Y Bhg Tan Sri Zarinah Anwar
Chairman, Securities Commission Malaysia
Securities Commission Malaysia & Bursa Malaysia
Corporate Governance Week 2010
Monday, 28 June 2010
Yang Amat Berbahagia Tun Mohamed Dzaiddin Hj Abdullah, Chairman of Bursa Malaysia
Members of the Board of Bursa Malaysia
Ladies & Gentlemen
Let me start by sharing with you what economist John Kenneth Galbraith wrote in 1961 – almost 5 decades ago: According to him, three traits of any financial community that would put the community at risk of fraud are:
First, to confuse good manners and good tailoring with integrity and intelligence;
Second, the sometimes disastrous inter-dependence between honest man and crooks; and
Third, the dangerous cliche that everything in the financial world depends on confidence. According to him one could better argue the importance of unremitting suspicion.
Ladies and Gentlemen,
The past two years have been a challenging time for the global financial markets. While Malaysia fared relatively well during the crisis, we have lessons learned from our own shortcomings, and from the experiences of other markets. Indeed, there is much discussion today on cross-border integration of financial markets, on global risk contagion and on the need for supervisory cooperation and communication. But we also need to be concerned, very concerned indeed, about our own backyard – about strengthening the integrity of our market systems to make them more robust and efficient. And corporate governance is a fundamental element of this strengthening process.
Good corporate governance is ultimately about performance and accountability both to shareholders and stakeholders such as employees and creditors. This relates to the effective functioning of the board – how it draws on different skill-sets amongst directors, how it sets strategies, and how it interacts with senior management to build knowledge and make decisions in the best interest of the company and the shareholders as a whole. Good corporate governance is key to the integrity of corporations, financial institutions and markets, and central to the health of our economy and its stability.
Today’s business environment is influenced by volatile economic conditions, by intense competition and by greater scrutiny on conduct and performance, all of which impose enhanced responsibilities on the board. It is critical therefore that directors have a comprehensive understanding of their role and possess the necessary skills and competence to discharge their responsibilities effectively. They need to be actively involved in the strategic decision making process of the company and ensure compliance with good corporate governance principles. Suspicion and scepticism must not be subservient to greed and gullibility.
Poor corporate governance is typically characterised by ineffective boards, weak internal controls and poor risk management, unreliable financial reporting, lack of adequate disclosures and poor audits.
Unfortunately this is all too often the case – from directors who singularly advance money without the approval of the board, executives and principal officers who deliberately conceal vital information even to the extent of destroying documents and falsely reporting their loss, and those who furnish false and misleading information to conceal wrongful losses, to directors that flee or disappear when about to be questioned by the authorities, and those who resign at the first sign of trouble to go for holidays in faraway lands on a one-way ticket!
In every company where there is abuse, the traits are all the same – abuses of power, breach of ethics, undermining of internal controls, deception and fraud. From cooking the books to creating fictitious customers in some remote parts of the globe, stealing corporate assets, to excessive pay and perks. In each case, checks and balances failed, and people tried to get away with gains made at someone else’s expense. The absence of intuitive repulsion by some directors with regard to these abuses is cause for immense concern and one that unfortunately, cannot be rectified by regulatory diktat.
These abuses occur because boards, senior executives and principal officers forget the basic fundamentals like – manage the company not the share price, balance short-term returns with long-term investment, real profit, real cash flow and real balance sheets do matter, trust, integrity and responsibility are the cornerstone of any reputable and sustainable business.
In today’s environment, it is not enough for a board to give tacit approval to management in setting the risk profile of the company; boards need to engage management, ask questions, demand answers, and not sign off until they are satisfied. To be able to do this, directors need to be business savvy and risk literate. In order to fully understand the risks, directors need to have a deep understanding of the products and the business; not only how to make money today, but also how they can lose it.
Ladies and Gentleman
The Organisation for Economic Cooperation and Development (OECD) is reviewing its CG principles and engaging regulators worldwide in developing the way forward. The OECD Committee recently concluded that the most important corporate governance failures were mostly due to implementation gap of existing rules and standards. This happens when directors, senior management and principal officers fail to understand and manage risks adequately and tolerate perverse practices because of greed, ignorance or neglect. In other words it is not the foundations of corporate governance nor our standards that needs scrutiny, but rather the people who are put in charge. Boards simply must ensure that they and the companies they oversee abide by best practices.
