory boards about audit outcomes or their role in financial reporting.

External bodies in Montenegro also face limitations in their authority over SOE management. This, combined with poor remuneration, affects the ability of audit committees to attract and retain qualified members. There is a noticeable lack of necessary competencies among audit committee members, further impeding their effectiveness. Perhaps most concerning is the fact that findings and recommendations from audit committees are frequently disregarded by shareholders, significantly diminishing their impact on governance.

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Enhancing Governance in Montenegro's SOEs: The Critical Role of Audit Committees

International Good Practices and EU acquis

Drawing on international experiences can provide valuable insights for Montenegro. Strengthening the independence of audit committees is paramount. Amending regulations to require a majority of independent members and ensuring sector-specific competence can significantly enhance the oversight capabilities of audit committees.

Enhancing reporting requirements is another critical area for improvement. Introducing mandatory annual reporting by audit committees to shareholders and supervisory bodies, along with detailed information on the contribution of audit to financial integrity and on the role of the audit committee, can foster greater transparency and accountability.

Improving selection processes for audit firms is also essential. Mandating that audit committees must present multiple options for audit firm selection and justify their recommendations can ensure more rigorous oversight and more transparent selection processes.

Investing in capacity building and training is crucial for the continuous development of audit committee members. Developing comprehensive training programs that equip members with necessary skills and knowledge, and promoting continuous professional development in audit standards, regulatory requirements, and industry-specific challenges, can keep audit committee members well-informed and effective.

The EU acquis provides additional guidance that can enhance the effectiveness of audit committees in Montenegro. EU Directive 2006/43/EC and EU Regulation 537/2014 emphasize the importance of compliance, oversight, and auditor independence. These regulations require audit committees to monitor the financial reporting process, ensure the independence of auditors, and oversee the audit function. Additionally, under the provisions related to sustainability reporting, audit committees have an expanded role in overseeing sustainability reporting. They must ensure that sustainability information is accurate, comprehensive, and integrated with financial reporting, reflecting the growing importance of environmental, social, and governance factors in corporate accountability.

Case Study: Energy company in Central Eastern Europe (CEE)

The company, a leading SOE in CEE energy sectors, showcases effective audit committee practices. The company implemented a comprehensive risk management framework and advanced technology for real-time risk assessment, significantly enhancing its ability to identify and mitigate risks. Additionally, the company strengthened its crisis management and business continuity plans, ensuring resilience and stability. By enhancing transparency and stakeholder engagement through regular reporting, this company could set a benchmark for best practices that can be emulated by Montenegro’s SOEs.

The company’s approach to governance can serve as a model for other SOEs. The audit committee’s proactive role in overseeing risk management included integrating advanced risk assessment tools to monitor risks in real-time. The company placed a strong emphasis on continuous risk assessments, ensuring that both management and the board were frequently updated on potential risks and the strategies to address them.

Conclusion and Recommendations

Audit committees are pivotal for the governance and accountability of SOEs in Montenegro. By adopting good international practices and learning from international examples, Montenegro can improve its governance standards, ultimately fostering greater public trust and achieving sustainable economic growth.

Establishing stringent criteria for selecting independent audit committee members with diverse expertise is crucial. Developing an integrated risk management framework using advanced assessment tools will enhance risk identification and management. Committing to detailed, regular reporting and proactive stakeholder engagement will increase transparency and accountability. Lastly, fostering a culture of ethics and sustainability, supported by senior leadership and continuous monitoring of regulatory changes, will ensure that Montenegro’s SOEs align with international good practices and achieve long-term success. Implementing these recommendations will enhance the effectiveness of audit committees, contributing to better management of public assets and increased public trust in Montenegro’s SOEs.