Corporate governance failure

CORPORATE GOVERNANCE
Assessment 1: Case Analysis

Corporate Governance Failure: Lessons from the Collapse of FTX

Abstract
Corporate governance encompasses the systems, processes, and structures that
regulate a business operations and decision-making. It is an important part of modern
business organizations, and plays a pivotal role in ensuring effective management
within organizations.
This article examines the corporate governance failure exemplified by the collapse of
FTX, shedding light on the consequences of poor governance practices. The absence
of a formal board of directors and the concentration of control in the hands of a select
few individuals violates principles outlined in The UK Corporate Governance Code.
The company's flawed management practices and inadequate organizational structure
further contributed to its downfall. Financial control and transparency were
compromised, with non-centralized cash management and questionable transfers of
customer funds. Audit risk emerged due to the absence of an audit committee,
resulting in unaudited reports for affiliated entities.
To prevent such governance failures in the future, several recommendations are put
forth. Businesses should establish a balanced and independent board of directors,
strengthen internal control and risk management systems, and foster stakeholder
engagement and accountability. These recommendations serve as valuable insights for
companies aiming to prevent corporate governance failures and establish robust
governance practices that promote sustainability and long-term success.

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Introduction
In 2022, FTX was valued at $40 billion and was the second-largest cryptocurrency

exchange in the world. It faced a crisis in November when leaked financial report
revealed a significant reliance on its own crypto token, FTT (Byrne, 2022). This,
stated by Hern (2022), raised concerns about liquidity and triggered panic among
investors, ultimately leading to FTX's bankruptcy. The collapse of FTX is a typical
case of the consequences of poor corporate governance. This paper analyzes the gaps
in corporate governance of FTX, contrasting them with theories of corporate
governance, the 2018 UK Corporate Governance Code, and the 2020 UK Stewardship
Code. Following, a number of governance recommendations are suggested for
businesses to prevent such failures from occurring in the future.
Corporate Governance Failure
The absence of a formal board of directors was a critical flaw in FTX's corporate
governance (Calhoun, 2022). In fact, Mr. Backman-Fried controlled the entire board,
along with Jonathan Chessman and an unnamed attorney, who apparently resigned
from the board several months before the company went bankrupt. That goes against
the principles in The UK Corporate Governance Code (2018), which stated that
boards must have a balance of skills, experience, independence and knowledge to
carry out their duties effectively. Board diversity fosters accountability, transparency,
and multiple perspectives, mitigating the risk of decision-making being concentrated
in the hands of an individual (Torchia, 2015). In analyzing Stewardship theory, Keay
(2017) emphasized the role of the board of directors as a supervisor and guide,
ensuring that managers fulfill their managerial responsibilities and the protect longterm interests of shareholders. Maclellan (2022) claimed that no board meetings have
ever taken place at FTX.
Farma (1980) analyzed agency theory, which emphasizes the benefits that a company
can receive when there is a clear division of ownership and control. He argued that
separating ownership and control allows individuals to specialize in their respective
roles, where owners can focus on providing capital and making investment decisions,
and professional managers can specialize in running the company’s operations. As of

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November 2022, Backman-Fried remained the CEO of FTX, and operated without
any oversight. The concentration of control in the hands of a group of inexperienced
and unsophisticated individuals is an unprecedented move for multi-billion dollar
financial companies, according to Mr. Laffin (2022).
FTX was also assessed as having sloppy and flawed management practices.
Congressman Ritchie Torres considered the activities of this business more like a
university fraternity (Chittum, 2022). Provision 27 of the 2018 UK Corporate
Governance Code underlined the importance of strong internal control, risk
management systems, and effective decision-making processes within the company. It
promoted the establishment of robust systems and processes to ensure effective
governance and management of the company. FTX's organizational structure showed
many gaps when there was a lack of balance between departments such as
development, security, and product (Calhoun, 2022). Operational support groups such
as public service, general counsel, back office, middle office, CFO were not
established and run as they should be.
A key flaw of FTX is also an absence of financial control. The company did not
maintain centralized control over its cash, and the management of the list of accounts
and signatories is believed to be non-transparent (Calhoun, 2022). It violated
Principle D in the 2018 UK Corporate Governance Code, which highlighted the
importance of establishing a culture of integrity and ethical behavior within the
company, including accurate financial reporting and compliance with relevant laws
and regulations. The FTX’s hedge fund called Alameda had made billions of dollars
loans to its “related parties”, including Bankman-Fried’s personal company and
himself. All of these loans had not been tracked in FTX’s financial statements (Hern,
2022).
Audit risk occurred when the company did not have an audit committee, which should
have been one of the main executive committees of the board of directors. The audit
committee ensures that the financial statements are properly generated and accurately
reflect the financial position of the business (UK Corporate Governance Code, 2018,

Provision 26). It also plays an important role in internal control and risk management
through its intensive oversight (DeZoort et al., 2002, p.38). There weren't any audited

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reports for Alameda when bankruptcy regulators stepped in. The subsidiaries and
partner funds in the FTX ecosystem are also unaudited and have no uniform
regulatory authority (Calhoun, 2022). This can lead to threats of concealment of
ownership, control, and transfer of assets and liabilities.
Recommendations
To prevent governance failure as is the case with FTX in the future, some
recommendations for businesses are given below.
Establishment of a balanced and independent Board of Directors
Businesses must comply with the principles of the UK Corporate Governance Code
(2018) and ensure the establishment of a formal board of directors with a balance of
skills, experience, independence and knowledge. According to Torchia (2015), a
balanced board enables more robust and informed decision-making, helping the
company navigate challenges and identify opportunities. Independent directors, who
are not affiliated with the company or its subsidiaries (Sarbanes Oxley Act, 2002), can
provide objective assessments, challenge management's decisions, and act in the best
interests of the company and its stakeholders. They help ensure that the board's
decisions are not unduly invested by conflicts of interest and promote transparency
and accountability (Armstrong et al., 2014).
Strengthen internal control and risk management
Enterprises should improve their management practices by implementing robust
internal control systems and effective risk management processes. This concerns
compliance with Provision 27 of the UK Corporate Governance Code (2018), which
emphasized the need for a tight system of internal control, risk management, and
regulatory compliance to promote effective decision-making in the company. An

internal control system helps to ensure that assets are used appropriately and in line
with the company's objectives. In addition, effective internal control ensures the
accuracy and reliability of financial statements and other important information in
operational processes, advancing trust among stakeholders (Root, 2000). According to

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Ellul (2015), the risk management process enables companies to effectively identify,
assess and manage risks, reduce their likelihood and impact, and seize opportunities
for the company’s growth.
Promote stakeholder engagement and accountability
According to Spitzeck and Hansen (2010), businesses can demonstrate accountability,
build trust, and improve decision-making processes by considering the interests of all
stakeholders. The UK Stewardship Code (2020) emphasized the role of effective
management and participation of the parties involved in company’s operations. It
encouraged investors to be active participants in corporate governance, engage with
companies on matters of strategy, performance, risk, and sustainability. By addressing
and understanding the stakeholders’ concerns, companies can mitigate risks, drive
innovation, ensure long-term sustainability, and comply with legal requirements.

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