Effective Boards in Banks

CIS Bankers Conference

Effec&ve Boards in banks

Ferdinand W. Tuinstra, Sr Banking Advisor IFC Europe & Central Asia – Access to Finance

Kyiv, June 6, 2013

‹#› IFC Corporate Governance Program

PresentaBon Purpose and Outline

Purpose: Making boards more effecBve and dynamic

Agenda §  Introduc&on to Boards – Role of Boards

§  Understanding the Board composi&on & Board qualifica&on criteria

§  Board commiKees & composi&on

§  Working procedures and other issues

§  Board performance assessment


Intro & The Board’s Role 1

SecBon


“Best in class” boards

Truly exemplary boards are well-‐balanced teams that harness the diverse experiences, skills and intellects of their directors to pursue the strategic objec&ves of the companies they serve.

The best-‐in-‐class board fosters a culture of rigorous, relentless examina&on…presses for

con&nuous improvement, seUng a tone for senior management that reverberates throughout the organiza&on

Source: Heidrick & Struggles

‹#› IFC Corporate Governance Program 5

Boards of Family Owned Banks Key is PuTng ‘Business First’ Sample Issues Family First Cos.

Family Employment

Open-Door Policy for all family members, regardless of qualifications

Compensation Equal pay for all, regardless of their experience or performance

Leadership Leadership based on Seniority in Family, regardless of merit or qualifications

Resource Allocation

Business Resources used for personal needs (e.g., loans, grants)

Decision-Making Unilateral & Concentrated with Senior Family Member (e.g., Chairman/CEO)

Business First Cos.

Qualification-Based Employment, as for any other new hire

Merit-Based pay, based on experience, performance

Leadership granted to the right person (family or non-family), based on merit and qualifications

Business resources only used for business purposes – separate family reserve fund utilized for family needs.

Mulit-lateral, based on Defined Governance Structure (e.g., Executive Committee)


What Should be Considered? Board EffecBveness

Board EffecBveness

Board Structure & ComposiBon

Board FuncBons & Behaviors

Board Roles & Director DuBes

ü  Board discussions are candid with full veTng of issues.

ü  Board challenges management effecBvely on issues.

ü  Board working procedures are effecBve (e.g., meeBng proceedings, frequency, formality)

ü  Board conducts rouBne self-‐evaluaBons of performance

ü  Board offers rouBne training to directors

ü  Proper commi\ees are in place (e.g., audit, remuneraBon, nominaBon)

ü  Board size is opBmal ü  Boards to include appropriate mix

of execuBve, non-‐execuBve and independent directors

ü  Board possesses the opBmal mix skills

ü  Board’s role is clearly defined vis-‐à-‐vis management

ü  Board understands its oversight duBes (esp. Risk & Control) and has appropriate processes in place

ü  Directors understand duBes and responsibiliBes to the company and shareholders


Board and Corporate Governance Summary of regulatory recommendaBons

»  Majority independent directors recommended

»  ‘Fit and proper’ test »  Diversity of directors »  Board and management

succession plan defined

Board composiBon

»  Disclosure of structure of total compensa&on

»  Equity compensa&on for interest alignment

»  ‘Risk-‐linked pay’ »  Long-‐term perspec&ve of

execu&ve remunera&on

ExecuBve and Board compensaBon

»  Annual evalua&on against CG principles

»  Disclosure of performance metrics to shareholders

»  Training the Non-‐Execu&ve Directors (NEDs)

Board performance assessment

»  Separate Chair/CEO Posi&on (or Lead Director)

»  Independent execu&ve sessions (without CEO)

»  Independent Board CommiKees

Board independence

»  Role of the NEDs – Ensure independence of the Board func&oning

»  Delega&on of authority – Board commiKees and CRO

»  Time commitment and minimum aKendance

Board roles and accountability


ü  Roles: No clear division between Management versus Board

ü  DuBes: Directors not clear on their responsibili&es; Duty of Care/Loyalty

ü  Structure: Lack of effec&ve func&oning commiKees; lack of clarity of board vs. commiKee roles

ü  ComposiBon: Oden composed of insiders, hand-‐picked by major SHs or other board members; oden need crucial skillsets in Risk, Finance, Banking.

