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EXETER UNIVERSITY

Reforming Directors’ Accountability in Banks: The Missed

Opportunity of the Company Secretary

ID Number: 630054341

Word Count: 16, 779

A dissertation submitted in fulfilment of the requirements for LLM International

Commercial Law

October 2014

“I certify that all material in this dissertation which is not my own work has been

identified with appropriate acknowledgement and referencing and I also certify

that no material is included for which a degree has previously been conferred

upon me.”

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ABSTRACT

The financial crisis in 2007 highlighted the overzealous risk taking of directors’

and the lack of accountability mechanisms available to limit their risk-taking

behaviour. The need for bank reform was evident: the introduction of new

regulators, the Financial Conduct Authority and the Prudential Regulation

Authority, was the first step towards reform. However, subsequent scandals

involving bank directors’ rigging LIBOR or mis-selling PPI has made a mockery

of the reforms and proven their inadequacy at limiting destructive director

behaviour.

This paper critically reviews the current regulatory changes aimed at holding

bank directors’ accountable under the Financial Services (Banking Reform) Act

2013. The review of theoretical literature on traditional corporate governance

highlights the redundancy of the shareholder value maximisation theory in

holding directors’ accountable due to the special attributes of banks. Analysis of

previous accountability mechanisms examines the need for change.

Through an analytical and critical framework, drawing on opinion and theoretical

literature, this paper suggests that there has been a missed opportunity to

reform accountability mechanisms ex-ante and internally by increasing the role

of the company secretary. Recommendations on how further enhance

monitoring function of the company secretary are also addressed.

Keywords: Corporate Governance, Banks, Accountability, Banking Reform,

Directors’ duties

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CONTENTS

1. Introduction……………………………………………………...……..page 5

2. The problem of bank corporate governance and accountability….............................................................................page 9

2.1 A definition of corporate governance…………………......page 9

2.2 The Corporate Governance Code………………......…..page 11

2.3 Failings of traditional corporate governance principles in banks………………………………………………………..page 13

2.3.1 The Board of Directors..………….….....page 14

2.3.2 Remuneration……………….…..………page 16

2.3.3 Large or block Shareholders………......page 17

2.3.4 Debt……………………………………....page 18

2.4 Conclusion………………………………………………….page 20

3. Directors’ duties and light-touch regulation…………………….page 21

3.1 Directors’ duties……………………………………..…… page 21

3.1.1 Common Law Duties...……………...….page 21

3.1.2 Statutory Duties of Directors..…………page 24

3.1.3 Observations……………...………….....page 24

3.2 The UK “light-touch” regulatory stance……………...….page 25

3.2.1 The origins of light-touch regulation………..…page 25

3.2.2 The FSA and its light-touch regulation: principles based……………...……………………………………page 27

3.2.3 The end of the FSA and light-touch regulation..................................................................page 28

3.3 Conclusion………………………...……………………….page 30

4. Reforming the accountability mechanism in bank corporate governance………………………………...………………………….page 31

4.1 The Financial Services (Banking Reform) Act 2013...…page 31

4.2 The Senior Persons Regime…………………...………...page 32

4.2.1 The Approved Persons Regime……..…..page 32

4.2.2 The new Senior Persons Regime…….....page 34

4.2.3 A critical evaluation of the Senior Persons Regime……..……………………………….page 36

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4.3 The protection of the whistle-blower…………………….page 38

4.3.1 The law and protection of the whistle-blower……………………………………….page 38

4.3.2 The reform of whistleblowing in the UK....page 39

4.4 Conclusion………………………………………………….page 43

5. The Company Secretary: a missed opportunity………………..page 44

5.1 An overview of the company secretary………………….page 44

5.1.1 General overview…...…………………......page 44

5.1.2 The role and function of the company secretary…………………………...……….page 45

5.1.3 Secretarial duties…………………….........page 46

5.2 The Changing Role of the Company Secretary……......page 47

5.2.1 The importance of the company secretary in corporate governance…..…………………page 47

5.2.2 Changing the perception of the company secretary………………......……………….page 49

5.3 A Missed Opportunity for Holding Directors’ Accountable...................................................................page 50

5.3.1 Representing Stakeholders not just Shareholders……………………………….page 50

5.3.2 Focus on Internal Mechanisms of Accountability…………………...………….page 52

5.3.3 Change in Attitudes……………................page 52 5.4 Recommendations on the Role of the Company

Secretary...page 54 5.4.1 Split the Role……………………………….page 52 5.4.2 Statutory Duties……………...…………….page 53 5.4.3 Appointment of Company Secretary’s…..page 53 5.4.4 A Requirement for Banks to Employ a “Corporate

