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Recent Corporate Governance ArticlesCorporate Governance In Banks Undergoing Merger And Acquisition
http://ssrn.com/author=909867Abstract
This nine page paper on Corporate Governance In Banks Undergoing Merger And Acquisition presents a case on banks that have recently undergone the process of M&A in Pakistan and the steps these banks should take in order to encompass corporate governance to ensure higher profitability and employees’ satisfaction. Effective corporate governance involves a set of relationships between a company’s management, its board, its shareholders and other stakeholders. It is also about promoting corporate fairness, transparency and accountability. Banks can easily safeguard their risk exposures and build their sustainable competitive advantage via imposing corporate governance. This paper also explains the six key tools of corporate governance that can be used by banks to counter problems that are evident during M&A.
Corporate Governance In Banks Undergoing Merger And Acquisition
A lot of attention has been targeted towards the issue of corporate governance in various Pakistani banks since they are a crucial component of the country’s economy. Banks that encompass good corporate governance succeed in attracting a good deal of public interest because of its apparent importance for the economic health of the organization. Corporate governance is extremely vital particularly, for those banks that are recently undergoing the process of merger and acquisition in Pakistan.
Banking sector in Pakistan has transformed within a short period of five years from a government dominated sector to a much more agile, competitive and profitable industry. In order for banks to continue growing and running profitably, they must incorporate good corporate governance practices. Effective corporate governance involves a set of relationships between a company’s management, its board, its shareholders and other stakeholders. It also promotes corporate fairness, transparency and accountability.
Research has suggested that historically, merger and acquisition often failed to add importance to the value of the acquiring firm’s shares since the focus was primarily on costs and projected financial gains. It is important to note that the triumph of a merger or acquisition depends upon the ability of management to anticipate key issues and problems that arise when employees from different companies are required to work together. If banks want to witness a substantial rise in profitability and adequacy ratio then they must encourage sound corporate governance practices. Good corporate governance systems will allow organizations to realize their maximum productivity and efficiency, minimize corruption and abuse of power, and provide a system of managerial accountability.
Implementation of corporate governance ensures the smooth running of policies and mechanisms that result in good behavior and safeguard shareholders. Hence, during M&A, corporate governance should be put into practice in such a manner in which systems, procedures, processes and practices of a bank are handled so as to allow positive relationships and the use of power in the management of assets and resources with an aim of advancing shareholder’s value and contentment together with enhanced accountability and transparent administration.
The emphasis on corporate governance of banks in Pakistan is great because of the following reasons,
• Banks in Pakistan have an overpoweringly prevailing position in its economy’s financial systems, and are extremely important engines of economic growth.
• Financial markets here are usually underdeveloped; banks in the Pakistani economy are typically the most important source of finance for the majority of the firms.
• Banks are usually the main depository for the economy’s savings.
• The recent liberalization of the banking system though privatization and disinvestments have given bank’s managers greater freedom in how they run their banks.
Corporate governance of the rapidly growing banking industry in Pakistan should involve the governance of business and affairs of individual institutions by their boards of directors and senior management. This requires a clear understanding of the respective roles of the board and of senior management and their relationships with others in the corporate structure. The relationship of the board and management should be realized by openness; their relationships with employees should be characterized by fairness; their relationship with the communities in which they operate should be characterized by good citizenship; and their relationship with government should be characterized by a commitment to compliance. These were the principles that Citigroup followed in order to become one of the leading financial services company in the world. Their prime concern was to protect the interests of its stakeholders.
Banks in Pakistan that are undergoing M&A should keep in mind that effectual corporate governance requires that the directors, CEO and senior management should be proactive and have an alert state of mind. They must all be committed to business success through maintenance of the highest standards of responsibility and ethics. Good governance goes beyond a check list of minimum board and management policies and duties. Sometimes even the most pensive and well-drafted policies and procedures fail if not properly enforced by the directors and management. A good corporate governance structure is a working system for principled goal setting, effective decision-making and appropriate monitoring of compliance and performance. Through such a vivid and responsive structure, the CEO, the management team and the board of directors can network effectively and respond quickly to changing circumstances, within a framework of solid corporate values, to provide enduring value to the stockholders who invest in the enterprise.
Key tool for strengthening corporate governance in banks undergoing M&A should include,
1. The Board of Directors and Committees,
2. Legal and Regulatory,
3. Business Practices,
4. Disclosure and Transparency Communication,
5. Risk Management, and
6. Monitoring
The Board of Directors and Committees
The prime responsibility of the Board of Directors is to ensure effective governance that would protect the interests of its stakeholders. It is also responsible for the formation of committees for various functions and overseeing the management of the organization and compliance with various standards, laws, rules and regulations.
The board should comprise of independent directors, i.e. non executives or non employee, executive directors and one honorary director who can participate in the board meeting but cannot vote. Candidates taken on the board should be selected by the Nomination and Corporate Governance Committee. It should be mandatory for new directors to undergo an orientation program and participate in continuing education programs provided either by the bank or third parties.
Directors should attend all board meetings and meetings of committees on which they are serving. Complete information should be provided to the directors prior to the meeting. The number of meetings held is up to the discretion of the board of directors. The directors should be allowed to have full and free access to senior management and other employees of the bank.
One of the most integral tasks of the board is to select the Chief Executive Officer and to oversee whether the CEO and other senior management personnel are carrying out daily activities competently and ethically. The board should also form various committees and appoint its members. Typical example of these committees include,
The Audit Committee: responsible for internal financial reporting and control, the performance of internal audit function and independent annual financial audit.
