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Livingstone Workshop March 2012 Final

Livingstone Workshop March 2012 Final



Presentation at Insurance and Pension Authority/Commonwealth Secretariat Seminar on Corporate Governance of Insurance Companies March 2012 Livingstone Zambia

Presentation at Insurance and Pension Authority/Commonwealth Secretariat Seminar on Corporate Governance of Insurance Companies March 2012 Livingstone Zambia



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  • Confirmation bias -a tendency of people to favor information that confirms their beliefs or hypotheses People display this bias when they gather or remember information selectively, or when they interpret it in a biased way. The effect is stronger for emotionally charged issues and for deeply entrenched beliefs Framing - The first step in making a decision is to frame the question, but it is also where you can first go wrong. The way a problem is framed can profoundly influence the subsequent choices we make. People tend to accept the frame they are given; they seldom stop to reframe it in their own words. Pattern recognition bias - the human tendency to seek patterns in random nature in general, as with gambling, paranormal phenomena, religion, and even attempts at scientific observation Saliency bias - the tendency humans have to worry about dramatic things (explosions, disasters, big fierce animals, etc.), rather than to objectively evaluate the odds. Stability bias - a tendency to assume that the accessibility of one’s memories will remain relatively stable over time rather than benefiting from future learning or suffering from future forgetting Sunflower management - a tendency for the junior employee or board member to ignore his own information and instead attempt to confirm the superior’s prior belief
  • Experiment by Tversky and Kahneman (1981) demonstrating systematic reversals of preference when the same problem is presented in different ways, 72 percent of participants preferred program A (the remainder, 28 percent, opting for program B). The second group of participants was presented with the choice between C and D: In a group of 600 people, In this decision frame, 78 percent preferred program D, with the remaining 22 percent opting for program C. Programs A and C are identical, as are programs B and D. The change in the decision frame between the two groups of participants produced a preference reversal: when the programs were presented in terms of lives saved, the participants preferred the secure program, A (= C). When the programs were presented in terms of expected deaths, participants chose the gamble D (= B).
  • So where are we on that - how are we thinking? People will see the dancer spinning in one direction. Which way are you seeing it? if she is going clockwise point to the window, if she's going anti clockwise point to the wall. So we're seeing her turn in different ways. What it is a test of is that if your left brain is dominating then you will see her going anticlockwise, your right brain takes her clockwise. Ideally you want both sides working in balance. You can if you concentrate make the switch - if you think about a maths problem can you make her go anticlockwise. If you think about something creative for you can you make her go clockwise. Left brain thinking is associated with logic etc; right brain with feeling etc - the left is dominant in corporate worlds – good strategic thought requires both left and right brain thinking. The formula that brought down Wall Street - David X. Li, the quant behind the formula that enabled the creation of such simple risk models. "For five years, Li's formula, known as a Gaussian copula function, looked like an unambiguously positive breakthrough, a piece of financial technology that allowed hugely complex risks to be modelled with more ease and accuracy than ever before. With his brilliant spark of mathematical legerdemain, Li made it possible for traders to sell vast quantities of new securities, expanding financial markets to unimaginable levels. His method was adopted by everybody from bond investors and Wall Street banks to ratings agencies and regulators. ... [T]he real danger was created not because any given trader adopted it but because every trader did. In financial markets, everybody doing the same thing is the classic recipe for a bubble and inevitable bust."
  • By assessing two elements consequence and probability as high, medium or low is quite adequate for our needs and can be presented as a 3 x 3 matrix.
  • Here we can see the FSC Risk Matrix.
  • In the grand scheme of things operating in the FSC/Audit Division it won’t have a major impact.
  • This should be an ongoing process so that we are always reducing our exposure to the Risk.
  • Risk management should be a continuous and developing process which runs throughout the organisation’s strategy and the implementation of that strategy. It must be integrated into the culture of the organisation with an effective policy and a programme led by the most senior management. Changes in the organisation and the environment in which it operates must be identified and appropriate modifications made to systems.

Livingstone Workshop March 2012 Final Livingstone Workshop March 2012 Final Presentation Transcript

  • Commonwealth Workshop on Insurance Regulators Board Responsibility and Oversight Chrismar Hotel, Livingstone 14/15 March 2012 Principles for Sound Corporate Governance Marcus Killick CEO Gibraltar Financial Services Commission1
  • Beginnings  The Good News  The Less Good News  A more detailed version  The is a participative of the slides will be event. You will have available on the FSC tasks to do! website (www.fsc.gi)2
  • Objective of the sessions The four sessions are designed to provide an overview of the importance and implementation of effective corporate governance within a regulated insurance company. They will cover: 4. Principles for Sound Corporate Governance 5. The Role and Function of Boards 6. Board Training, Conflict Resolution and Assessing Board Performance 7. Risk Management3
  • Objective To allow the boards of insurance companies to consider what they need to do to meet appropriate good corporate governance processes within their own structure4
  • Content: Day 1 Session 2  The development of principle based modern corporate governance  International standard requirements for the governance of boards (examples Basel, and IAIS)  The problems with regulatory assessment of good corporate governance  Corporate Social Responsibility  Self Assessment Exercise – “Shareholders and Stakeholders”5
  • Why the regulatory focus on corporate governance?  Virtually every failure in the current crisis has stemmed from poor corporate governance/Board oversight. e.g. Lehman Brothers Holdings Inc Northern Rock RBS MF Global  Poor oversight can lead to poor compliance and reputational risk for the jurisdiction6
  • Why the regulatory focus on corporate governance? “ But ultimate responsibility for poor decisions must lie with the firm, and the pattern of poor decisions which RBS made suggests there are likely to have been underlying deficiencies in RBS’s management, governance and culture” “The failure of the Royal Bank of Scotland” (FSA Board Report)7
  • The development of principle based modern corporate governance8
  • Principle based V Rule based governance A rules-based approach makes it easy for a regulatory body to police corporate governance and penalise those who do not comply but, it is seen as presenting a rigid approach to governance that emphasises box-ticking and penalties for non-compliance. An example of this is Sarbane Oxley in the USA.9
  • Principle based V Rule based governance A principles-based approach is seen as providing greater flexibility. Principles can be modified and improved over time and are less cumbersome.  principles are easier to create  principles are easier for users to understand  flexibility applies to all companies using the principles regardless of the size or nature of the business  companies are better placed to respond to market conditions enabling them to improve their competitiveness and to be more enterprising  it encourages greater levels of co-operation between companies and regulators. The main drawback of a principles-based approach is that it does not provide a clear set of dos and donts for companies to follow. As a result, unscrupulous boards may10 interpret the principles in ways that distort the common- sense meanings underpinning the principles.