Governance Officer”……………………….page 53

5.5 Conclusion………………………………………………….page 54

6. Conclusion…………………………………………………………….page 55

7. Glossary……………………………………………...………………..page 58

8. Bibliography……………………....................................................page 59

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1. INTRODUCTION

The global financial crisis of 2007 in which several UK banks, including

Northern Rock, HSBO and Royal Bank of Scotland (RBS), were rescued by tax-

payer money showcased the fragility of banks and the wider impact of their risk-

taking strategies, prompted by short-term shareholder interests, to the stability

of the national economy. The general consensus was that poor corporate

governance and overzealous risk-taking by incompetent bank directors’ and

senior management1 was to blame. In the years following 2007 regulators and

politicians sought to create new regulatory authorities and state of the art

responses to bank resolution in order to curb the potential for further collapses.2

The creation of the Prudential Regulation Authority (PRA) and Financial

Conduct Authority (FCA), a re-calibration of the previous Financial Services

Authority (FSA), sought to repress emerging risks and bank failures through the

new Proactive Intervention Scheme (PIS) and Special Resolution Regime

(SRR) respectively.3

Despite the massive losses incurred by banks, ultimately leading to their near-

collapse and the need for drastic regulatory change to restore public faith4, no

directors’ or senior management were prosecuted for their haphazard risk-

management decisions. Furthermore, it emerged that many senior bank

managers and directors (hereinafter directors) were found to have no real

industry experience or relevant qualifications when authorising financially risky

investment: RBS former chairman Sir Tom McKillop even publicly admitted not

having any banking qualifications or a clear understanding of the financial

products he was authorising.5 Public outrage at the revelations that those in

1 Mehran, H., Morrison, A. and Sharipo, A., “Corporate Governance and Banks: What Have We Learnt From the Financial Crisis?” (2011) Federal Bank of New York Staff Reports 502/2011 <http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1880009> 2 See Financial Services Authority, The Turner Review, “A regulatory response to the banking crisis” March 2009 3 Kirkpatrick, G., “The Corporate Governance Lessons from the Financial Crisis” (2009) Financial Markets Trends, Vol.2009/1 4 Madeline Bunting, “Outrage at banks is everywhere so why aren’t their riots in the street?” Guardian (London, 20th May 2011) <www.theguardian.com/commentisfree/2011/may/30/outrage-banks-riots-streets-muddled> 5 James Kirkup, “RBS Scandal: Sir Tom McKillop profile” The Telegraph (London, 17th March 2009) <www.telegraph.co.uk/finance/newsbysector/banksandfinance/5006595/RBS-scandal-Sir-Tom-McKillop-profile.html>

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senior positions of management within a bank were unqualified, or in some

cases negligent with their risk-taking strategies,6 prompted the UK government

to re-think how to regulate and hold accountable those in senior management

positions.

The newly formed FCA and PRA were assigned the role of monitoring all those

wishing to perform a “controlled function”7 at a UK authorised firm under the

Approved Persons Regime (APR).8 The APR included in its ambit those who

had a significant influence on financial service institutions e.g. bank directors.

However, in 2012 Paul Flowers was appointed as a non-executive chairman of

the Co-operative bank a year before its £1.5 billion deficit was exposed despite

passing the APR.9 Later it emerged that he had little experience in banking and

was found guilty in March 2014 of drug possession for cocaine and crystal

methamphetamine. The new regulatory methods were unsuccessful and would

later be described as “shambolic” by the Parliamentary Commission on Banking

Standards (PCBS) in its “Changing Banking for Good” report.10 The scandals of

LIBOR and PPI only served to enforce such opinions.

The government needed to take drastic action. In 2013 the Financial Services

(Banking Reform) Act (the Act) received Royal Assent and was described as

the biggest shake up to the banking system in a generation11. The focus of the

Act is the improvement of corporate governance by holding those in senior

management positions personally accountable for rogue or irresponsible

actions.12 A new Senior Person Regime (SPR) and Licencing Regime (LR) were

introduced on the recommendations of the PCBS report to enforce tougher

sanctions, including criminal sanctions, and more stringent reviews of those

6 n.4 7 “Senior Persons Regime: Implications for Senior Decision Makers” (Grant Thornton Financial Services Group) <www.grant-thornton.co.uk/Documents/financial-services/Senior%20Persons%20Regime%202014.pdf> 8 Ibid. 9 ibid. 10 Sir David Walker, “A Review of Corporate Governance in UK Banks and Other Financial Industry Entities, HM Treasury”, 16 July 2009 11 ibid. 12 Caroline Bingham, “Watchdog Targets Bankers With Big Rise in Penalties” Financial Times (London, 13th April 2014) <www.ft.com/cms/s/73b6e838-c316-11e3-94e0>

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who have influence over risk-management decisions in banks.13 Currently there

are debates as to what criteria must be met for those wishing to have a

controlling position within a bank, with the hope of implementing the new regime

in 2015. This paper will analyse and critically assess why previous

accountability mechanisms have been unsuccessful at stemming risky

decisions taken by directors which led to the 2007 collapse. Further, it seeks to

critically assess new approaches to be taken in holding those directors’

accountable.