As some of you may be aware, the SC recently completed an extensive review of all PLCs as part of our on-going regulatory efforts to assess the base-line standards in terms of compliance. Although our review has shown that some PLCs have actually moved beyond merely complying with the minimum standards required by the law or the Corporate Governance Code, demonstrating that the old attitudes are being replaced by greater recognition of accountabilities and obligations in relation to corporate governance duties – there remain a significant number of companies that have chosen merely to comply with the form rather than the substance of the regulations and best practices.
In governance terms, we have seen issues in several areas. For example, independent directors serving too many boards; and some for such prolonged tenures to the extent that they appear too intimate with the company to be deemed independent. There are independent directors who do not sufficiently challenge or participate in the deliberations of the board, nor devote enough time to remain familiar with the evolving nature of the business environment. In some companies, independent directors do not have free access to the company’s management or principal officers beyond that provided in board meetings; while in others we see the dominating presence of individual directors who appear to run the show.
It is important to remember that while Boards have a role to play in assisting and supporting the company, they also have a very important governance role. In discharging this role, they have a duty to protect the public interest, amongst others, by ensuring compliance with legal and regulatory requirements, by reviewing and authorizing plans and commitments, and by evaluating the companies’ and the CEO’s performance. In this regard, Boards must ensure that the executives and senior management have engaged in the appropriate level of due diligence regarding decisions that they take. This must necessarily include the exposure to risks. The failure of boards to assess and manage risks responsibly lies at the center of many corporate failures. New levels of oversight from boards are therefore required. They must exercise due care in decision making, ensuring that the information they receive is accurate, timely, complete and verifiable. It is important that boards demonstrate interest and healthy skepticism by asking probing questions in discharging their role to evaluate, oversee and monitor.
To do a good job of governing, it may be necessary for the Board to engage independent, professional advisers, exercising care in selecting the experts and not hesitating to meet and question as necessary. Audit Committees should, for example, meet regularly with supervisory partners of their company’s auditors, and should require that the auditors disclose conflicts and disagreements about accounting matters and the consequences thereof.
I would like to make the point that interaction and oversight of PLCs by the gatekeepers is as important as regulation. Ensuring the corporate governance equilibrium is not the sole preserve of the regulators. Gatekeepers as reputational intermediaries have an obligation too, and should play their role more effectively in advising companies and performing due diligence.
Auditors, in particular, play a critical function. They are the first set of gatekeepers to ensure that transactions are valid, at arms-length, captured, and properly recorded according to established standards. Auditors are also obligated by law to whistle blow discovery of any breaches of securities laws, rules of the stock exchange, the Companies Act or any matter which may adversely affect the financial well-being of the company. In this regard a strong corporate governance framework also facilitates the necessary assurance on the rigor of the audit process and the quality and reliability of audited financial statements. Towards this objective, the SC has established the Audit Oversight Board to provide independent audit oversight over public interest entities including PLCs and to ensure our regulatory framework for auditors is on par with international standards. I would like to put auditors on notice that the AOB is now fully operational and they have statutory powers.
Ladies and gentlemen
The call to further strengthen governance practices and increase regulation is nothing new especially given the parade of corporate transgressions that have occurred in our market as well as in others. But although new rules and supervisory approaches are important, there are some things that will be even more effective in averting breakdowns that we have seen. Board governance is one critical element. If public listed companies can get their governance act right, the need for more regulation will be reduced, as will the chance of a company taking on risks that are not well understood.
Key to this is making sure that we have the right people on boards, asking the right questions. A good place to start is to establish true leadership division between the CEO and the chairman of the board. It is unreasonable to expect the same person to both be management and lead the board to monitor management. Complaints that the board should apply more scrutiny and have access to better information cannot be adequately addressed until the chairman is a power figure separate from the CEO.
Once an independent chair is in place, it is easier to make the selection of board members an independent process. The present system too often facilitates the appointment of nominees selected by the substantial shareholders. The nominees match the number of seats available, and after disclosing brief biographies, they are elected. This must change – shareholders deserve to know more about the people who stand to represent their interests. They should better understand their backgrounds, experience, and views.
The process should give investors a real ability to elect representatives, not just rubber-stamp the company’s selection.
In addition the Board, with input from the Nomination and Remuneration Committee (NRC), must be responsible for periodically determining the appropriate skills, perspectives, experiences, and characteristics required of Board candidates, taking into account the company’s needs and current make-up of the Board. This assessment should include knowledge, experience, and skills in areas critical to understanding the company and its business; personal characteristics, such as integrity and judgment; and candidates’ commitments to the boards of other publicly-held companies Additionally and even more important is the ability to determine if such a candidate has a good track record. In this regard each board member is expected to ensure that other existing and future commitments do not materially interfere with the member’s service as a director and that he or she devotes the time necessary to discharge his or her duties as a director.
