Financial Literacy: What Does It Mean, What Should It Mean?

Defining financial literacy is key to evaluating the effectiveness of audit committee board members, said Roman L. Weil, V. Duane Rath Professor of Accounting, at a talk sponsored by the Chicago GSB Club on November 1 at Gleacher Center. Weil presented the results of a financial literacy quiz taken voluntarily by 1,000-plus board members attending three-day financial workshops for corporate directors.

Drawing on recommendations from the Blue Ribbon Committee, established by the NYSE and NASD, that audit committee members should be financially literate, the quiz broadly interprets this ability to include reading and understanding the income statement, balance sheet, statement of cash flows and the supporting notes and schedules. Audit committees are typically composed of three independent directors, at least one of whom has experience in financial accounting.

Weil developed a set of standards for what he feels financial literacy means and found that most audit committee members fall short of these criteria. For example, he said that 69% of the respondents did not fully understand retained earnings. Students who take one course (Business 3000) in the MBA program do better than most audit committee members, said Weil. To rectify this shortcoming, Weil feels that boards should specialize somewhat and reach out to find audit committee members that are fully financially literate, not necessarily only those with CEO vision.