Chapter one will analyse the traditional method of accountability, through

corporate governance, which limits managerial discretion by holding directors’

accountable to shareholders through the Anglo-American theory of shareholder

value maximisation. Secondly, analysis of the special attributes of banks

highlights why traditional corporate governance theories have been unable to

hold directors’ accountable. It has now widely been acknowledged, since the

collapse of United States (US) banks in the 1980s and the subsequent collapse

of banks in the US and UK in 2007, that the traditional corporate governance

form of shareholder maximisation is no longer appropriate14. The 2007 banking

collapse through the instability of the banking sector into the spotlight, but also

the inadequacies of regulations put in place to incentivise directors to make

decisions that did not put the larger economy at risk. The outright looting and

fraudulent activities of some directors highlighted the serious need for corporate

governance reform away from the traditional shareholder maximisation theory.

Chapter two provides a deeper critical analysis of the regulation put in place to

address the lack of accountability due to the failures traditional shareholder

value maximisation theory. Directors’ duties are the minimum standard of care

that directors must have towards shareholders and are unable to be derogated

from. However, these duties have failed to adequately hold directors

accountable to shareholders. Secondly, the UK “light-touch” regulatory

standpoint, first advocated by the Labour Government, relied upon market

based regulation; a lapse in judgment that has been well-documented to have

13 Robert Peston, “Jail Reckless Bankers, Standards Commission Urges” BBC News (London, 19th June 2013) <www.bbc.co.uk/news/business-22954586> 14 See analysis in chapter one.

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contributed to the lack of accountability of directors’ and their attitudes towards

sanctions.15

The recognition of the need to reform the accountability mechanism has now

been well established. Chapter three critically analyses the new regulatory

schemes brought in by the Act that aim to hold directors’ personally accountable

and attempt to change corporate governance. The introduction of the SPR is

the first move towards realising individual accountability. Secondly, the reform

of the protection of the whistle-blower has sought to strengthen corporate

governance accountability methods internally.

However, this paper seeks to highlight that, while the reforms introduced by the

Act have sought to attempt to rectify issues within the banking industry, there

has been a missed opportunity for reform. Chapter four discusses the notion of

the company secretary as being best placed to monitor corporate governance

principles internally, thus once more holding directors accountable to

shareholders. The paper concludes that there needs to be a reform of the

company secretary role and a change in the status of the role in the law in order

for internal monitoring of corporate governance principles to flourish. Further

recommendations to this end are given.

15 A Greenspan, “The fed is blameless on the property ladder bubble, The Financial Times, (London 7 April 2009) <www.ft.com/cms/s/0/81c05200-03f2-11dd-b28b-000077b07658.html>

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2. THE PROBLEM OF BANK CORPORATE GOVERNANCE AND

ACCOUNTABILITY

The Walker Review on the Corporate Governance of UK Banks (2009)16, in its

final recommendations, stressed the lack of sound corporate governance

principles within banks as being the reason why directors were able to take

excessive risk and escape accountability. The purpose of this chapter is to

provide an understanding of corporate governance and the special attributes of

a bank that warp traditional corporate governance methods of limiting those with

a managing function.

2.1 A definition of corporate governance

The concept of corporate governance is rooted in Berle and Means’ 1932

paradigm of the separation of ownership and control in the modern

corporation.17 Within modern corporations those with an interest in the company

(i.e. stakeholders) are able to appoint managers with expertise to run their

company on a day-to-day basis - therefore the ownership of the company is

separate from those that control it. John and Senbet define corporate

governance as a “mechanisms by which stakeholders of a corporation exercise

control over corporate insiders and management such that their interests are

protected”.18 Similarly, Zingales contends that corporate governance is a

“complex set of constraints that shape the ex-bargaining over the quasi-rents

generated by a firm”.19 In a financial context corporate governance can be seen

as a way in which suppliers of finance get a return on their investment.20 The

importance of corporate governance to the functioning of a company is

highlighted by Khan, who states that “fine corporate governance is an essential

16 n.10 17A. Berle, and G. Means, “The Modern Corporation and Private Property” (1932) University of Pennsylvania Law Review and American Law Register, Volume 81, Number 6, pp. 782-785 18 K. John, L. Senbet, “Corporate Governance and Board Effectiveness” (1997) Department of Finance Working Paper Series 1998, FIN-98-045, 2 19 L. Zinagels, “Corporate Governance” (1998) The New Palgrave Dictionary of Economics and the Law <http://ssrn.com/abstract=46906> 2 20 A. Sheifler and R. Vishny, “A Survey of Corporate Governance” (1997) Journal of Finance, Volume 52, Number 2, pp. 737-783

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standard for establishing the striking investment environment which is needed

by competitive companies to gain a strong position in the financial markets”.21

Corporate governance is thus the internal mechanism for dealing with the

conflict between those who own the company and those in control of the

company - i.e. agency problems, or as Hart proposes, the conflict over “the

right to decide how…assets…should be used”.22 Agency problems occur when

the interests of stakeholders are not aligned, and thus the allocation of

resources to productive uses is limited.23 Jensen and Meckling provide the

principle theory of ownership structure of corporations that lead to agency

problems: that the corporation can be thought of as a nexus of both implicit and

explicit contracts amongst various stakeholders.24 Hart adds that every

business represents merely nothing more than a “standard form” contract that is

tailored to the business being pursued.25 Therefore, as John and Senbet rightly

note, left to their own devices each stakeholder, who has his own personal

“contract” as part of the company, will pursue his own interests at the expense

of other stakeholders - thus detracting from efficient operation of an enterprise.