  • The UK model : principle based with statutory backing Principles The Hampel Committee formally established a principles- driven approach to corporate governance. The Hampel Report stated that: “Good corporate governance is not just a matter of prescribing particular corporate structures and complying with a number of hard and fast rules. There is a need for broad principles. All concerned should then apply these flexibly and with common sense to the varying circumstances of individual companies.” Comply or explain Since the Combined Code was first established in 1992, a comply-or-explain approach has been allowed. A company is required to either comply with the principles and provisions of the Code or explain and justify why not.11
  • The UK model : principle based with statutory backing Statutory – Companies Act 2006  Codifies the key directors duties with a view to reflecting in statute the position under the common law and equitable principles but with some significant changes.  Key elements:  Duty is owed to the company and only the company is able to enforce them (members can, in certain circumstance, bring action on the companies behalf);  A director has the following duties:  Act within powers;  Promote the success of the company;  Exercise independent judgement;  Exercise reasonable care, skill and diligence;  Avoid unauthorised conflicts of interest;  Not to accept benefits from third parties;  Declare interests in proposed transactions or arrangements12
  • The UK model : principle based with statutory backing13
  • The development of principles based modern corporate governance (1) Modern corporate governance has developed over the last twenty five years.  In 1992 the Report of the Committee on the Financial Aspects of Corporate Governance (the Cadbury Report) produced a number of recommendations that were to substantially alter corporate governance practice in this country. These included: the clear division of the role of the chairman and chief executive in a company, selection processes for non-executive directors and a balanced composition of the board of directors.  In the early 1990s there was considerable concern about directors pay and share options. This led to the Greenbury Report in 1995 (produced by a committee chaired by Sir Richard Greenbury). The recommendations from this report were for the establishment of a remuneration committee made up of non-executive directors to set the remuneration packages for directors detailed disclosure of directors remuneration in company annual reports.  In 1996, the Hampel Committee was set up to review the findings of the previous reports. The findings of the committee, chaired by Sir Stephen Hampel, led to a new line of thought about how corporate governance could be incorporated effectively into thinking and practice. Hampel emphasised that good corporate governance procedures should not focus on a tick-box approach. Such an approach would be over-prescriptive. Hampel criticised box ticking in that it would then be easy for lazy or unscrupulous directors to arrange matters, so that the letter of every governance rule was complied with but not the substance. His principles-based approach is now an essential part of UK corporate governance,  In 1998, the Turnbull Committee was set up by the Institute of Chartered Accountants resulting in the Turnbull Report. The guidance in the report provided a framework for managers to help with implementing internal control structures and financial reporting procedures required by the Code.14
  • The development of principles based modern corporate governance (2)  In 2002, the government set up the Higgs Committee to review the role and effectiveness of non-executive directors. The committee made recommendations about the proportion of non- executive directors that should be on boards and committees and the expansion of the role of the senior independent director.  In 2003 (updated 2010), the UK government commissioned an additional report into the role of audit committees in corporate governance. This resulted in the Smith Guidance. The Smith Guidance examined situations where external auditors provided other (non-audit) services to companies to determine whether this compromised the independence of the auditor.  In 2009, the Financial Reporting Council (FRC) undertook a review of the Combined Code. The FRC is the UKs independent regulator responsible for promoting confidence in corporate reporting and governance. In 2010, the FRC published the latest revision to the Combined Code - The UK Corporate Governance Code.  In response to the financial crisis of 2008-9, the government set up the Walker Review (2009) to examine corporate finance in the banking sector. The review specifically looked at key issues associated with executive remuneration and the role of the board. Walker emphasises the importance of risk management.  In July 2010, the UK Stewardship Code was introduced. It superseded Section E of the UK Corporate Governance Code that dealt with relationships with shareholders and that had stressed that communication between a company and its shareholders was not just a case of communication to shareholders but dialogue with shareholders. In issuing the Stewardship Code, the FRC emphasised the importance of engagement with stakeholders in creating effective governance practices. The aim of the Stewardship Code is to encourage institutional investors, and the companies in which they invest, to engage in high-quality dialogue to promote good governance.15
  • The development of principles based modern corporate governance (3)  In March 2011, The FRC issued a document entitled Guidance on board effectiveness. This guidance was designed to help companies apply the UK Corporate Governance Code and it shows considerable progression in thinking over the last 20 years about the nature and behaviour of the board and its members. Review. The guidance relates specifically to sections A and B of the UK Corporate Governance Code on leadership and effectiveness of the board. The FRC’s guidance sets out that ‘an effective board develops and promotes its collective vision of the company’s purpose, its culture, its values and the behaviours it wishes to promote in conducting its business’. The emphasis is therefore very much on the board to develop a collective consciousness and shared sense of responsibility. The guidance also sees the effective board as one in which respectful challenge is an important behavioural characteristic and one in which diversity in the board’s composition is essential. “An effective board should not necessarily be a comfortable place. Challenge, as well as teamwork, is an essential feature. Diversity in board composition is an important driver of a board’s effectiveness, creating a breadth of perspective among directors, and breaking down a tendency to ‘group think’.” (FRC, Guidance on board effectiveness, 2011: 2)16
  • Opposition to modern corporate governance requirements Many of the reports were met with scepticism and hostility For example, following the publication of Higgs in 2003 the CBI surveyed 61 FTSE 100 chairmen and found that:  82% of them felt the new role of senior independent director suggested by Higgs would undermine the role of chairman  87% thought that non-executive directors chairing the nomination committee would not strengthen independence  56% thought that non-executive directors meeting together in the absence of the chairman would not be useful for corporate governance  50% felt that disallowing the chief executive officer from also being the chairman would not improve corporate efficiency. Nine years later all the above are in place and fully accepted.17
  • Other legislation affecting directors in the UK  Competition laws  Health and safety  Corporate manslaughter  Bribery18
  • International standard requirements for the governance of boards (examples Basle, and IAIS)19
  • International standard requirements 1) Basle “Core Principles for Effective banking Supervision” (Principle 14) – Corporate governance: “The supervisor determines that banks and banking groups have robust corporate governance policies and processes covering, for example, strategic direction, group and organisational structure, control environment, responsibilities of the banks’ Boards and senior management, and compensation. These policies and processes are commensurate with the risk profile and systemic importance of the bank.”20
  • Basle Corporate Governance –Essential Criteria (1) Principle 14: Corporate governance is supported by a number of essential criteria that are necessary for a jurisdiction to be in full compliance with the principle Essential criteria 4. Laws, regulations or the supervisor establish the responsibilities of the bank’s Board and senior management with respect to corporate governance to ensure there is effective control over the bank’s entire business. The supervisor provides guidance to banks and banking groups on expectations for sound corporate governance. 2. The supervisor regularly assesses a bank’s corporate governance policies and practices, and their implementation, and determines that the bank has robust corporate governance policies and processes commensurate with its risk profile and systemic importance. The supervisor requires banks and banking groups to correct deficiencies in a timely manner. 3. The supervisor determines that governance structures and processes for nominating and appointing a Board member are appropriate for the bank and across the banking group. Board membership includes experienced non-executive members, where appropriate. Commensurate with the risk profile and systemic importance, Board structures include audit, risk oversight and remuneration committees with experienced non-executive members. 4. Board members are suitably qualified, effective and exercise their “duty of care” and “duty of loyalty”. 5. The supervisor determines that the bank’s Board approves and oversees implementation of the bank’s strategic direction, risk appetite and strategy, and related policies, establishes and communicates corporate culture and values (eg through a code of conduct), and establishes conflicts of interest policies and a strong control environment.21