The Executive Committee: responsible for overall planning, implementation and execution of corporate policies, procedures and strategies relating to the functioning of its business.
The Business Practice Committee: responsible for the facilitation of regular scrutiny of products and practices by senior executives.
The Nomination and Corporate Governance Committee: responsible for identifying individuals qualified to become board members and review the performance of the Board and the individual directors. This committee would also be responsible for monitoring employees’ compliance with the Code of Conduct, Code of Ethics and other internal policies and guidelines.
The Public Affairs Committee: responsible for the review of company’s policies and programs, which are matters of great significance to the bank as well as the public. This committee would also monitor bank’s relationships with external constituencies and issues that influence bank’s reputation (Liz Moyer, Citi Claims Major Reforms In Corporate Governance).
Legal And Regulatory
Senior management should know how the bank is earning its income and what risks it is undertaking during the course of conducting business. The fall of Barings Bank was primarily due to the negligence of Nick Leeson’s activity by the senior management.
As the evidence of Leeson’s misdeeds built up, Barings’ senior management either
would not, or could not, believe it. The scale of corporate misjudgement was
staggering and the resulting collapse of the firm was spectacular. Barings’ directors
failed to assess the risks of the strategies that they were employing and, further, failed
to understand the responsibility they bore for the events that unfolded (Lynn Drennan,
Ethics, Governance And Risk Management: Lessons From Mirror Group Newspaper
And Barings Bank).
The board and its audit committee should allow an autonomous accounting firm to audit the financial statements prepared by the management. These statements should be in accordance to the Generally Accepted Accounting Principles. The board, its audit committee and management must be alert to ensure that no actions are taken by the bank or its employees that would compromise the impartiality of the outside auditor.
Business Practices
The job tasks of employees should be explicitly defined with clear divisions between the responsibilities of the executive vice presidents. Compensation systems should be related to performance and based on a set of general and specific knowledge performance indicators. The bank must deal with all of its employees in a fair and equitable manner and improve working procedures and optimize operational processes.
Disclosure and Transparency Communication
Senior management, led by the CEO, is responsible for running the daily operations of the corporation and properly informing the board of the status of such operations. Management's responsibilities include strategic planning, risk management, and financial reporting.
Bank’s financial statements should be disclosed and accurately present the true financial position and the results of operations to stockholders. The audit committee should present a channel of communication for external and internal auditors to the board and may also meet with and receive reports from finance officers, compliance officers and the general counsel.
Banks must communicate honestly with its employees about operations and financial performance. Technology acts as a marvel in such cases as it makes communication much quicker, easier and cost effective. Corporations should take advantage of technological advancements to enhance dissemination of information to employees.
Risk Management
Corporate Governance and risk management go hand in hand. The losses experienced by Barings Bank and Daiwa bank in the 1990s and the more recent implosions of Enron and WorldCom were because corporate governance was ignored and the senior management simply sat doing nothing until it was too late. Donald Brash, the Governor of the Reserve Bank of New Zealand, in his address on corporate governance said,
Improving corporate governance is an important way to promote financial stability.
The effectiveness of a bank’s internal governance arrangements has a very substantial
effect on the ability of a bank to identify, monitor and control its risks. Although
banking crises are caused by many factors, some of which are beyond the control of
bank’s management, almost every bank failure is at least partially the result of poor
risk management within the bank itself. And poor risk management is ultimately a
failure of internal governance. Although banking supervision and the regulation of
banks’ risk positions can go some way towards countering the effects of poor
governance, supervision by some external official agency is not a substitute for sound
corporate governance practices. Ultimately, banking system risks are most likely to be
reduced to acceptable levels by fostering sound risk management practices within
individual banks. Instilling sound corporate governance practices within banks is a
crucial element in achieving this (Nicolae Danila, A Successful Corporate Governance
Story).
Banks must be able to cope with various risks exposure particularly credit risk and asset and liability maturity mismatch. Implementation of Basel II would mitigate risks extremely. Banks should be able to attract long term deposits by reducing CRR for long term deposits while raising CRR on shorter term deposits.
Monitoring
The monitoring of corporate governance in the banks should be done by its BOD, management, shareholders, State Bank of Pakistan, external auditors and capital markets authority. The control on the Bank’s operation and financial statements should be enhanced by incorporating efficient Management Information Systems.
Conclusion
Banks that are undergoing M&A would benefit greatly if they would follow the six key tools of corporate governance mentioned above. Implementation of effective corporate governance demands the minimization of beaurocracy and inculcating cultures that support openess, fairness, risk management and employees’ motivation and diversity. Corporate governance is only incorporated by humans, so it is essential that banks undergoing M&A recruit and train individuals in whom they have confidence and trust.
Corporate governance no doubt leads to greater awareness and curb threats to the success and contiuity of buiness operations. In the long run, it ensures higher retuns on assets and significant market premiums and deviates pressure from analysts and investors.
References
Danila N. A Successful Corporate Governance Story. Banca Comerciala Romana Group. 23 May, 2007.
Drennan L. Ethics, Governance And Risk Management: Lessons From Mirror Group Newspaper And Barings Bank. Journal Of Business Ethics. 2004.
Moyer L. Citi Claims Major Reforms In Corporate Governance. American Banker. 8 Aug. 2002.
Author:
Abdul Rahim AhmadAbout the Author:
December 29, 2007 08:40:35 AM