An example is the difference in managers’ horizons to that of shareholders - i.e.

shareholders are concerned with the indefinite cash-flows over the lifespan of

the company (or at least their investment in it), whereas managers are only

concerned with cash-flows during their employment.26

Corporate governance deals with agency problems whose transaction costs are

too high to be dealt with in the “contract” of the firm - i.e. corporate governance

completes an otherwise incomplete contract. Hart notes, that while it is

preferable to write a costless comprehensive contract, in reality it is simply not

possible, not least because of the cost of having to think of all eventualities that

21 H. Khan, “A Literature Review of Corporate Governance” (2011) International Conference on E-business, Management and Economics, IPEDR Vol.25, 1 22 O. Hart, “Corporate Governance: Some Theory and Implications” (1995) The Economic Journal, Volume 105, Number430, pp. 678-689, 680 23 L. Laeven, “Corporate Governance: What’s So Special About Banks?” (2013) Annual Review of Financial Economics, Vol.5: 63-92, 65 24 M. Jensen and W. Meckling, “Theory of the Firm: Managerial Behaviour, Agency Costs and Ownership Structure” (1976) Journal of Financial Economics, Volume 3, Number 4, pp. 305-360. 25 n.22, 681 26 Jorge Frinha, “Corporate Governance: a Review of the Literature”, Research Centre on Industrial, Labour and Managerial Economics, November 2003, 7

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could occur during the lifetime of the contract. While it is possible to have

agency problems with a wide range of stakeholders e.g. between the private

and public sector (“social agency”),27 the principle concern of this paper is the

private agency perspective.

2.2 The UK Corporate Governance Code28

UK corporate governance theory relies upon the Anglo-American notion of

shareholder value maximisation i.e. holding directors accountable to

shareholders by way of requiring them to maximise value for those

shareholders, in order to curb agency problems. In the shareholder value

maximisation theory, directors are unable to advance their own interests: those

directors who do not advance the best interests of the shareholder are able to

be held accountable and replaced by those shareholders, thus ensuring that all

assets are put to productive use.

The legal manifestation of this acceptance is in the UK Corporate Governance

Code29 (the Code), originally based on recommendations from the Cadbury

Report in 199230, on best principles to ensure satisfactory corporate governance

practices. The Code only applies to listed companies under r. 9.8.6(5) and (6) of

the Listing Rules,31 but is often used more widely. While not a statutory

mechanism, the Code operates on a “comply or explain” basis supervised

through the Financial Reporting Council (FRC) under the Financial Services and

Markets Act (FSMA) 2000 and can be regarded as “soft law”.

The most recent version of the Code (2012) states that its main aim is to

“facilitate effective, entrepreneurial and prudent management that can deliver

long-term success to the company”.32 Paragraph 2.5 of the Code further

supports the definition of corporate governance analysed above as being:

“…the system by which companies are directed and controlled. Boards of directors are responsible for the governance of their companies. The

27 See Kose John and Lemma W Senbet, “Corporate Governance and Board Effectiveness” Department of Finance Working Paper Series 1998, October 2007, 8 for a full list of potential agency problems. 28 Financial Report Council, UK Corporate Governance Code, September 2012 29 n.10 30 Report of the Committee on The Financial Aspects of Corporate Governance (“the Cadbury Report”) Final Report (1992) and subsequent amendments since. 31 United Kingdom Listing Authority, “Listing Rules” 32 n.10, 1

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shareholders’ role in governance is to appoint the directors and the auditors and to satisfy themselves that an appropriate governance structure is in place. The responsibilities of the board include setting the company’s strategic aims, providing the leadership to put them into effect, supervising the management of the business and reporting to shareholders on their stewardship. The board’s actions are subject to laws, regulations and the shareholders in general meeting.”33

The Code further adds that it is a “guide to a number of key components of

effective board practice. It is based on the underlying principles of all good

governance: accountability, transparency, probity and focus on the sustainable

success of an entity over the longer term.”34 In total there are five main principle

areas which the Code seeks to provide guidance for namely:

a) Leadership – that every company must be headed by an effective Board

with the long-term interests in the company at stake;

b) Effectiveness – that there should be the appropriate balance of skills,

experience, independence and knowledge of the company for the board

to exercise their duties. Moreover, there should be a transparent and

open procedure for the appointment of new directors;

c) Accountability – the board should be responsible for determining the

nature and extent of the risks it is willing to take in achieving its strategic

aims;

d) Remuneration – the levels of remuneration should be sufficient to attract

and incentivise directors to run the company to the quality required and

e) Relations with shareholders – there should be a dialogue with

shareholders based on the mutual understanding of objectives.

