Comparing The Fiscal Council And An Audit Committee Is A Misconstruction

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The fiscal council has been the subject of controversy in Brazil for years. The supervision body established by the shareholders is often criticized by some market participants, who accuse it of being expensive and ineffective, suggesting it should be replaced by the audit committee.

For Roberto Lamb, a Finance professor at the Federal University of Rio Grande do Sul, such idea shows how unfamiliar people are with the roles of the two bodies, whose competencies are totally different.

Mr. Lamb, who is a Member of the Corporate Risk Management Commission of the Brazilian Institute of Corporate Governance (IBGC), board member of several companies, and author of many articles on the subject, points out that Brazil is aligned with global standards since the Brazilian fiscal council is similar to the ones in Europe, Japan, and Latin America. On the other hand, the criticism arises from the need to improve the structure of the council, which includes the responsibility of the shareholders. Check out the main excerpts of the interview below.

How do you see the debate on overlapping activities of the fiscal council and the audit committee?

The dichotomy between the fiscal council and audit committee demonstrates a lack of knowledge on the subject. The Securities and Exchange Commission of Brazil (CVM) points out that they should not be mixed up. The audit committee is an advisor to the board of directors, while the other oversees the management. To think that an advisory body can replace the fiscal one is a misinterpretation of the legislation.

But is there a risk of overlapping functions?

I insist that they have entirely different functions. The Brazilian Corporate Law states that the responsibility of the fiscal council is to supervise the administration, verifying if it is fulfilling its legal and statutory duties. (The law) says that the council must watch the management’s acts. Note that the word acts is not followed by anything in the law. So, acts can be anything. And, if the audit committee is an advisor to the board of directors, how can one imagine that the first can supervise the latter?

So, how this idea that the audit committee could incorporate the duties of the fiscal council came to be?

The trend of wanting to replace the fiscal council with the audit committee is actually a ploy to take the task of supervising the administration away from the shareholders, since the administration prefers to “oversee itself”. The Brazilian Corporation Law clearly establishes the fiscal council and says that neither the company bylaws nor the assembly can prevent the shareholder from overseeing the company’s business.

Under what circumstances should the fiscal council be installed?

State-owned enterprises must have a permanent fiscal council, but private companies can have it or not, depending solely on the shareholders’ decision.

Some argue that the fiscal council is expendable, as it does not exist in some markets. Could you comment on this idea?

To say that in other markets, there is no fiscal council is very generic and suggests a lack of knowledge of comparative governance. When people talk about other markets, they usually refer to the United States, England, and Australia. But I would say that, excluding these three countries, almost everyone else has a body similar to the fiscal council. Continental Europe has a similar, if not the same, body. For example, Italy, an OECD member, has the collegio sindacale.

Why has the fiscal council prevailed in Brazil, and the audit committee has only recently picked up?

Although the audit committee already existed in the Anglo-Saxon governance model before, it was only in 1999, following the Blue Ribbon Report — the basis for the USA’s 2002 Sarbanes-Oxley Act (SOX) — that the audit committee became more popular.  In Brazil, audit firms brought abundant studies and advice to the audit committee, boosting its adoption.

On the other hand, the fiscal council has been mentioned in Brazilian legislation since the Civil Code of 1850. The first law stating that “every company will have a fiscal council composed of three or more members in charge of supervising the business and rendering accounts to the assembly” is from 1892. The text of the fiscal council legislation in the Brazilian Corporate Law from 1976 is almost identical to that in the Commercial Code from 1940, and what is in the 1940s law already existed in 1892. So this governance structure that grants the owner an overseeing power has been impregnated within Brazilian legislation for almost two centuries.

And what would the “powered up” fiscal council be?

The idea that the fiscal council needs to be beefed up to comply with the Securities and Exchange Commission (SEC) stems from complete unfamiliarity with the US regulation. The 2010 version features a section called foreign issuers in which the SEC writes, “look, we know that in many jurisdictions some organizations have two councils, one of them being a supervisory board,” as is the case in Germany, Japan, Italy, and the fiscal council in Brazil, which they quote with this name. The SEC statement says that when the country’s corporate legislation foresees such a body, comprised of members that have no connection to the management to supervise it, this is the best one to comply with SOX. Note, it is not me who is saying this; it is the SEC itself.

But isn’t this a requirement for companies with shares listed on American stock exchanges?

I will give you the example of Gerdau, a company of which I was a board member for four years and which has ADRs listed in New York. Back then, Gerdau had no audit committee. The fiscal council, of which I was a member, was responsible for fulfilling the SOX obligations before the SEC. We never received any warning, or any communication from the SEC. They wrote that the council is better, so there it was never a problem.

And what about the view companies are already subject to significant supervision and that, therefore, the fiscal council would not be necessary?

I often hear this: “in publicly traded companies listed in the Novo Mercado or in the United States, everybody oversees us, we don’t need more inspection.” I say that the Brazilian legislation gives the shareholder the right to oversee. And it is precisely in the largest enterprises that the minority shareholder is the most trampled upon. Take, for instance, Petrobras’ example, which is a global company. See the negative things that have happened there.

And how do you deal with problems such as a lack of training of fiscal council members and an average compensation that does not attract the best professionals?

It is also very common to hear that the fiscal council is inept, does not perform its duty, and therefore, it would be better if it didn’t exist. But then I ask: whose fault is it? At this point, the responsibility lies with the shareholder. Another argument used to get rid of the fiscal council is to say that it is underpaid. Of course it is, as it is the management who sets the fiscal council’ compensation. This is a fault of the Brazilian law. So, an important point I would like to emphasize is that the fiscal council will be as skilled to perform its job as the shareholder is skilled in appointing nominees and fighting for adequate remuneration.