Bank Negara Malaysia (BNM) issued two concept papers in March 2016, i.e., the Concept Paper on Corporate Governance (Corporate Governance Paper) and the Concept Paper on Shareholder Suitability on 18 March 2016 (Shareholder Suitability Paper). BNM is currently seeking public feedback for both papers. Whilst many of the suggestions are not new, the effect of the proposals on licensed financial institutions (FI) and their shareholders may be far-reaching.
Through the Corporate Governance Paper, BNM is seeking to instill a strong and prudent governance structure for FIs. This would entail having a board and the relevant committees that comprise predominantly of independent directors, and requiring that the corporate culture be established through a "tone from the top." Culture and remuneration are expected to be structured to reflect the long-term viability of the FIs.
The Shareholder Suitability Paper, on the other hand, lays down the requirements that a shareholder holding 5% or more of interest in shares in a licensed FI must observe. The requirements are to be observed for so long as the person is a shareholder.
Proposed corporate governance standards
The Corporate Governance Paper as a whole is designed to establish a more stringent and consistent governance standard across all FIs.
Executive and independent directors and common directors
The present guidelines and policy documents relating to the number of executive and independent directors on the board of FIs, currently differ amongst banks, insurers and takaful operators. For example, the current standards are as follows:
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If the proposals under the Corporate Governance Paper are adopted, the board of an FI must not have more than one executive director, and must have a majority of independent directors, unless BNM approves otherwise. This change will not only streamline the standard amongst FIs, but will also align it with the standards imposed on listed companies under the Listing Requirements and the recommendations under the 2012 Malaysian Code on Corporate Governance.
Although a transitional period has been prescribed to comply with these requirements, we anticipate that most FIs may be in good stead to already comply since BNM has already been enforcing the standards through the on-going appointment/re-appointments of executive or independent directors.
Under the Corporate Governance Paper, an FI is required to obtain BNM's approval for the removal of independent directors and also before a resignation can take effect. This proposal will vary the requirements under the Companies Act 1965. The requirement for prior approval of BNM to be granted before an independent director can resign also runs contrary to generally accepted market practice; i.e. a director can always resign by notice in writing to the company. We anticipate that there may be strong responses from the industry on this proposal.
The proposal to restrict the number of directors who are also board members of its affiliates under the Corporate Governance Paper may be a more challenging requirement to meet. BNM has proposed that the board of FIs must not have a majority of its directors holding directorships in an affiliate. Specific examples provided by BNM are: (i) where the directors of the holding company are also directors in the FI; or (ii) where the directors of a licensed insurer are also directors of a takaful operator; or (iii) where the directors of the FI are directors of another entity within the group, which has a strong dependency on the FI. In effect, this proposal will put an end to the practice of replicating the board members within the group. During the 3-year transitional period, we anticipate that FIs will need to rationalize their board composition and identify new candidates to meet the stringent “fit and proper” test for directorships.
Culture and compensation
Under the Corporate Governance Paper, FIs are expected to establish a code of ethics on appropriate conduct, addressing, among others, issues of confidentiality, conflicts of interest and integrity in reporting. FIs are also required to establish a whistleblowing policy that provides avenues for legitimate concerns to be reported and addressed objectively. The Corporate Governance Paper also introduces a requirement for FIs to establish a compensation policy, for directors, members of senior management and other material risk takers, which is aligned with prudent risk-taking. The compensation policy, including details relating to the total amount of compensation awards for its Chief Executive Officer and directors for the financial year, and the compensation information of senior management and other material risk takers, are to be laid before the FI’s annual general meetings and published on the FI’s website or its annual report. Broadly, this provision is also reflected under the Companies Bill 2015.
Proposed changes to BNM considerations in determining shareholder suitability
The Shareholder Suitability Paper provides that BNM will look more broadly and holistically at the group of companies of the shareholders when considering if there has been compliance with specific standards. Specifically, BNM will consider the circumstances of the shareholder's associate or related corporations, and their ultimate beneficial owners when considering the shareholder's compliance of the following requirements: (i) whether a shareholder is acting or conducting its business or operations in a manner that maintains the honesty, integrity and reputation of the shareholder and the licensed person; and (ii) whether a shareholder has adequate control of its financial risks and maintains a sound financial position on a continuous basis, such that it is able to provide financial support to the FI when needed.
These new considerations suggest that BNM intends to also hold shareholders of FIs responsible for indirect non-compliances with its shareholder suitability requirements caused by the shareholder's associate or related corporations and their ultimate beneficial owners. Examples of such indirect non-compliances are where the circumstances of the shareholder's associate or related corporations or their ultimate beneficial owners (i) adversely affects or discredits the reputation or integrity of the shareholder or the FI; and (ii) affects the shareholder's financial position or ability to provide financial support to the FI when needed, and not just non-compliances by the shareholders directly. A shareholder could therefore be regarded as being “unsuitable” to hold shares in the FI if there were transgressions by affiliates, the conduct of which the shareholder has no ability of being able to influence or control.
Shareholders of FIs should take steps to ensure that its associated or related corporations, and ultimate beneficial owners are made aware of these potential new requirements imposed by BNM. This is despite the fact that it is uncertain how BNM will seek to enforce this suitability requirement on a shareholder that may not have a presence in Malaysia.
It is clear that BNM intends to enhance corporate governance standards in FIs and raise the bar as it relates to the general conduct of their shareholders. However, both the Corporate Governance Paper and the Shareholder Suitability Paper are still in draft forms, subject to further review and written feedback from the public. The proposed standards and guidance set out in these papers may therefore be subject to further changes. That said, based on previous exercises by BNM, eventual policy documents issued will largely track the original proposals under the concept papers.