Despite the Code’s focus on accountability and alignment of shareholder and

directors’ interests, both within the most current version and previous versions,

the Code failed to hold any sway during the financial crisis in 2007 and

subsequent scandals since. This is partly due to previous versions of the Code

being based on the traditional corporate governance theories analysed above. It

33 ibid. drawing from the “Cadbury Report” 34 ibid. 1

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is unknown whether the newer 2012 version will have any effect on

accountability of directors long-term, although it is highly unlikely due to a banks

special characteristics. The subsequent evaluation of corporate governance in

banks analyses why reliance upon that traditional corporate governance

methodology is inappropriate for holding bank directors’ accountable.

2.3 Failings of traditional corporate governance principles in banks

Laeven accepts that sound corporate governance principles help contribute to

the allocation of capital to its most productive use in financial institutions. He

states that “sound corporate governance contributes twofold to this outcome.

First, it assures that the providers of capital to a financial institution (depositors,

debt holders, and shareholders) get a return on their investment, without

managers stealing the capital. Second, it prevents managers of financial

institutions from investing in bad projects”.35

Traditional corporate governance employs certain methods in order to re-align

directors and shareholders, thus holding directors accountable to shareholders

once more. However, the emergence of the LIBOR and PPI scandals highlights

their inability to do so, even with new regulators, the FCA and PRA, in place.

Laeven notes that this “highlight[s] that the internal governance of firms, despite

the presence of sizeable risk management and compliance functions in all

major financial institutions, does not work effectively”.36 While some of the

problems associated with non-financial institutions (NFIs) are also present in

banks -i.e. the separation of ownership and control and the principle-agent

problem, some special attributes of banks can intensify corporate governance

standards.37 Further, the presence of government regulation seeks to further

alter bank governance altogether.38

The foregoing analysis, identifying the traditional methods of holding directors

accountable by limiting their discretion via alignment of shareholder and

35 n.23, 64 36 ibid. 37 G. Capiro Jr and R, Levine (2002), “Corporate Governance of Banks: Concepts and International Observations”, paper presented in the Global Corporate Governance Forum research Network Meeting, April 5 38 n.35, 81

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managers interests, through incentive-compatible compensation arrangements

(these serve as a “monitoring” function)39, highlights the inadequacy of applying

traditional shareholder value maximisation theories of NFIs to banks.

2.3.1 The Board of Directors

John and Senbet equate the board of directors to being the primary means for

shareholders to exercise control over management, a view that is shared by the

Treasury Committee of the House of Commons.40 Fama and Jensen state that

the main responsibility of the board is to ratify management decisions as well as

monitor performance.41 Boards include both executive directors i.e. those with

the managing function of the company, who make decisions on behalf of

shareholders on the daily running of the company, and non-executive directors

(NEDs) who are outside the company. It would be purposeless for managers of

the board to monitor themselves, as they would only serve their own interests,

and thus agency problems would still be intact leaving the function of the board

in its monitoring capacity redundant. Managerial collusion is therefore meant to

be limited by the presence of NEDs who have none of the characteristic agency

problems associated with managers as they are independent from the

company, but still have fiduciary duties to promote the success of the company

for the benefit of shareholders.42 NEDs are therefore employed for corporate

monitoring.

However, evidence as to the effectiveness of the board in its managerial

function is questionable: Mace notes that managers appoint NEDs for

shareholder approval and supply them with the information to be judged in the

first place.43 This effectively allows for management to judge on the suitability of

an NED, giving leeway for him to extract higher private benefits of control by, for

example, nominating an NED he knows to have favourable viewpoints.

Consequently, this also means that NEDs effectively owe their positions of

39 J. Macey, M. O’Hara, “The Corporate Governance of Banks” (2003) Economic Policy Review, Volume 9, Number 1, <http://ssrn.com/abstract=795548> 6 40 n.27 and House of Commons Treasury Committee, “Banking Crisis: Reforming Corporate Governance and Pay in the City” Ninth Report Session 2008-2009, 47 41 E. Fama,, M. Jensen, “Separation of Ownership and Control” (1983) Journal of Law and Economics, Volume 25 42 See chapter two 43 M. Mace, “Directors: Myth and Reality” (1986) Boston: Harvard Business School Press

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responsibility to the managers who sought their appointment in the first place:

therefore the need to satisfy managers by approving company strategies limits

the effectiveness of their monitoring function. Hart states that by staying in the

managements “good graces” NEDs also have the opportunity to be re-elected

and continue collecting their fee.44

This provides for a somewhat circular viewpoint on the notion of really how

independent a board can be in monitoring management. The shareholders are

effectively only being able to choose NEDs from a pool chosen by managers,

thus managers have the potential to act to the detriment of the shareholders.