ü  FuncBon: No annual plan to help ensure balance of topics; narrow focus on financials

ü  Other: Board terms ill-‐defined – open-‐ended; board evalua&ons not common; work procedures lack formality.

What Common Challenges Have we Observed? Board EffecBveness


EvoluBon of the role of the Board §  The level of involvement of the Board also determines the effec&veness of the Board

Ceremonial Board Liberated Board Progressive Board

Group dynamics

CEO is all powerful, directors are passive Limited par&cipa&on in bank’s strategy Limited accountability

Fragmented dialogue in the Boardroom – Absence of consensus, word of the CEO prevails Absence of self-‐evalua&on

U n d e r s t a n d s r o l e o f independent directors Guides & evaluates the CEO Self-‐evalua&on a core part of the Board func&oning

InformaBon architecture

Management &ghtly controls informa&on flow

Management makes relevant informa&on available to Board, but the informa&on is not focused, &mely and clear Lack of Board understanding of the bank’s business model

Focused, &mely, accurate and c l e a r i n f o rma&on provided to the Board Directors possess right skills for the job and understand the bank’s business very well

Focus on important areas

Compliance role only Usually the Board passively cer&fies the management decisions

Board desires to make a c o n t r i b u & o n , b u t i s overwhelmed by substan&ve issues. Driven by compliance and rou&ne opera&ng issues

Joint agenda set by Board/C EO . B o a r d f o c u s o n an&cipatory and strategic issues, as well as compliance related issues

Low Involvement High Involvement Adapted from: Ram Charan, “Boards that deliver”


Board is at Center of this EnBre Framework

General Assembly (Shareholders)

Board of Directors

Board Commi\ees

Audit Commi\ee Risk Commi\ee Exec Commi\ee

RemuneraBon Other Commi\ees

Bank Infrastructure

Internal Audit Risk Management

Business and Support Units

ReporBng ElecBon Feedback

Senior Management

Strategy Policies

Risk AppeBte Performance

Advice Concerns

External Audit

Capital Markets Authority

Central bank

RaBng Agencies

Investment Analysts

InternaBonal Financial Services Industry

Tran

sparen

cy

Profession

alism

Trust Respect

Press

Customers

InsBtuBonal Investors

External Stakeho

lders

Bank

Compliance


Role of the Board

Role of the Board

Policy formulaBon »  Crea&ng vision and values »  Developing corporate climate and culture » Monitoring the external environment

Strategy and Stewardship »  Strategic thinking – SeUng bank direc&on »  Director/Chairman nomina&on and evalua&on

»  CEO/Execu&ve selec&on and evalua&on »  Succession planning

Accountability »  Accountability to the bank, regulators, legislators and to stakeholders

»  Protec&on of shareholder rights »  Adequate transparency and disclosures -‐ Financial and non-‐financial informa&on

Oversight and Control »  Internal control and risk management »  Financial management and repor&ng »  Internal/External audit »  Compliance »  Oversight of management performance

Short term Long term Internal Focus

Externa

l Focus


Basel commi\ee on the role of Boards §  Basel guidelines on Corporate governance for Banks have detailed the importance of a Board

and the role of the Board at banks

Role of Boards

Qualified and skilled Board Members

Strategic ObjecBves and Corporate values

Clear lines of Responsibility

Appropriate Managerial Oversight

Internal & External Audit & Control

FuncBons

CompensaBon, Strategy & Control

Governed in a Transparent

Manner

Know your Structure


Draw a Clear Line Between Board and Mgmt. Duties

Management: §  Develops/recommends strategic

direction §  Develops/recommends business

plans and budgets §  Develops effective executive board

or mgmt. team §  Carries out corporate activities to

achieve corporate strategy and business plans

Board: §  Approves strategic direction

§  Approves business plans and

budgets §  Organizes work of the board

§  Monitors and guides managerial

performance

For example

Nose In – Hands Out!