  • Basle Corporate Governance –Essential Criteria (2) 6. The supervisor determines that the bank’s Board, except where required otherwise by laws or regulations, has established fit and proper standards in selecting senior management, plans for succession, and actively and critically oversees senior management’s execution of Board strategies, including monitoring senior management’s performance against standards established for them. 7. The supervisor determines that the bank’s Board actively oversees the design and operation of the bank’s and banking group’s compensation system, and that it has appropriate incentives, which are aligned with prudent risk taking. The compensation system, and related performance standards, are consistent with long term objectives and financial soundness of the bank and is rectified if there are deficiencies. 8. The supervisor determines that the bank’s Board and senior management know and understand the bank’s and banking group’s operational structure and its risks, including those arising from the use of structures that impede transparency (eg special-purpose or related structures). The supervisor determines that risks are effectively managed and mitigated, where appropriate. 9. The supervisor has the power to require changes in the composition of the bank’s Board if it believes that any individuals are not fulfilling their duties related to the satisfaction of these criteria. Additional criterion 1. Laws, regulations or the supervisor require banks to notify the supervisor as soon as they become aware of any material and bona fide information which may negatively affect the fitness and propriety of a bank’s Board member or a member of the senior management.22
  • What is duty of care and duty of loyalty? The OECD defines “duty of care” as: “ The duty of a board member to act on an informed and prudent basis in decisions with respect to the company. Often interpreted as requiring the board member to approach the affairs of the company in the same way that a ’prudent man’ would approach their own affairs. Liability under the duty of care is frequently mitigated by the business judgement rule.” The OECD defines “duty of loyalty” as “ The duty of the board member to act in the interest of the company and shareholders. The duty of loyalty should prevent individual board members from acting in their own interest, or the interest of another individual or group, at the expense of the company and all shareholders.” OECD glossary of corporate governance-related terms in “Experiences from the Regional Corporate Governance Roundtables”, 2003, www.oecd.org/dataoecd/19/26/23742340.pdf.)23
  • International standard requirements 2) IAIS “Insurance Core Principles” (Principle 7) – Corporate Governance “The supervisor requires insurers to establish and implement a corporate governance framework which provides for sound and prudent management and oversight of the insurer’s business and adequately recognises and protects the interests of policyholders.”24
  • Principle 7 Criteria (1)  The supervisor requires the insurer’s Board to set and oversee the implementation of the insurer’s business objectives and strategies for achieving those objectives, including its risk strategy and risk appetite, in line with the insurer’s long term interests and viability.  The supervisor requires the insurer’s Board to: ensure that the roles and responsibilities allocated to the Board, Senior Management and Key Persons in Control Functions are clearly defined so as to promote an appropriate separation of the oversight function from the management responsibilities; and provide adequate oversight of the Senior Management.25
  •  The supervisor requires the insurer’s Board to have, on an on-going basis: an appropriate number and mix of individuals to ensure that there is an overall adequate level of knowledge, skills and expertise at the Board level commensurate with the governance structure and the nature, scale and complexity of the insurer’s business; appropriate internal governance practices and procedures to support the work of the Board in a manner that promotes the efficient, objective and independent judgment and decision making by the Board; and adequate powers and resources to be able to discharge its duties fully and effectively.  The supervisor requires the insurer’s Board to provide oversight in respect of the design and implementation of sound risk management and internal control systems and functions.  The supervisor requires the insurer’s Board to: adopt and oversee the effective implementation of a remuneration policy, which does not induce excessive or inappropriate risk taking, is in line with the identified risk appetite and long term interests of the insurer, and has proper regard to the interests of its stakeholders; and ensure that such a remuneration policy, at a minimum, covers those individuals who are members of the Board, Senior Management, Key Persons in Control Functions and other employees whose26 actions may have a material impact on the risk exposure of the insurer (major risk–taking staff).
  • Principle 7 Criteria (2)  The supervisor requires the insurer’s Board to ensure there is a reliable financial reporting process for both public and supervisory purposes which is supported by clearly defined roles and responsibilities of the Board, Senior Management and the external auditor.  The supervisor requires the insurer’s Board to have systems and controls to ensure the promotion of appropriate, timely and effective communications with the supervisor and relevant stakeholders on the governance of the insurer.  The supervisor requires the insurer’s Board to have appropriate policies and procedures to ensure that Senior Management:  carries out the day-to-day operations of the insurer effectively and in accordance with the insurer’s strategies, policies and procedures;  promotes a culture of sound risk management, compliance and fair treatment of customers;  provides the Board adequate and timely information to enable the Board to carry out its duties and functions including the monitoring and review of the performance and risk exposures of the insurer, and the performance of Senior Management; and  provides to the relevant stakeholders and the supervisor the information required to satisfy the legal and other obligations applicable to the insurer or Senior Management.27
  • Principle 7 Criteria (3)  The supervisor has the power to require the insurer to demonstrate the adequacy and effectiveness of its corporate governance framework.  The supervisor requires the individual members of the Board to:  act in good faith, honestly and reasonably;  exercise due care and diligence, act in the best interests of the insurer and policyholders, putting those interests of the insurer and policyholders ahead of his/her own interests;  exercise independent judgment and objectivity in his/her decision making, taking due account of the interests of the insurer and policyholders; and not use his/her position to gain undue personal advantage or cause any detriment to the insurer.28
  • The problems with regulatory assessment of good corporate governance29
  • The problems with regulatory assessment of good corporate governance It is subjective involving both quantitative and qualitative information Board policies and procedures can be assessed; Board papers and board minutes can be reviewed; Frequency of board meetings can be checked;30
  • The problems with regulatory assessment of good corporate governance BUT  Board behaviour cannot be objectively measured;  Inappropriate shareholder influence cannot be seen (The Board leads the company NOT the shareholders) THEREFORE  The role of the NED is vital to ensure the board operates effectively  Accordingly the regulator encourages the appointment of NEDs and especially independent NEDs31
  • Corporate Social Responsibility32
  • Stewardship  Stewardship deals with relationships with shareholders and that communication between a company and its shareholders was not just a case of communication to shareholders but dialogue with shareholders.  The aim is to encourage institutional investors, and the companies in which they invest, to engage in high-quality dialogue to promote good governance. In the UK The Stewardship Code* was introduced in the wake of criticism that institutional investors were taking a short-term view of investment and were therefore failing to take appropriate levels of responsibility for companies that they invested in.  The Stewardship Code sets out seven principles that apply to institutional investors. They should:  publicly disclose their policy on how they will discharge their stewardship responsibilities  have a robust policy on managing conflicts of interest in relation to stewardship and this policy should be publicly disclosed  monitor their investee companies  establish clear guidelines on when and how they will increase their activities as a method of protecting and enhancing shareholder value  be willing to act collectively with other investors where appropriate  have a clear policy on voting and disclosure of voting activity  report periodically on their stewardship and voting activities. (Financial Reporting Council, The Stewardship Code, 2010)33
  • Corporate Social Responsibility (CSR) In “The Human Face of the New Capitalism” (2009), Howard* identified four different levels of CSR Level 1 Economic This involves maximising returns for the company. However managers are responsible for operating within the rules of the game, i.e. competing fairly within the marketplace, forbidding monopolies and predatory market practices Level 2: Legal Here, managers show a commitment to comply with the relevant laws. They comply with the letter of the law even when it is costlier to do so. An example is not hiring illegal labour at substandard wages .34
  • Corporate Social Responsibility (CSR) Level 3: Ethical Here, managers and directors show concern for what is right or good for stakeholders. Managers dont just comply with the letter of the law, but also with the spirit of the law. In addition, they take responsible actions where there are gaps in legal provision (eg by introducing anti pollution systems well above that legally required. Level 4: Discretionary Managers and directors voluntarily take actions to improve society. Such actions may not be related directly to the companys normal operations. Directors and managers recognise that they control resources that can be used for the wider benefit of society. An example of this is the creation of the Ronald McDonald Houses in 25 countries. These provide free accommodation for parents of sick children who are in hospital, so that they can be near to their child. It has helped more than 10 million people worldwide. Many believe that compliance with levels 1 and 2 should be taken as given as a basic requisite of social responsibility and is expected of any firm by the public *”Does corporate social responsibility affect consumer behavior”.35
  • Self Assessment Exercise – “Shareholders and Stakeholders”36
  • Self Assessment Exercise 1 – “Shareholders and Stakeholders” Each board has a range of groups to whom they are accountable or who are, in some way, stakeholders who have an interest in the good running of the firm. Exercise:  Who are your stakeholders?  What interest do they have?  Do some have priority, if so, which?  Are those interests competing/conflicting?  If so, how do you manage that conflict?  To what extent do you engage in corporate social37 responsibility?