Therefore, NEDs who have favourable views towards management may not

adequately assess the risk of decisions being made. Moreover, as Hart notes,

there is no way of knowing whether an NED will be competent in their

monitoring ability.45 This is only highlighted by the recent reports of NEDs

having neither the skill nor expertise to fully comprehend the types of deals they

were approving. Sir Tom McKillop, who was appointed as an NED to Lloyds

Banks, which during the financial crisis required assistance and restructuring,

admitted to having no banking qualifications nor a firm understanding of the

types of deals that he was authorising.46

The inability for NEDs to understand the deals they are authorising illustrates

the lack of monitoring of bank boards and senior management during the time

of the crisis. Mehran, Morrison and Shapiro note that “one of the most often

cited components of effective governance is the ability and willingness of bank

boards to challenge management”:47 if NEDs are unaware of the financial

products they are authorising, or have high private benefits to extract, then the

challenging function is redundant. While theory suggests that the poorly

performing managers, or those managers taking excessive risk, are better

44 n.23, 682 45 n.23, 683 46 James Kirkup, “RBS Scandal: Sir Tom McKillop profile” The Telegraph (London, 17th March 2009) <www.telegraph.co.uk/finance/newsbysector/banksandfinance/5006595/RBS-scandal-Sir-Tom-McKillop-profile.html> first accessed 1st July 2014 47 n.1, 11

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limited by an increase in independent outside directors,48 the banking crisis

shows this theory becomes unstuck when NEDs are an ineffective check due to

their incompetence or unavailability to provide an adequate amount of time to

oversee directors.49

The lack of checks on managers comes from banks becoming ever more

increasingly complex and opaque, continually diversifying as globalisation

continues to expand. Despite Principle B.1 of the Code stating the necessity of

a board to have “the appropriate balance of skills, expertise, independence and

knowledge of a company to carry out their respective duties and responsibilities

effectively”50 the financial crisis of 2008 highlighted the woeful inadequacies of

bank boards in limiting managerial discretion.

2.3.2 Remuneration

Farinha notes the strong relationship between managerial compensation and

firm performance in trying to align shareholder and manager interests.51 Laeven

states that managerial compensations are often “highly contingent, long term

incentive contract[s]”.52 Ultimately risk taking by managers will therefore depend

on how much their interests are aligned with that of shareholders: if a

manager’s compensation arrangement is linked to the success of the company

the manager has an incentive to ensure the success of that company (and

therefore the success of his own compensation).

However, the extent that this is true of both NFIs and of banks is questionable.

Farinha whose paper focuses on general corporate governance, notes that

Jensen and Murphy “conclude that most compensation contracts are

characterised by a general absence of real management incentives and that the

observed compensation patterns are inconsistent with the implications of formal

48 M. Weisbach, “Outside Directors and CEO Turnover.” (1998) Journal of Financial Economics, Volume 20, pp. 431-60 and J. Rosenfeld, “Additional Evidence on the Relation between Divestiture Announcements and Shareholder Wealth (1984) Journal of Finance, Volume 39, pp. 1437-1448. 49 ibid. 50 n.10, 11 51 Farinha, J., “Corporate Governance: A Review of the Literature” (2003) Centro de Estudos de Economia Industrial, do Trabalho e da Empresa Research Center on Industrial, Labour and Managerial Economics, 1/2003, 39 52 n.23, 8

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agency models of optimal contracting.” 53 Moreover, Laeven (2013 p.9) states

that, in the case of banks during the financial crisis, empirical evidence from

Fahlenbrach and Stulz suggests that those managers whose interests were

aligned with those of shareholders actually performed worse.54

Mehran, Morrison and Shaprio state to this effect, that conventional wisdom

“holds that executive pay structure was designed to enhance risk taking and

create value for shareholders but not to protect debtholders”.55 Banks differ from

NFIs due to their large amount of diffused stakeholders, in particular

debtholders, “the majority of which are depositors or holders of subordinated

debt”.56 However, a bank is highly leveraged and, as it plays a part in the wider

economy, the Government has an interest in its financial health (as do tax-

payers). Therefore, the leverage is subsidised by deposit insurance from the

Government i.e. if the bank is near collapse the Government will provide

equity.57 Mehran, Morrison and Shaprio acknowledge that this subsidisation

directly affects compensation as a bank’s size and pay are highly correlated.58

As bank subsidisation contributes to the growth and size of the firm, it also

contributes to the rate of executive pay.59 Pay is therefore overly inflated and

further, not tied to the success of the company, therefore managerial

incentivisation is diluted and accountability to shareholders lacking.

2.3.3 Large or blockholder shareholders.

Shareholders are able to better align the interests of their management with

their own interests if they are concentrated. This gives an incentive for

shareholders to monitor management better i.e. check the independence of a

Board or the level of remuneration of a manager, because they have a larger

stake and therefore a bigger interest in the company. This theory is largely

uncontested.

53 n.51, 39-40 54 n.23, 9 and R. Fahlenbrach and R. Stulz, “Bank CEO Incentives and the credit crisis” (2011) Journal of Financial Economics, Volume 99, pp.11-26 55 n.1, 5 56 ibid. 57 n.10, 83 58 n.1, 5 59 ibid.