Ladies and gentlemen
A lot of hopes have been pinned on the role of independent directors in recent times. However, their impact has been hollowed out by giving substantial shareholders the prerogative of choosing the independent directors. More often than not, independent directors are chosen by the substantial shareholders who themselves may be represented in senior management, because of their proximity to the controlling shareholders and are beholden to them. This raises serious conflicts of interest. Furthermore, dipping repeatedly into the same wells, has created a nationwide tableau of interconnected boards, a phenomenon that is drawing greater scrutiny in the current day and age.
Well-functioning boards aimed at sustained performance are in truth work-in-progress in Malaysia and we probably have more distance to cover in this regard than in compliance with rules. Many companies do not have a good mix of experience and skills amongst their directors. While some of the bigger companies may have the necessary resources and can seek outside help, there are a large number of companies that require help along this journey.
At the SC we are acutely aware of these limitations and we have focused our energies not just on formulating sound rules and best practice codes , but on encouraging and helping companies to address practical issues in making their boards effective and high-performing.
One area of improvement is in the training of directors. Having committed and skilled directors is a key component in the effective functioning of the board. Although director training is particularly relevant for new directors to assist them in understanding their roles and responsibilities, and to equip them with the necessary skills to do their job, experienced directors also need to continually upgrade their skills to oversee and steer companies in today’s rapidly changing and globalised landscape.
In this regard, the SC is in discussion with Bursa Malaysia on the development of a comprehensive and sustained approach to training and development of directors in Malaysia as well as on how to build on Bursa’s already very useful work on the Training Programme for errant directors, with a view to potentially reintroducing the CEP in one form or another.
However, for this initiative to succeed the directors themselves as industry leaders must show willingness to undergo these programmes, to acquire wider skills and qualifications relevant to their roles and responsibilities and to gain renewed public trust.
The SC is also aware of the shortage of competent and qualified corporate directors. In this regard the SC will be working closely with the Minority Shareholders Watchdog Group and the Malaysian Alliance of Corporate Directors (MACD) to explore ways to centralize and populate the repository of competent and qualified people who can serve as directors. There should be clear guidelines for eligibility for admission to the proposed pool of directors; and a thorough and open vetting process at the selection stage itself is critical for this initiative to succeed.
Ladies and gentlemen
Good corporate governance is a vital part of restoring public trust in how Malaysian companies are run. It has been over a decade since the publication of the High Level Report on Corporate Governance which established the framework for corporate governance post Asian Financial Crisis. Much has been achieved since then. The CG Code is a product of the Report as are the MSWG and the Mandatory Accreditation Programme. Laws have been amended and considerably strengthened and enforcement has been pursued with vigour by the SC as well as by Bursa. But as it is often said, improving corporate governance is a journey, not a destination and the journey must continue.
In continuing this journey, it is important to recalibrate and learn the lessons from the recent crisis, not least so that any policy or regulatory response is appropriately targeted and proportionate and where possible knee-jerk reactions which imposes substantial and unnecessary costs are avoided.
As part of this effort, I am pleased to announce the commencement of work on a new blueprint on corporate governance. This document with specific and measured deliverables will chart an action plan for the next 5 years. With a view to further enhancing Malaysia’s CG standards and identity, this comprehensive and forward looking document will cover strategic priorities from board governance to active shareholder participation.
To ensure that we are guided by the best, I am also pleased to announce the establishment of an International Corporate Governance Consultative Committee (ICGCC), comprising members from the private and public sectors. This Consultative Committee ‘s role is to advise, challenge and establish a new set of policy recommendations for the 5 year corporate governance blueprint. The SC will announce further details of the blueprint and members of the Consultative Committee in August.
Ladies and gentlemen
At the SC, as you can see, we are intensifying our oversight, enforcement and supervisory approach; and this includes our approach to corporate governance. As I hope you would have sensed, the SC is operating with a high level of urgency. Through the initiatives that I have mentioned, we hope to foster an even greater focus on corporate governance.
On that note I wish to thank Bursa Malaysia and Tun for co-organising this event with the SC. I am also deeply appreciative of the participation of many industry groups and professional bodies in the CG Week. Most importantly, I would like to thank the directors who have made time to attend this event. I hope all the events organized throughout the week will be equally well attended given the many topical and relevant issues that will be discussed.