Risk governance framework IllustraBve funcBonaries

Oversight

Escala&on

Coordina&on

Ownership

Assurance

Board

Risk and Audit CommiKees

Risk management division

Retail banking

Internal Audit

Treasury Corporate banking

Business units

Key responsibili&es Key func&onaries


Risk governance framework IllustraBve funcBons

»  Iden&fica&on, assessment, measurement, monitoring and repor&ng business risks

»  Facilita&on and co-‐ordina&on of risk management ac&vity across the bank

»  Reviewing and challenging risk informa&on »  Escala&ng key issues to the Board

»  Ul&mate accountability for the risk situa&on »  Ar&cula&on of risk appe&te, communica&on of risk

strategy »  Approval and review of risk policies

Board

Risk and Audit CommiKees

Risk management division

Retail banking

Internal Audit

Treasury Corporate banking

Business units

»  Independent assessment of the effec&veness of risk management func&on


3 lines of defense framework An approach for risk governance

»  “Owner” of the risk management process

»  Iden&fies, manages, mi&gates and reports on different risks

»  Provides interpreta&on of regula&ons/leading prac&ces and disseminates to BUs

»  Designs and deploys the overall RM framework

»  Monitors adherence to framework and strategy

»  Develops RM methodologies

»  Develops risk policies and procedures and monitors compliance

»  Performs aggregated risk repor&ng

Risk Management (Design, interpret, monitor &

report)

»  Provides independent tes&ng & verifica&on of efficacy of corporate standard and business line compliance

»  Validates the overall risk framework

»  Provides assurance that the risk management process is func&oning as designed and iden&fies improvement opportuni&es

Internal Audit (Test & verify)

1st line of defence 2nd line of defence 3rd line of defence

»  Sets the ‘Tone from the top’

»  Establishes risk appe&te and strategy

»  Approves the RM framework, methodologies, overall policies, and roles and responsibili&es

»  Leverages risk informa&on into decision making process. Accepts, transfers or mi&gates iden&fied risks.

»  Evaluates BU ac&vi&es on a risk adjusted basis

Governing Body/ Boards (Oversight) BU process and risk owners

ReporBng can only be as good as the underlying analysis 1st and 2nd line need robust risk profiles


Board of Directors

Roles and responsibiliBes

»  Develops business strategy »  Approves risk management strategy for the bank

»  Ar&culates risk appe&te »  Approves risk appe&te transla&on into tolerances & limits

»  Decides the risk governance structure »  Ensures development of risk management framework

»  Reviews and approves risk policies and procedures »  Communicates the risk policies across the Bank

»  Appoints an execu&ve responsible for risk management »  Delegates relevant authority to risk func&onaries

»  Reviews risk management effec&veness and compliance »  Reviews significant risk issues highlighted by commiKees

»  Reports to stakeholders on risk management »  Approves public disclosures

Strategy

Risk appeBte

Risk governance

Risk policies and procedures

DelegaBon

Performance review

Disclosures

A Board’s Specific role in risk management Summary of key involvement areas


Sample Authority Matrix No. Authori ty AGM

Board -‐ General

Audit Committee

Investment Committee CEO Management

A. General Corporate Authorities

A.1 Amendments to authorized share capita l xA.2

Deciding on major acquis i tions and divestures of other enti ties x

A.4 Publ ic offering of shares for BoP xA.5 Obtaining debt financing x (>$) x (<$)A.8 Share acquis i tion and equity participation in other enti ties inform xA.10 Approval of annual report and accounts x recommend

A.11 Decis ions on dividends and net profi t a l locations inform xA.13 Amendments to BoP's Articles of Association or By-‐Laws xA.15 Appointment of Board of Directors Members x recommend