18

However, while NFIs, particularly in Continental Europe, generally have

blockholder shareholders this is rarely the case for banks - the reason being

that most countries, including the UK, “restrict the concentration of ownership

and the ability for outsiders to purchase a substantial percentage of bank stock

without regulatory approval.”60 By having a diffused ownership structure the

bank is subject to the increased free-rider problem i.e. that no one shareholder

owns enough stock to warrant monitoring it properly.

Similarly, the change in the types of shareholders in banks in recent years has

created further free-rider problems and a lack of checks on managerial

discretion. The Walker Review 2009 highlights the reasons for the rise in the

institutional investor being “a combination of tax, cost and regulatory

factors…[which has]… over time encouraged the aggregation of investment in

institutional hands while, alongside, portfolio theory and investment advisers

have driven high levels of portfolio diversification and low conviction investment

strategies through fund management mandates.” 61 Although the review regards

this portfolio diversification as a “rational response to perceived client

responses, commercial incentives and the use of relative benchmarks”62, the

Banking Commission has blamed the rise of the institutional investor for not

properly interacting with bank Boards in order to limit risk taking behaviour.63

This comes as institutional investors, such as hedge funds and equity houses,

focus on what the Walker Report dubbed “short-term horizons” - i.e. they are

only interested in high returns in the short-term without thought to the long-term

harm that high risk ventures may have on a banks future. Moreover, those

shareholders without any long-term horizons are more likely to push managers

into more risky decisions as opposed to limit their risk-taking abilities.64

2.3.4 Debt

60 n.37 61 n.10, para.5.3, 59 62 n.10, para. 5.10, 70 63 Independent Commission on Banking, The Vickers Report & the Parliamentary Commission on banking standards - Commons Library Standard Note, (2013) 6 64 n.1, 9

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Jensen and Meckling first rationalised debt as a means of reducing agency

problems.65 Farihna states that “the issue of debt instead of equity facilitates an

increase in managerial ownership and therefore a greater alignment of interests

between managers and shareholders”.66 Further, Fariha adds that “increased

debt imposes on management a higher threat of bankruptcy as a penalty of

defaulting on debt interest or principal payments”.67 Stulz purports that leverage

serves to limit managerial discretion and non-value maximisation behaviour.68

Such theories are well suited to limiting managerial discretion in NFIs, but debt

is less of a limit within banks. Mehrna, Morrison and Shapiro note that in a NFI

“leverage is a source of financing, while in the banking sector it is a source of

production”.69 A banks balance sheet is more than 90 per cent debt at any one

time, and therefore their capital structure different to that NFIs. Moreover,

Macey and O’Hara note that a “banks’ liabilities are generally in the form of

deposits, which are available to their creditors/depositors on demand, while

their assets often take the form of loans that have longer maturities…thus the

principle attribute that makes banks as financial intermediaries “special” is their

liquidity production function. By holding illiquid assets and issuing liquid

liabilities, banks create liquidity for the economy.”70 This systemic risk to the

wider economy is therefore regulated because, as Laeven notes, banks will not

internalise the risks that failure of their firm will have on the wider economy.71

While acknowledgment of the limitations of corporate governance in stemming

systemic risk is undoubtable, the implications of regulation on internal corporate

governance of a bank, changes the risk-taking behaviour of directors. This

essentially serves to further dis-align the interests of directors and shareholders

thus leaving directors unaccountable to shareholders. Regulation curbs

systemic risk by providing deposit insurance i.e. a guarantee from the

government of intervention in the case of insolvency in order to protect

65 n.24 66 n.51, 41 67 ibid. 68 R, Fahlenbrach and R. Stulz, “Bank CEO Incentives and the credit crisis” (2011) Journal of Financial Economics, Volume 99, pp.11-26 69 n.1, 4 70 n.39, 4 71 n.23, 10

20

depositors and the wider economy. This insurance serves to negate the function

of insolvency and bankruptcy used to limit managerial discretion in the case of

NFIs. The safety net of deposit insurance makes many investment opportunities

appear unrealistically attractive to bankers due to under-priced debt. And, as

banks take more risks than optimal for society, as their shareholders are subject

to limited liability, the presence of deposit insurance serves only to reinforce

these risk-taking incentives.72

2.4 Conclusion

The above analysis of the special nature of corporate governance in banks

illustrates that specific qualities, relating only to banks, means that traditional

corporate governance breaks down. The ability of shareholders to align

directors’ interests with their own is lacking: without shareholder and director

alignment there can be no accountability of directors to shareholders.

Furthermore, there has been a change in types of shareholder from those

interested in the long-term prospects of the company to institutional

shareholders eager for short-term gains from high risk ventures. Regulation is

therefore arguably required in order to curb director discretion and hold those

who do not comply with regulation, or take excessive risk, accountable.

72 ibid.

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3. DIRECTORS DUTIES AND LIGHT-TOUCH REGULATION

The previous chapter firstly analysed the importance of corporate governance in

limiting managerial discretion. Secondly, it highlighted that previous reliance on

NFI-focused corporate governance literature, was inadequate in holding

directors’ accountable to shareholders, as banks have special characteristics

which leave shareholder/director interests unaligned. Banks are therefore

regulated in order to re-align interests and hold directors accountable.