  • Commonwealth Workshop on Insurance Regulators Board Responsibility and Oversight Livingstone March 2012 The Role and Function of Boards Marcus Killick38
  • Content Day 2 Session 1  Role of the Board  Board Committees  Role of the Chairman  Chairman and Chief Executive  Executive and Non Executive Members  Behaviour on the Board  Self Assessment Exercise (behaviours and attributes of the Chairman)39
  • Role of the Board40
  • Role of the Board :  Leads and controls the company;  Increases shareholder value;  Safeguards the interests of the stakeholders;  Makes policy;  Approves the corporate objectives;  Sets the strategy to achieve the corporate objectives;41
  • Role of the Board  Critically monitors and assesses the achievement of those objectives and amends the strategy as appropriate;  Decides on the allocation of resources among competing interests;  Ensures that the organisation conducts its affairs in an ethical, legal and responsible manner;  Establishes formal and transparent arrangements for presenting the companys annual financial report with a balanced and understandable assessment of its position and prospects;  Reviews the effectiveness of the companys system of internal control; and  Has a role to monitor the standing of the organisation in the business and the wider community. In essence these boil down to Strategy, Policy making, Decision taking and Oversight42
  • Strategy Strategy is the direction or focus an organisation chooses to create the optimal balance between its internal strengths and weaknesses with the external threats and opportunities presented by the environment in order to achieve the organisation’s objectives. It is an ongoing process43
  • What isn’t strategy http://www.youtube.com/watch?v=R4q6uixp2UY44
  • Policy making Policies define focus and differentiate responsibilities among the Board and the Executive. “Well-written policies lead to more efficient board functioning. Instead of having the same matter or very similar matters on the agenda repeatedly, the board can develop a policy that covers the issue and leave implementation of the policy to management.”45
  • Decision making Decision making involves making choices about the organisations vision, mission, and strategies. Boards make decisions about issues that are strategic and significant, such as whether to enter an agreement with another organisation. As decision makers, boards can also delegate non governance types of decisions to others.46
  • Oversight Oversight is an important function, but boards must remember that the organisation is theirs to oversee, not to manage. Some boards cross the line and try to involve themselves in management. The NED’s role is to see that the company is properly run, not to run it themselves. Nevertheless, in the oversight role, the board is legally responsible for everything that happens.47
  • Board Committees48
  • Board committees Play an important role in the governance process. It is useful to periodically review the structure and functions of the committees and to ensure that everyone knows what to expect from them. Committees generally include:  Audit;  Remuneration;  Nomination;  Risk.49
  • Board Committee roles Audit committee  Review accounting principles, policies and practices  Ensure all financial statements follow accounting practice and give an accurate representation of the companies situation  Scope, examine and follow up audits (especially on controls)  Develop and monitor internal audit  Consider the appointment and remuneration of auditors  Should consist of non executive directors50
  • Board Committee roles Remuneration committee  Approve service contracts for executive directors (and senior management)  Recommend to the board the remuneration for executive directors and senior management  Review and recommend employee share schemes  Review pensions  Approve arrangements for retirement or termination  Chairman of the board (if independent) may be a member but not chair51
  • Board Committee roles Nominations committee  Formal and transparent process for the appointment of new directors  Recommend appointments to the board  Should consist of a majority of non executive directors52
  • Frequency of meetings All directors should be able to allocate sufficient time to the company to discharge their responsibilities effectively.  It is not always desirable to set fixed time commitments for board duties as the company believes that the time required by directors may change depending on business events  In 2010, PricewaterhouseCoopers Non-executive director survey showed that during the year the typical time commitment for non-executive directors had risen by an average of four days per year (because of the uncertainty in the economy) and that it is estimated that non-executive directors in FTSE 100 companies spend 24 days per year performing their role.53
  • Frequency of meetings  Walker recommended that for the boards of major banks a letter of appointment should stipulate a minimum time commitment of 30-36 days per year.  The Board is also a social grouping therefore to build trust and confidence amongst its members consideration should be given to the use of board dinners etc and time allocated for these.54
  • Role of the Chairman55
  • Role of the Chairman  To lead the board in the determination of its strategy  Ensure the board has adequate information to perform its role  Ensure effective relationships are maintained with all major stakeholders  Runs the board to allow the Chief executive to run the company  Ensures right and common values56
  • Chairman and Chief Executive57
  • Chairman and Chief Executive  Should be seperate  The chairman runs the board, the chief executive runs the company  The roles of the chairman and chief executive should be separated  The division of responsibilities between the chairman and chief executive should be set out in writing and agree by the board58
  • Executive and Non Executive Members59
  • Executive and Non Executive Directors There is no distinction between the position of executive and non executive directors. If a breach of duty is to be attributed to a board on the basis that all of its members were present at a meeting which had approved a wrongful act, then the liability of each director is joint and several and no allowance is made for the fact that some are part timers and may have acquiesced in a situation which they did not fully understand Re Lands Allotment Co. (1894) 1 Ch 616 63 LJ Ch 291 CA.60
  • The role of the NED “Essentially, the non-executive directors role is to provide a creative contribution to the board by providing objective criticism. Non-executive directors are expected to focus on board matters and not stray into executive direction thus providing an independent view of the company that is removed from day-to-day running. Non executive directors, are appointed to bring the following to the board:- Independence; Impartiality; Wide experience; Special knowledge; Personal qualities.” Institute of Directors61
  • The effective NED “Non-executive directors should: Scrutinise the performance of management in meeting agreed goals and objectives and monitor the reporting of performance. Satisfy themselves on the integrity of financial information and that financial controls and systems of risk management are robust and defensible. Be responsible for determining appropriate levels of remuneration of executive directors and have a prime role in appointing and, where necessary, removing executive directors, and in succession planning.” The UK Corporate Governance Code62
  • Personal Attributes of the Effective Non- Executive Director The NED role is complex and demanding and requires skills, experience, integrity, and particular behaviours and personal attributes  Integrity and high ethical standards – these are a prerequisite for all directors  Sound judgement and an inquiring mind. NED’s should: question intelligently; debate constructively; challenge rigorously; and decide dispassionately63
  • Independent Non-Executive Director The following characteristics are indicative of an independent NED:  The individual is not an employee of the company or another company in the same group;  The individual is not a professional advisor to the company;  Individual is not a supplier or customer of the company;  The individual does not have a family connection with someone in the business;  The individual’s directorship is for a fixed term and accordingly he is less likely to be motivated by self- preservation when taking decisions;  The individual does not depend so heavily on his remuneration from the company as to make resignation difficult.64
  • Dealing with NEDs’  NEDs need to be well informed about the company, and the need to insist upon a comprehensive, formal and tailored induction to the company on appointment  NEDs should be adequately compensated for the time that they spent on the company’s business. Levels of remuneration should be sufficient to attract, retain and motivate directors of the quality required to run the company successfully.  The term of an NED should generally be fixed, albeit subject to renewal for a further term. It is important to recognise that the nonexecutive directors effectiveness is likely to improve with cumulative experience and knowledge of the company.65
