In the Italian legal system, in order to achieve a more efficient system of governance and to protect more effectively the interests of the minority shareholders, the Law No. 262 of 2005 on a general reform of the legal framework of the banking and financial sector introduced, among other things, the figure of the independent directors of compa- nies with shares listed on regulated markets. Particular problems relate to the assessment and compliance with independence requirements, the specific role attributed to non-executive independent directors in the company’s transactions with related parties, the forms of judicial review on non-executive independent directors’ activity.
7.2 Non-executive independent directors in banking corporate governance
The readjustment of banking regulation led by the 2007–2008 great financial crisis 1 has affected different aspects of the organization of
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Non-executive Independent Directors in Corporate
Governance of the Italian Banks and Listed Companies
Domenico Siclari
intermediaries: separation between retail and investment activities, minimum capital requirements, regulation of the corporate govern- ance of financial intermediaries (i.e., regulating bankers’ compensa- tion 2 ) and reforming the structure of public supervision. 3
Particularities of banking corporate governance4 led the High Level Group on Financial Supervision in the EU, chaired by Jacques de Larosière, to state in its Final Reportt that banks’ corporate govern- ance “is one of the most important failures in the present crisis”5 ; numerous reforms of national law have improved banking corporate governance in EU Member States6, in United Kingdom and in USA.7 Guidelines developed by the European Banking Authority8 on the internal governance of banks provide some criteria to ensure the presence of efficient boards and internal control functions. 9
Effective internal governance is fundamental for individual credit institutions and for the banking system as a whole. 10 Art. 22 of Directive 2006/48/EC requires that every credit institution shall have robust governance arrangements, which include a clear organiza- tional structure with well defined, transparent and consistent lines of responsibility, effective processes to identify, manage, monitor and report the risks it is or might be exposed to, adequate internal control mechanisms, including sound administrative and accounting proce- dures, and remuneration policies and practices that are consistent with and promote sound and effective risk management.11 Weak governance arrangements, inadequate oversight by and challenge from the supervisory function of the management body are acknowl- edged to have been underlying causes of the financial crisis 12 .
The new European Banking Authority Internal Governance Guidelines repeal Section 2.1 of the 2006 Guidelines on the Application of the Supervisory Review Process under Pillar 2, the 2009 High Level Principles for Remuneration Policies and the 2010 High Level Principles for Risk Management. The new EBA Guidelines, aimed to enhance and consoli- date supervisory expectations and ultimately to improve the sound implementation of internal governance arrangements, incorporate new chapters on the transparency of the corporate structure, the role, tasks and responsibilities of the supervisory function and on IT-systems and business continuity management.
Recently, EBA Guidelines on the assessment of the suitability of members of the management body and key function holders13 set out the process, criteria and minimum requirements for assessing the suitability of
those persons and are ultimately aimed at ensuring robust govern- ance arrangements and appropriate oversight. Art. 11 of the Directive 2006/48/EC (CRD) asks in fact the EBA to develop guidelines for the assessment of the suitability of the persons who effectively direct the business of a credit institution.
These new guidelines also contain a notification requirement and provide that in cases where a member of the management body is not suitable, the credit institution and, if necessary, the competent authority shall take appropriate action.
Moreover, new CRD IV European Directive strengthens the require- ments with regard to corporate governance arrangements and proc- esses and introduces new rules aimed at increasing the effectiveness of risk oversight by boards. CRD IV aims to improve the status of the risk management function and to ensure effective monitoring by supervi- sors of risk governance, and it introduces a number of board require- ments, in particular with regards to gender balance because diversity in board composition should contribute to effective risk oversight by boards, providing for a broader range of views and opinion and therefore avoiding the phenomenon of “group think”.
The High Level Expert Group on reforming the structure of the EU banking sector, chaired by Erkki Liikanen, considers in its Final Report that it is necessary “to augment existing corporate governance reforms by specific measures to (1) strengthen boards and management; (2) promote the risk management function; (3) rein in compensation for bank management and staff; (4) improve risk disclosure and (5) strengthen sanctioning powers.” 14
More specifically, about governance and control mechanisms, accord ing to the Liikanen Report, “attention should be paid to the governance and control mechanisms of all banks. More attention needs to be given to the ability of management and boards to run and monitor large and complex banks. Specifically, fit and proper tests should be applied when evaluating the suitability of manage- ment and board candidates”.15 In order to improve the standing and authority of the risk management function within all banks, so as to strengthen the control mechanism within the group and to establish a risk culture at all levels of financial institutions, “legisla- tors and supervisors should fully implement the CRD III and CRD IV proposals. In addition, while the CRD often remains principles- based, level 2 rules must spell out the requirements on individual
banks in much greater detail in order to avoid circumventions. For example, there should be a clear requirement for Risk and Control Management to report to Risk and Audit Committees in parallel to the Chief Executive Officer (CEO)”.16 About incentive schemes, according to the Liikanen Report, “a regulatory approach to remuner- ation should be considered that could stipulate more absolute levels to overall compensation (e.g., that the overall amount paid out in bonuses cannot exceed paid-out dividends). Board and shareholder approvals of remuneration schemes should be appropriately framed by a regulatory approach”. 17
Ensuring good corporate governance is, therefore, essential for the sound and prudent management of banks18 in crisis time: in fact, the consensus is that “the main bank failures have been attributed to overreliance on short-term wholesale funding, excessive leverage, excessive trading/derivative/market activity, poor lending decisions due to aggressive credit growth, and weak corporate governance”.19 In relation to the corporate governance of banks a number of concerns have been expressed that go beyond the ownership structure and degree of external monitoring, including “the concern (i) that boards are not fully representative of a banks stakeholder base; (ii) that CEOs may be too powerful also vis à vis the chairman and the risk and control senior officers (CFO, CRO, etc.); (iii) that there may not be sufficient reporting by individual business units and limited visibility of intra-group subsidies and transfer pricing; (iv) that “fit and proper tests” are inadequate; and (v) that sanctions are insufficiently puni- tive, etc.” 20
At a regulatory level, there has been an increasing politicization of governance and control mechanisms while dealing with the current financial and economic crisis,21 and the latter was indeed a catalyst rather than the cause for regulatory initiatives.22 Given the close rela- tionship between corporate governance and financial stability,23 new corporate governance rules should try to stop crises from developing into systemic, by regulating management remuneration, the role of the CEO and the composition of the boards.
Appointing non-executive independent directors aims at finding appropriate rules that define and solve, especially in cases of conflicts of interest, the problem of board loyalty.24 Rules for an efficient, loyal, and competent board may in fact enhance corporate governance and promote, as a consequence, the overall stability of the financial
intermediaries through the activities of the independent directors also carried out on the basis of codes of conduct. 25