One of the main lessons from the Global Financial Crisis of 2008-2009 learned by financial institutions, regulators and other stakeholders is the need to strengthen corporate governance, both in terms of the frameworks and related rules and in terms of the practices of financial institutions.
Compared to other G20 nations, Australia ranks highly in almost all areas identified in a recently published peer review by the Financial Stability Board (FSB). The FSB promotes global financial stability by coordinating the development of regulatory, supervisory and other financial sector policies and conducts outreach to non-member countries. It achieves cooperation and consistency through a three-stage process, including monitoring implementation of agreed policies. The FSB is chaired by Mark Carney, Governor of the Bank of England. Its Secretariat is located in Basel, Switzerland, and hosted by the Bank for International Settlements.
The FSB recently published the findings of its Thematic Review on Corporate Governance [link to PDF download]. The peer review takes stock of how FSB member jurisdictions have applied the G20/Organisation for Economic Co-Operation and Development (OECD) Principles of Corporate Governance to publicly listed, regulated financial institutions, identifying effective practices and areas where good progress has been made while noting gaps and areas of possible weakness.
The Principles of Corporate Governance are intended to assist policymakers in the evaluation and improvement of the legal, regulatory and institutional framework for corporate governance, with a view to support economic efficiency, sustainable financial stability. The Principles cover a range of areas, including governance frameworks, disclosure and transparency, and responsibilities of the board.
In addition to reviewing implementation of the Principles in FSB member jurisdictions, the peer review provided input to the update of the OECD’s Methodology for Assessing the Implementation of the G20/OECD Principles of Corporate Governance. This methodology is used by the World Bank as the basis for country assessments of corporate governance frameworks undertaken as part of its Reports on the Observance of Standards and Codes initiative.
The FSB's peer review offers 12 recommendations to FSB member jurisdictions (including Australia), standard-setting bodies (i.e. OECD, Basel Committee on Banking Supervision, International Association of Insurance Supervisors and International Organization of Securities Commissions) and financial institutions focusing, among others, on the following areas:
- Ensuring the basis for an effective corporate governance framework – to identify and address gaps or inconsistencies in cases where corporate governance frameworks are found in multiple sources; and augment enforcement powers available to supervisory authorities to address weaknesses in corporate governance regimes or non-compliance with corporate governance requirements.
- Disclosure and transparency – to consider improving disclosures related to governance structures, voting arrangements, shareholder agreements and significant cross-shareholdings and cross-guarantees; and identify remuneration information that could be usefully provided to shareholders.
- The responsibilities of the board – to consider adoption, implementation and disclosure of codes of ethics or conduct; and encourage boards to undertake regular assessments of their effectiveness.
- Rights and equitable treatment of shareholders and key ownership functions – to consider requiring that shareholders be given opportunity to vote on financial institution remuneration policies and the total value of compensation for the board and senior management.
- The role of stakeholders in corporate governance – to consider enhancing the effectiveness of whistle-blower programmes.
- Other – to consider reviewing practices with respect to the effectiveness of rules regarding the duties, responsibilities and composition of boards within group structures; the framework for related party transactions; and the role and responsibilities of independent directors on the board and board committees.
While many FSB member jurisdictions require the disclosure of quantitative remuneration data at the aggregate level, several jurisdictions (including Australia) require disclosure of remuneration at the individual level. In certain cases, different disclosure details are required for the board of directors and senior management (e.g. in Germany the board members remuneration is presented at the aggregate level vis-à-vis individual senior management disclosure). The range of disclosure practices vary: remuneration disclosure requirements can be for individuals that exceed a certain remuneration level set in regulation (Argentina, India, Japan, Korea), for the five highest paid executives (Hong Kong and Saudi Arabia), or the number of individuals that fall within a certain remuneration band (France).
Group oversight and the relationship between group entities is an area that is worthy of further consideration.
Lines of sight covering effective intra-group oversight, reporting and escalation, and identifying related party transactions and setting materiality thresholds for board review are highlighted in the review. Clearer, more prescriptive requirements around oversight of control functions (e.g. Risk Management and Internal Audit) at subsidiary level, as well as at the listed parent of a financial services group, to help provide "a sounder case" in the event of non-compliance were also identified.
Conflicts of interest (COIs), including related party transactions
It comes as no surprise that conflicts of interest is an area that warrants further investigation across the G20. Disclosure requirements for related party transactions vary significantly. Some jurisdictions specify exclusions to the requirement for the board to approve them (e.g. those in the ordinary course of business) which gives rise to the risk that the requirements can be circumvented; in other jurisdictions there are no materiality thresholds which could lead to boards spending a disproportionate amount of time/focus on approving many small related party transactions.
Business and risk culture, and setting the "tone from the top" warrant further attention.
The "tone from the top" strongly influences governance and decision-making throughout the financial institution (although increasing the remaining "muddle in the middle" suggests improvement in risk culture is still a challenge). The FSB Review positively observed that In Australia, the prudential regulator has recently issued a standard that requires the board form a view of the risk culture in the bank and identify and address any desirable changes to the risk culture. The FSB sees the introduction of this requirement as resulting in risk culture "becoming a key focus for boards in that country".
Board evaluations are an effective tool and required across almost all jurisdictions but the quality of evaluations and access to results could be further enhanced.
The report identified that the quality of board evaluations could be enhanced by more detailed guidance to financial institutions, especially on minimum risk management requirements and remuneration practices. It also suggested shareholders may benefit from access to board evaluations (which are not typically made public).
Succession planning requirements could be enhanced
Only Australia has regulations that require a formal board renewal process. However, other regimes are assessed as having a stronger regulatory framework to ensure management succession. The Principles call for boards to oversee the succession planning process. The report notes that in Australia, for banks and insurers, there is a requirement for a formal policy on board renewal in place which must also include details regarding the appropriate skills and expertise. The FSB also argues that that financial institutions should consider enhancing their training programmes for directors, both at the time a director is appointed and on an ongoing basis, together with the disclosure of this training.
Dominique Hogan-Doran SC
10 June 2017
Dominique Hogan-Doran is a Senior Counsel of the Australian Bar, and an Australian delegate to the G20 Business Dialogue under the 2017 German Presidency.