  • Discussion 1 Your firm and Corporate Governance  How does your firm apply corporate governance?  Are there non executive directors and, if so, are they independent?66
  • Board Behaviour67
  • Boardroom Behaviour Historically given inadequate consideration in corporate governance now rising in profile. For example, the Walker report states: “Boards and board behaviour cannot be regulated or managed through organisational structures and controls alone; rather behaviour is developed over time as a result of responding to existing and anticipated situations”. (Annex 4 “Psychological behavioural elements in board performance”)68
  • Boardroom Behaviour “Appropriate behaviours are an essential component of best practice corporate governance; and that the absence of guidance on appropriate boardroom behaviours represents a structural weakness in the current system.” The Institute of Chartered Secretaries and Administrators (ICSA)69
  • Boardroom behaviour  Appropriate board behaviour can be defined as functioning in accord with the boards roles and responsibilities.  The first key characteristic is respect—for the organization, the management the employees, and other members of the board. Respect is basic, but it doesnt always exist.  Respect leads to two additional behavioural characteristics that are needed: openness in the board discussions and confidentiality.70
  • Boardroom behaviour  Conflicts of interest also fall in the category of behaviour. “Theres no evil in conflict of interest; the evil lies in the hiding of it”. All boards need to have a policy about conflict of interest. Usually this policy requires all members to disclose potential conflicts and to abstain from voting on such matters.  Another behavioural element is distinguishing between the important and the unimportant. The board has limited time. If it spends hours and hours on trivial matters, it wont be able to address71 significant and strategic matters.
  • Boardroom behaviour  Effective working groups, including boards, require trust and respect. Mutual respect, equality, patience, tolerance of differences, listening with respect and without interrupting, are all required to create a culture of constructive challenge.  Failure to achieve this, however successful the board may be been historically, is an almost inevitable sign of problems ahead. Boards with an over dominant CEO and/or a weak Chairman have been a prime cause of the sudden collapse of seeming successful companies ( eg Maxwell, Goodwin, Ken Lay). Still evidence that boards seek to avoid conflict72
  • Boardroom behaviour - traps  Confirmation bias  Framing  Group think  Halo-effect  One-sided brain dominance  Pattern-recognition bias73
  • Boardroom behaviour - traps  Ineffective situation analysis  Premature solutions  Saliency bias  Stability bias  Sunflower management  Technical solutions to adaptive challenges  Cognitive outsourcing74
  • Can you fall into a trap? Imagine that a factory in Livingstone is about to shut which has 600 worker. Two alternative programs to deal with the situation have been proposed..  Program A: "200 people’s jobs will be saved"  Program B: "there is a one-third probability that 600 jobs will be saved, and a two- thirds probability that no jobs will be saved" Which programme do you go for?75
  • Can you fall into a trap? Two more alternativess have been developed:  Program C: "400 people will lose their jobs"  Program D: "there is a one-third probability that nobody will lose their job, and a two- third probability that 600 people will" Which do you go for?76
  • Boardroom behaviour - Achieving productive disagreement “So if we are all in agreement on this decision – then I propose we postpone further discussion on this matter until our next meeting to give ourselves time to develop greater disagreement, and perhaps to gain some understanding of what the decision is all about” Alfred P Sloan General Motors77
  • Board behaviour depends partially on understanding board member differences Left brain Right brain logic feeling detail oriented big picture oriented facts rule imagination rulespresent and past present and future reality based presents practical possibilities safe conceptual risk taking 78 Reference: I.McGilchrist, 2009
  • What can board behaviour help to do?  Help directors to understand cognitive styles, thinking preferences and decision speeds.  Teach boards to understand the thinking traps of working in groups and to recognise the typical situations in which they occur.  Use thinking process to help boards develop the conditions for a thinking board and a thinking organisation to evolve.79
  • Self Assessment Exercise (behaviours and attributes of the Chairman)80
  • Self Assessment Exercise 2 - Behaviours and attributes of the Chairman What behaviours and attributes should a good Chairman possess?81
  • Behaviours and attributes of the Chairman* Personal attributes Behaviours  Integrity and high ethical  Enabling openness standards  Listener, empathetic  Strong cognitive abilites  Builds trust  Long term perspective and  Facilitating interaction a sense of purpose  Strong, clear  Personal authority and communicator presence  Conceptually agile – opne  No ego minded, encouraging of  Emotional intelligence debates, able to challenge  Change orientated  Resiliant *Non Executive Chairman Awards82 2006
  • Commonwealth Workshop on Insurance Regulators Board Responsibility and Oversight Livingstone March 2012 February 2012 Board Training, Conflict Resolution and Assessing Board Performance Marcus Killick83
  • Content : Day 2 Session 4  Board training and development  Handling conflicts of interest  Board conflict resolution  Assessment  Assessing effectiveness of:  the Board as a whole  the Chairman  Other Board Members  Board Committees  Methods of assessment  Which style to chose?84
  • Board training and development85
  • Board training and development The Combined Code requires that: “All directors should receive induction on joining the board and should regularly update and refresh their skills and knowledge.”  The chairman has a responsibility to ensure that directors continually update these skills and knowledge, as well as to develop familiarity with the company.  The company is required to provide ‘the necessary resources for developing and updating its directors’ knowledge and capabilities.  The chair is required to regularly review with each director their training and development needs.86
  • Induction training Areas to cover:  General information relating to the organisation  General health and safety (HR matters, fire exits, toilets etc)  Brief outline of their role and a summary of their responsibilities  Guidelines on delegated authority, policies and procedures  The firms history/strategy/mission statement  The firms business plan/budgets/risk management87
  • Induction training  Organisation Chart  Copy of the Annual Report (last 3 years)  Board issues  Minutes of last Board meetings (last 3-6)  Schedule of dates of future board meetings and sub committees  Board policies and procedures  Relevant legislation the Board member should be aware of  Outline of the combined code and how the firm adheres to it  Details of all board members (biographical and contact details)  Details of sub committee together with their terms of reference and copies of meeting minutes if they are joining a sub committee.  Conflicts of interest  Consider mentoring88
  • Continuation training  Training is not a one off exercise. Boards must keep themselves up to date with:  New products or services  Changes in auditing and corporate governance  Changes in the firms internal processes and procedures89
  • Handling conflicts of interest90
  • Handling conflicts of interest “Theres no evil in conflict of interest; the evil lies in the hiding of it”. Gibraltar FSC approach: Board has a conflict policy Day to day licensing and enforcement decisions are delegated to the Executive so removing potential conflict issues for board members in the local industry. Board papers are redacted where appropriate to remove firm/individual names All enforcement cases are reviewed by the Chairman with redacted information going to the Board All entertainment and hospitality by/to Executive recorded. CEO reviews Executive, Chairman reviews CEO Prior approval required for certain entertainment/hospitality (eg from applicants) Procedures in place for other conflicts (eg where there are personal relationships with a licensee) Political involvement/public statements also subject to policy91
  • Board conflict resolution92
  • Board conflict resolution “ Politics in organisations is ever present, no matter who you are, or what you do, it is impossible to escape the power/political interactions that take place between people at work.” Professor Lyman Porter University of California93
  • Board conflict resolution Five conflict resolution behaviours*:  Competing  Collaborating  Compromising  Accomodating  Avoiding Each have strengths and weaknesses in dealing with conflict. It is important to understand your and others style to achieve resolution *Thomas Kilman Conflict Mode94