A.16 Appointment of Chairman, Deputy Chairman xA.17 Approval of fees for Directors x recommend

A.20 Appointment and remuneration of External Auditors x recommend recommend

B. Operational Authorities

B.2 Approving corporate s trategy xB.4 Revis ion or rea l location of annual budget x (>$) x (<$) x (<$)B.5 Approval of unit speci fic plans and budgets x xB.12 Approval to participate of new development projects x (>$) x (<$) x (<$)B.21 Approving Investment Transactions x (>$) x (>$)B.23 Approving HR pol icies approvals and frameworks xB.26 Appointment of other non-‐Senior Management s taff x xB.27 Remuneration of CEO and Senior Executives x xB.33 Changes and investments to IT systems x (>$) x (<$) x (<$)


Sample Director Duties: Important Directors Understand & Commit to These

1.  The director shall fully understand the Board’s roles and responsibilities as identified in the Board Charter...

2.  The Director shall fully understand the corporate governance and ethics policies of the company…

3.  The Director shall exercise fully duty of loyalty to the company, by NOT:

- Conducting transactions in which they have a personal interest; Disclosing confidential information; Entering into contractual relations with a competing company; Using assets and facilities of the Company for personal benefit/gain; Using information and business opportunities received in their official capacity for personal gain

4.  The Director shall exercise full duty of care to the company, including:

- Acting honestly in the interests of the Company; Displaying maximum care and prudence that may be expected from a good manager in a similar situation and under similar circumstances; Ensuring that the Company acts in compliance with all applicable laws and regulations; Requesting sufficient information from management to enable him/her to make balanced decisions.

19

5.  The Director shall commit adequate time to the position…

6.  The Director shall ensure maximum contribution of his/her knowledge, skills, expertise, abilities, and professional resources...

7.  The Director shall fully participate in Board discussions by ensuring that he/she gives full consideration and depth of analysis to issues…

8.  The Director shall ensure objectivity of analysis promoting long-term interest of company …

9.  The Director shall ensure that he/she takes individual responsibility to stay educated and informed …

10.  The Director shall voice concern to the Chairman or other members as appropriate, if he/she feels that any of the terms discussed in these TORs are not being realized…


Understanding Board composiBon 2

SecBon


Ensure Good Mix of Skills

Type: Executive - Non-Executives - Indpedendents

Experience: Industry – Geographical - Market

Subject Expert: Financial - Risk - Legal - Other

Personal Attributes: Leaders – Tacticians

Diversity: Age – Gender - Cultural

View Points: Risk Adversity – Differing Perspectives

Other Value Added: Business Contacts – Reputation


Director requirements – Basel criteria

Principle 1: Board members should be and remain qualified, including through training, for their posi&ons. They should have a clear understanding of their role in corporate governance and be able to exercise sound and objecBve judgment about the affairs of the bank

BIS, Principles for Enhancing Corporate Governance, March 2010

Qualifica&on of Board members

»  Appropriate experience, competencies and personal quali&es, including professionalism and personal integrity – Both at individual and Board level

»  IndicaBve areas of experBse: Finance, Accoun&ng, Strategic planning, Communica&ons, Governance, Risk management, Legal, Bank regula&on, Audi&ng and Compliance

»  Basel recommends tailored iniBal training and con&nuous ongoing training on relevant issues for Board members

»  Responsibility of providing risk management related training/knowledge to the Board members (especially the NEDs rests with the CRO


Fit and proper test – Regulatory criteria Fit and proper criteria include: (i)  Skills and experience in finance commensurate with the intended ac&vi&es of the bank (ii)  No record of criminal ac&vi&es or adverse regulatory judgments that make a person unfit to uphold

important posi&ons in a bank

BIS, Core Principles Methodology, October 2006 Fit and proper test – FSA requirements »  Applicable to Board Chairman, Chairman of risk commiKee, Chairman of audit commiKee, Chairman of remunera&on commiKee, Senior independent director (SID) among others

