Monday, November 9, 2009

DFSA to Tighten Corporate Governance Standards

Abu Dhabi's The National reports on DFSA plans to tighten corporate governance.

Key elements of the proposed reforms are:
  1. Mandatory separation of role of Chairman from CEO
  2. Abolition of share payment for non executive directors
  3. Mandatory number of non-executive directors on audit, remuneration, and nomination committees
The full article is here.

Some comments:
  1. I hope the reference to non executive directors is really to independent directors.   A non-executive director could be a major shareholder or the representative of a major shareholder.  An independent director as that term is understood elsewhere, e.g., the UK or Bahrain is someone with sufficient expertise and a degree of independence both from management and the major shareholders so that he or she will truly look out for the interests of all stakeholders of the firm.
  2. The comment about the various board committees seems to imply that current regulations allow executive directors to sit on those committees.  An executive director is one involved in the management of the firm.  It is hard to think of a situation where any executive directors should be a member of the audit committee of the board of directors. The audit committee is supposed to be checking very carefully that the management of the firm is applying  appropriate accounting principles and standards as the basis for its financials on a consistent basis and that any estimates involved in the preparation of the financials are well founded and documented.  That the controls in the company are adequate to prevent honest errors or fraud.  And that both the internal audit function and external auditors are independent of management, have assigned competent staff to do the audit and are discharging those responsibilities fully and professionally.  Similarly, it would not be a good idea to have an executive director on the remuneration committee where he might set the salaries of other directors and thus give them an incentive to support his actions as a member of management.  Or on the nomination committee where he might pick a friend to be a director.  There is a fundamental conflict of interest for an executive director to sit on any of these committees.
  3. While this is a good step, it is very important to understand that regulations are not a panacea. Like the traffic signal at the corner or the posted speed limit, corporate governance reuglations are only effective if people obey them.  So they are a necessary first step.   But, if they are ignored, no matter how elaborate and well constructed they are, they will not work.   Enron Corporation had an extensive code of ethics  - some 65 pages.  That document proved ineffective.  Not for want of not being there.  Rather because the people who were supposed to implement it, didn't.  More on Enron here.  Both Enron Corporation and Hollinger  International had an impressive list of independent directors.  And elaborate procedures to vet related party transactions. Reading the Breeden Report on Hollinger will illustrate better than I can the critical importance of people in making whatever process a firm has work.  Sometimes group dynamics - the desire to avoid confrontation, the fear of appearing ill-informed - cause even the most honest to make bad decisions.  Corporate governance like religion is in the heart not on a piece of paper.  Paper provides a guide, but it's no substitute for the heart.
  4. People from the region should not be overawed by experts from the West preaching their particular mathhab of corporate governance.  Enron, BCCI, Madoff, LTCM and many more all occurred in these self-proclaimed exemplars of world class standards and regulation.  Though I suppose the counterargument is that the doctrine is sound but was not followed, or, perhaps more precisely not enforced by the regulators.
  5. Finally, if any banker out there thinks that corporate governance code or set of regulations is going to protect him from someone determined to cheat him, I'd refer him or her to my traffic light example above.  Traffic laws have not proven to be a "grail" holy or otherwise in preventing violations or deaths.

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