  • Competing  Characteristics  Individual pursues own concerns at others expense  Uses power to win  Uses  Quick decisive action  Implementing unpopular actions  To avoid being manipulated  Sample statements  Do as you are told  I’m sure mine is the best way  I am not prepared to change my position95
  • Collaborating  Characteristics  Individuals attempt to work with other person to find a solution that satisfies both their concerns  Working with others to solve problems  Uses  To merge insights from people with different perspectives  To find solution where both sets of concerns are too important to compromise  Sample statements  Let’s work this out together  Let’s find some common ground  Where do we differ?96
  • Compromising  Characteristics  Mutually acceptable solutions under pressure  A back up style when collaboration is unsuccessful  Uses  When goals are only moderately important  When opponents with equal power are committed to mutually exclusive goals  Sample statements  Let’s be satisfied with  I suggest we meet half way  Let’s both come away from this with something97
  • Accommodating  Characteristics  Individuals neglect own concerns to satisfy the concerns of the other person  Obeying others when you prefer not to  Uses  When you find you are wrong, to allow a better position to be heard  To maintain cooperation  To build “credit” for later use  Sample statements  I concede that point  I don’t want to offend you  What is you preferred outcome?98
  • Avoiding  Characteristics  Does not address the conflict  Postpones  Withdraws  Uses  When situation trivial or more important issues pressing  When potential damage of confrontation outweighs benefit of resolving issue  Lets people cool down and regain perspective  Sample statements  Let’s talk about this later  I’m not in a position to discuss99
  • Differences in the boardroom Task Differences Process Differences Relationship differences100
  • Differences in the boardroom  Task differences Differences in views and opinions in what is to be done by the organisation Positive (to a point)  Process differences Differences in views and opinions in how the work of the board gets done Can be negative  Relationship differences Differences between board members of a personal and emotional nature Negative101
  • Constructively handling task differences  Do not be internally conflicted. Challenge is a board members role  Be prepared. Make sure you have the information you need to challenge effectively  Maximise you distinctive contribution. Use your expertise, knowlledge, perspective and experience  Focus on date and logic. Not on positions and personalities  Speak sparingly but powerfully102
  • Handling relationship differences  Check your contribution first. Am I causing or exacerbating the problem? Could I be misunderstanding the other person?  Use the Chairman. Managing conflict is their role  Check with other board members. Do others share your concerns?  Talk to the other person  Seek external mediation103
  • Board assessment104
  • Board Assessment “It is best practise that the performance of the board as a whole, of its committees and of its members, is evaluated at least once a year... Companies should disclose in their annual report whether such performance evaluation is taking place.” The Review of the role and effectiveness of non-executive directors 2003 ( the Higgs Review)105
  • Assessing the effectiveness of the Board as a whole  Has the board set itself clear performance objectives and how well has it performed against them?  What has been the whole board’s contribution to the testing and development of strategy?  What has been the board’s contribution to ensuring robust and effective risk management?  Is the composition of the board and its committees appropriate with the right mix of knowledge and skills sufficient to maximise performance in the light of future strategy?  Are inside and outside board relationships working effectively? There may, for example, be problems getting the optimum level of interaction between non-executive and executive directors. Lack of contract between meetings and sometimes lack of understanding of the role of the non-executives (particularly in smaller companies) are both contributors to this. Occasionally, where a small caucus of key directors gets on particularly well, the non-executive directors can feel cut out- this requires particular attention to be paid to the provision of appropriate and timely information.106
  • Assessing the effectiveness of the Board as a whole  How has the board responded to any problems or crises that have emerged and could or should they have been foreseen?  Are the matters reserved for the board the right ones?  What is the relationship between the board and its main committees and between the committees themselves?  How well does the board communicate with the management team, company employees and others? How effectively does it use mechanisms such as the AGM, the business review and the annual report?  Is the board as a whole up to date with latest developments in the regulatory environment and the market?107
  • Assessing the effectiveness of the Chairman  Is the chairman demonstrating effective leadership of the board?  Are relationships and communications with shareholders well managed?  Are relationships and communications within the board constructive?  Are the processes for setting the agenda working? Do they enable board members to raise issues and concerns?  Are all directors allowed or encouraged to participate fully in board discussions?  Is the company secretary being used appropriately and to maximum value?108
  • Assessing the effectiveness of other board members The Institute of Chartered Secretaries and Administrators (ICSA) suggests that key questions that need to be answered through an individual evaluation process, include:  How well prepared and informed are they for board meetings and is their meeting attendance satisfactory?  Do they demonstrate a willingness to devote time and effort to understand the company and its business and a readiness to participate in events outside the boardroom, such as site visits?  What has been the quality and value of their contributions at board meetings?  What has been their contribution to development of strategy and to risk management?  How successfully have they brought their knowledge and experience to bear in the consideration of strategy?109
  • Assessing the effectiveness of other board members  How effectively have they probed to test information and assumptions? Where necessary, how resolute are they in maintaining their own views and resisting pressure from others?  How effectively and proactively have they followed up their areas of concern?  How effective and successful are their relationships with fellow board members, the company secretary and senior management?  Does their performance and behaviour engender mutual trust and respect within the board?  How actively and successfully do they refresh their knowledge and skills and are they up to date with: the latest developments in areas such as corporate governance framework and financial reporting the industry and market conditions?  How well do they communicate with fellow board members, senior management and others, for example shareholders. Are they able to present their views convincingly yet diplomatically and do they listen and take on board the views of others?110
  • Assessing the effectiveness of other board members The benefits of individual evaluation  evaluation makes it possible to identify directors who are underperforming using a clear set of criteria that are appropriate to a particular company  establishing evaluation criteria helps individual directors to focus on areas that are regarded to be important in organising their work  providing feedback to directors on their performance enables them to identify what they are doing well, and also areas where they can make improvement  as with any form of appraisal, individual director evaluation makes it possible for the director working with the chair to identify training and development targets  a number of surveys have shown that in the USA, Europe and elsewhere, that in companies in which evaluation of individual directors takes place:  the directors rate the effectiveness of the board more highly than is the case in companies without such an evaluation process  the investors rate the effectiveness of the board more highly.111
  • Assessing the effectiveness of other board members The main criticisms of individual evaluation are that:  it can be seen as a threat to the collegiality among directors, when the performance spotlight is directed at individuals  it works against the notion of consensus and working together  directors are chosen because of their proven track record, skills and ability. Therefore, to assess their performance is to question these abilities  some talented directors may be discouraged from putting themselves forward if they have to be continually evaluated  concerns about who should do the evaluation. Directors actually spend a relatively limited time together – so are they equipped to judge each others performance given the evidence available?112  individual evaluations may encourage board members to compete against each other rather than work as a team.