Personal CharacterisBcs Competencies

»  Honesty »  Leadership »  Integrity and Reputa&on »  Accountability »  Maturity »  Work Ethic »  Interpersonal skills

»  Industry Experience »  Business Judgment »  Educa&on/Special Skills

–  Finance and Accoun&ng; –  Risk Management and Internal

Control –  Strategic Management –  Bank products and markets


ResponsibiliBes of Chairman and CEO

Board Leadership Business Leadership

Chief ExecuBve Officer: »  Develops/recommends strategic direc&on

»  Develops/recommends business plans and budgets

»  Develops effec&ve execu&ve board or management team

»  Carries out corporate ac&vi&es to achieve corporate strategy and business plans

The Chairman of the Board: »  With the board, approves strategic

direc&on

»  With the board, approves business plans and budgets

»  Organizes work of the board

»  Monitors and guides managerial performance

»  Decides on the agenda for Board mee&ngs in consulta&on with the CEO

For banks which seek to clearly separate the roles of the CEO and the Chair a summary of primary responsibili&es of the CEO and the Chairman have been listed below


Board commi\ees and composiBon 3

SecBon


Typical Board structure

Board of Directors

Chairman

Management Team

Chief ExecuBve Officer

Audit Commi\ee

NominaBon Commi\ee

Credit Commi\ee

Risk Commi\ee

RemuneraBon Commi\ee

ALCO

Chief Internal Auditor External Audit Senior Partner

Compliance Officer

Chief Risk Officer

Chief Financial Officer Chief Credit Officer

Full voBng members

Not a member, but a\ending

Structure/governing body


Board commi\ees at a bank Board commi\ees

The Combined Code requires firms to have the following Board commiKees

Audit Commi\ee NominaBon Commi\ee RemuneraBon Commi\ee

AddiBonally, Banks usually have the following commi\ees

Board Risk Commi\ee Compliance Commi\ee

Board Credit Commi\ee Market Risk Commi\ee Strategy Commi\ee

Range of combina&ons used along with Audit commiKee (see next slide)

Other possible Board CommiKees

CSR Commi\ee Finance/Capital Management Commi\ee Ethics Commi\ee

Human Resources Commi\ee Treasury Commi\ee IT Steering Commi\ee


Risk-‐related commi\ees at a bank Range of combinaBons

Nomina&on and Governance commiKee

Audit commiKee Risk commiKee Compliance commiKee

Audit, Risk and Compliance commiKee

Risk and Compliance commiKee

Audit and Compliance commiKee

Audit and Risk commi\ee

Audit commiKee

Risk commiKee

Compliance

1

2

3

4

5

Not a prudent governance prac&ce to combine Audit and Risk func&ons in a Board level commiKee

Remunera&on commiKee

Alterna&

vely, som

e banks c

ombine

the

Nom

ina&

on and

Rem

unera&

on com

miKees


Board commi\ees at a bank Survey of European Banks

Survey of Top 25 European Banks*

Source: Nestor Advisors, Board profile, structure and prac&ce in large European Banks, 2008


Establishing commi\ees Key quesBons to be answered

When should a bank establish a Board level commi\ee?

When the magnitude, complexity and importance of issues exceed the bandwidth of the Board

Standing commi\ee or ad hoc commi\ee?

For major, long-‐term ac&vi&es establish standing commiKees For rela&vely short-‐term ac&vi&es, establish ad hoc commiKees Usually, large banks have 4-‐6 Board level commiKees

Commi\ee composiBon

At least 3 members on each commiKee (op&mal size varies) No membership of more than 2 commiKees. Independent members for Audit, Compliance, Risk, Nomina&on and Remunera&on commiKees

Commi\ee meeBng frequency Monthly, Quarterly mee&ngs

Commi\ee Quorum Vo&ng rights, quorum, proxy issues to be iden&fied


Thank You

Effective Boards in Banks

Economy & Finance

Transcript of Effective Boards in Banks