  • Assessing the effectiveness of Board Committees  Does each board committee have adequate and appropriate written terms of reference?  Is the volume of business now handled by the committee (particularly the audit committee set at the right level?  Does the committee work in an ‘inclusive’ manner or has it, for example, resulted in executive directors not involved in the respective committee feeling distanced from those matters covered by the committee’s area of activity?  How effective are the board’s committees? (Specific questions on the performance of each committee should be included such as, for example, their role, their composition and their interaction with the board.)  Are board committees used to the best advantage? A more effective use of the nomination committee might be to widen its remit to embrace management development.113
  • Methods of assessment  Self evaluation provides a means for each director to reflect on their own performance. Individuals can be supplied with evaluation questionnaires that enable them to identify the sorts of questions to consider.. The weakness of self evaluation is that it is based on self-reporting and biases associated with self-image.  Peer evaluation involves directors assessing each other’s performance. This requires a high level of trust. The reliability of such an assessment is curtailed by lack of experience about how to conduct such an evaluation, and issues associated with personal feelings and interpretations of the value of others’ actions.  Evaluation by the chair may be more effective if the chair has had appropriate training and has suitable interpersonal skills. The main disadvantage of evaluation by the chair includes problems associated with personalities and personal relationships developed over time.114
  • Methods of assessment  360 degree feedback This may involve three forms of feedback: feedback from seniors (e.g. by the chair on a new non-executive director), feedback from peers (e.g. from fellow non-executives) and feedback from subordinates (where this applies).. The advantage of 360 degree feedback is that where an individual receives negative feedback from one source, then this may be counteracted by positive feedback from several other directions. 360 degree feedback also provides a wider collection of evidence, although it may take time to analyse.  Feedback from external facilitators. External facilitators may be brought in to evaluate the effectiveness of individual directors (the Combined Code requires this every three years for FTSE 350 companies anyway).115
  • When to choose external assistance?  For new chairmen: Incoming chairmen, especially if they have only been members of a board for a short time prior to their appointment, may find it useful to commission their party facilitation of an evaluation in order to accelerate, and render more objective, their own assessments of the board’s capabilities and to plan future changes of the membership where this is envisaged.  For “old” boards: Conversely, chairmen of boards which have operated with the same membership over a long period may consider an element of third-party facilitation as a safeguard against inertia or complacency.  When you have a problem: For example, a situation which will require tactful, impartial handling.116
  • When to choose external assistance?  When challenged: Some shareholders lobby groups routinely criticise or challenge the tenure of certain directors on the basis of judgments which may be regarded as mechanistic (as per the ICGN reference to “box tickers”). Such challenges are often ignored, often with good reason. The occurrence of criticism, however, may encourage periodic third- party evaluation which may, in turn, provide clear legitimisation of the decision to ignore it.  Every so often:. Periodic external facilitation may make it easier to solicit the views of the company secretary, HR director or other senior executives immediately below board level whose inputs would be compromised should they be involved in conducting the process. Senior executives may be (understandably) reluctant directly to criticise directors who are their employers and may be more likely to be candid in speaking with an external facilitator on a confidential basis.117
  • Commonwealth Workshop on Insurance Regulators Board Responsibility and Oversight Livingstone March 2012 Team Exercise Marcus Killick118
  • Team Exercise (preparing for the first Board meeting) Day 2 Session 5119
  • Team Exercise - Preparing for the first Board meeting Day 2 Session 5 You are a new non executive member of the board of an insurance company. You have been asked to attend your first Board meeting. To date you have had nothing but notification of your appointment and the following agenda which has not been accompanied by any papers 3. Minutes of the previous meeting 4. Action points arising for executive from the previous meeting 5. Annual business plan 6. Annual paper concerning authority to be delegated to the Executive Report from the Executive 7. Proposed budget for following year 8. Nomination committee recommendation 9. Any other business You are aware that the budget contains some new extraordinary items and that the nomination committee recommendation is likely to be contentious. How should you prepare for the meeting120
  • Preparing for the Board meeting Initial work prior to receipt of the board pack  Have I reappraised myself of the Combined Code and my obligations under it?  Have I reviewed the firm’s assessment of it compliance with the Code?  Is there an induction process? If so it would be helpful to attend it prior to the board meeting to obtain a better understanding of the working of the firm  If there is no induction process, what research do I need to perform to maximise my ability to contribute to board discussions (eg previous annual reports, news etc)?121
  • Preparing for the Board meeting  Have I considered any potential conflicts of interest between my role on the board and any other roles I have? If so have I fully disclosed them to the company secretary?  When is the meeting and how far in advance will I receive the board pack?  Remember to allow time to review the papers and ask any questions necessary to ensure I am prepared for the meeting.122
  • Preparing for the Board meeting On first review of the board pack  Are any papers missing? If so is there a date given when they will be received?  Do the papers give me the information necessary to fulfil my fiduciary and statutory duties?  Are their papers on which I need to conduct further research? In the case of the current agenda item 5 contains some new financial information and I need to do background reading on the treatment of exceptional items  Do I have any initial questions? If so are they such that they are impeding my ability to understand the importance of matter at hand?  Is the information/data given up to date? If not, will more current figures be provided at the meeting?123
  • Preparing for the Board meeting  Do I consider the time allocated to each issue adequate? If not this should be raised with the Chairman.  Is the agenda laid out correctly in my view with the most important issues to be considered first? In the case of the exceptional item this appears suitably placed in the agenda  Is there any procedure for any other business? For example to prevent sudden material issues to be raised without giving the board due time to consider them.  Are there any areas which I would expect to have been on the agenda but are not (eg issues relating to corporate social responsibility etc)..124
  • Preparing for the Board meeting On sub committees  Are any sub committees due to meet?  If so, will I be appointed to any of them? If this is the case, consider meeting the Chairman of the sub committee to discuss its role and structure  Are there any contentious issues likely from one of the sub committees at the first meeting? In this case the Nominations Committee recommendation does appear contentious. If so obtain details of the issue and the different views so that I can give consideration of the matter (including what questions I should raise) prior to the meeting  Are there papers for the sub committees or are they dealt with verbally? In this case it is a verbal report and, given the contentious nature of the proposed appointment I should request for it to be in writing in advance to give me time to consider the issues  If a matter is contentious consider whether it is high enough up the agenda for appropriate consideration. In this case it is125 item 7 so the Chairman should be asked to consider moving it up the agenda.
  • Preparing for the Board meeting On the previous minutes.  Do they contain action points? If so do the board papers show they have or are being addressed adequately? Pre meeting  Will I meet other directors/senior executives before the meeting (eg at a pre board dinner)? If not should I ask to meet with senior executives to better understand their roles?126
  • Commonwealth Workshop on Insurance Regulators Board Responsibility and Oversight Livingstone March 2012 Risk Management and Corporate Governance Marcus Killick127
  • Content: Day 2 Session 6  Identification and Mitigation of Risks  Corporate Governance - example128
  • Identification and Mitigation of Risks129
  • Identification and mitigation of risks  A key role of the board is to identify the risks to which the firm is exposed and determine how they should be mitigated.  To do this the Board should consider the following factors:  The nature and extent of the risks to the company;  The likelihood of the risks concerned materialising;  The firms ability to reduce the incidence and impact on the business of the risks that do materialise, and  The costs of operating particular controls relative to the benefit thereby obtained in managing the related risk  Once the risks have been identified the board should determine what its appetite for risk is130
  • Types of risk  Strategic, for example a competitor coming on to the market  Compliance, for example responding to the introduction of new insurance legislation  Financial, for example non-payment by a customer or insolvency of an intermediary  Operational, for example the breakdown of key computer equipment131
  • Risk mitigation Choices:  Tolerate The risk is tolerated without any further action being taken  Transfer For some risks the best response may be to transfer them (eg taking out insurance)  Treat Whilst continuing with the action that gives rise to the risk action is taken to bring the risk to an acceptable level  Terminate Where the only way to bring the risk to an132 acceptabel level is to terminate the activity
  • How do we assess or quantify the Risk?  It’s quite easy!  We look at two elements;  Consequence “Impact”  Probability “Likelihood”  Which are categorised as High, Medium or Low.  Put together in a Risk Matrix allows the Firm to turn this into a “score” to identify the seriousness of the risk and the type of action we take.133
  • Risk Matrix Terminate, Transfer or High Treat Transfer or Treat Treat LIKELIHOOD M edium Transfer or Tolerate Treat Treat Tolerate Low Tolerate Treat Low M edium High134 IMPA CT
  • How do we use this Matrix? Example:  What impact will a failure to have a proper fraud detection in insurance claims?  Failure to identify fraud could affect Number of successful claims Size of claims Profitability  In this case we mark the Impact as Medium!  What is the likely hood that this risk will materialise?  Based on experience with the industry let us135 consider this to be Medium
  • So where does it fall in the Risk Register? Transfer or Terminate, Here! High Treat Transfer or Treat Treat LIKELIHOOD M edium Transfer or Tolerate Treat Treat Tolerate Low Tolerate Treat Low M edium High IMPA CT136
  • Mitigate  Mitigate, central meaning is “to lessen” or “make less severe,”  In this case the mitigant is  Upgrade the fraud detection processes  If the firm carries out this action, it is treating the risk and lessening its effect and impact.  Thus reducing its exposure to the Risk.137
  • Ongoing Mitigation138
  • Board Reporting  Effective risk management requires a  Report and review structure  To ensure risks are identified and assessed  Appropriate control and responses in place  This is effected by the Board Reporting  Board receive report on a regular basis  Collated matrix  Shows all the risks faced by the Organisation139
  • Internal Control140
  • Internal control "The board should, at least annually, conduct a review of the effectiveness of the company’s risk management and internal control systems and should report to shareholders that they have done so. The review should cover all material controls, including financial, operational and compliance controls”* “A sound system of internal control... Depends on a thorough and regular evaluation of the nature and extent of the risks to which the company is exposed”** *Combined code (C.2.1) ** ICAEW Internal Control: Guidance for Directors on the Combined Code141
  • Elements of a sound system of internal control Is one where the policies, procedures etc when taken together:  Facilitate the firm’s operation by enabling it to respond appropraitely to significant risks in achieving its objectives  Help ensure the quality of internal and external reporting (eg proper records etc)  Help ensure compliance with appropriate laws and regulations However It can only provide reasonable but not absolute assurance.142
  • Discussion 2 Your firm and Internal control  Does your board have clear strategies for dealing with the significant risks that are identified? Is there a policy on how to manage those risks?  Do the board receive timely, relevant and reliable reports on progress against business objectives and the related risks?  Are there embedded ongoing processes within your firm which monitor the effective application of the policies processes and activities related to internal control and risk management?143
  • Corporate Governance - example144
  • Regulatory board – an example. Gibraltar Financial Services Commission  8 members, 7 effectively NED  Statute requires at least 2 NEDs have “significant experience of regulation and supervision of finance in another jurisdiction”  Currently 4 Gibraltar and 3 UK based NEDs  Meets four times each financial year (financial year runs from April to March)  Separate Chairman and CEO  Senior Independent Member  Follows Corporate Governance Code (in so far as a Statutory Board is able to) and publishes on the FSC website how we adhere to it145
  • FSC Board meetings - preparation  No later than three weeks before a Board meeting each Division must submit an executive report detailing their activities over the previous quarter and their level of adherence to the annual business plan. This is reviewed by the CEO  Two weeks before the meeting the Chairman meets with the Executive, reviews the draft board papers (including the executive report) and determines the agenda  At the same time he meets with the local NEDs separately from the Executive to discuss Executive performance and any other issues  Board papers are sent out at least 10 days before the meeting to give Members time to consider them146
  • Annual Board Cycle  May/June  Approval of annual report and audited financial statements  “Blue skies” assessment of high level risks likely to affect the FSC and jurisdiction in the year ahead to guide Executive on preparation of annual risk assessment  September  Review of analysis by Executive of detailed risks and threats (risk register) facing the Commission in the year ahead  Direction to Executive on specific measures to be included in following years business plan to mitigate risks and threats  Consideration of whether any changes needed to Commissions strategy is required as a result of risks identified147
  • Annual Board Cycle (2)  December  Review of adequacy of draft business plan for next financial year prepared by the Executive and resources required to deliver it  Review and approval of budget for next financial year  January/February  Sign off of finalised Business plan  Annual review of authority delegated to Executive  Annual review of stakeholder relations148
  • Additional Board oversight of the Executive  Control of agenda with Chairman not CEO  Board regularly meets with Supervisory Divisions  Board meets with finance sector representative bodies to get industry views  Specific areas (eg budget and senior executive performance) subject to detailed scrutiny by specific Board committees  All Board action points recorded and brought to next meeting to assess whether Executive has dealt with them properly. Action points cannot be removed without board approval  Achievement against business plan brought to and discussed at each board meeting  Performance against budget brought to and discussed at each board meeting  Industry statistics and trends are brought ot each Board so the Board can assess whether changes to the Business Plan are required149
  • Board Committees  Audit  Performance & Remuneration (For Senior Executives)  Budget Review  Nomination Terms of reference for all these can be found on the FSC website150
  • Oversight of the board  There is an annual appraisal of the Chairman by the senior independent director  The Board conducts an annual self appraisal  The FSC is subject to external reviews151
  • The End Thank you Marcus Killick mkillick@fsc.gi152