3.1 Directors’ Duties

Based on the assumption of an acceptance of Jenson and Mecklings nexus-of-

contracts theory for the form of corporation, corporate governance works on the

basis of completing an otherwise incomplete contract. As Macey and Miller

note, the justification for fiduciary duties is the “legal system filling in unspecified

terms of shareholders contingent contracts” and “call on directors to work hard

and promote the interest of shareholders above their own”.73 Fiduciary duties

are the basic level of responsibility a director must have towards the company in

order to increase shareholder value. Directors are therefore unable to derogate

from these duties. English company law does not distinguish between executive

directors and NEDs, and their duties remain the same. However, with regards to

enhancing corporate governance, Tomasic notes the courts “modest role” in

defining and enforcing director’s duties.74

English law has long acknowledged the notion of fiduciary duties and has now

codified those duties in Chapter 2, Part 10 of the Companies Act 2006 (CA

2006) on recommendation from the Law Commissions75 and the Company Law

Review (CLR) in its Final Report76.

3.1.1 Common law duties

73 J.R. Macey and G.P. Miller, “Bank Failures, Risk Monitoring, and the Market for Bank Control” (1988), Columbia Law Review, Volume 88, pp.1153-1226, 1173 and 1178 74 R. Tomasic, “Beyond Light-touch Regulation of British Banks after the Financial Crisis” in The Future of Financial Regulation (2010, Oxford: Hart Publishing) pp. 103-122, 115 75 Company Directors: Regulating Conflicts of Interest and Formulating a Statement of Duties (Law Com No 261, 1999), Pt 4. 76 Modern Company Law for a Competitive Economy: Final Report (2001), Vol 1, Annex C

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Despite codification into the CA 2006, section 170(3) states the relevance of

common law in the interpretation of the duties contained therein. Being subject

to fiduciary duty means that directors are required to act in good faith in their

dealings with the company and to exercise powers conferred honestly77 as a

matter of law. However, directors only need uphold these duties for the benefit

of the company and not for individual shareholders: although UK corporate

governance theory is based on shareholder value maximisation the company

represents the shareholders collectively.78

Common law duties can be categorised into the duty to act within the interests

of the company, a duty to exercise powers for proper purpose79 (relics from the

notion of directors as trustees80) and the duty of care of skill (a trust law relic).

A. Duty to act within the interests of the company

The leading case of Re Smith and Fawcett Ltd81 stated that directors have a

duty to act in good faith in what they believe to be the best interests of the

company;82 a subjective test. By this standard, so long as a director can

convince the court that they acted in the bona fide interests of the company,

they are free from wrongdoing. Jonathan Parker J furthered the opinion of the

court on the subjectivity of the duty of good faith in Regentcrest Ltd. v Cohen,

where he stated that it was not the job of the courts to decide on how a director

should have acted and how he did act, as this is the responsibility of

professionals.83 However, acting in good faith is not in itself enough; a director

will have breached his duty if he is found to have acted honestly but not within

the best interests of the company.84 Moreover, a director must not put himself in

a position where his personal interest may conflict with that of the company85,

77 n.3 54 78 Pervical v Wright (1902) 2 Ch 421, 425-6. 79 Sometimes referred to as the “proper purposes doctrine”. 80 Sealy, “The Director as Trustee” (1967) The Cambridge Law Journal, Volume 25, Issue 01, pp 83 – 103 81 (1942) Ch. 304 82 ibid. at 306 83 [2001] 1 B.C.L.C. 80 at 105b. 84 Re W & M Roith Ltd. (1967) 1 All ER. 85 See for example Aberdeen Rly Co v Blaikie Bros (1854) 2 Eq Rep 1281, HL, Knight v Frost (1999) 1 BCLC 364, Ball v Eden Project Ltd. (2001) 1 BCLC 313.

23

and he may not profit from his position as director86 as this would be against the

interests of the company.

B. Duty to exercise powers for proper purpose87

Directors have powers conferred on them by a company’s articles of association

over the company assets and have a duty to exercise those powers for proper

purposes. Any use of company assets, other than for this purpose, will render

the director in breach of his duty. Cases have mainly arisen regarding the issue

of new shares for the purposes of blocking potential takeovers as seen in the

leading case of Punt v Symons & Co Ltd.88

C. The duty of skill and care

Historically based on the law of negligence, the duty of skill and care has

previously had a low standard of care due to subjective formulation and

directorships being perceived as a “gentleman’s sport”.89 In Re Brazilian Rubber

Plantations90 the court confirmed that the duty of care and skill should be

subjectively tested, and that directors need only exercise such care as can

reasonably expected of him with his knowledge and experience91. The classic

case for bank directors, Marquis of Bute’s case,92 furthered that the “reasonable

person test” i.e. an objective test, would not apply to acts or omissions of a bank

director or senior manager who had failed to keep himself informed of the banks

activities.

The courts confirmed the subjective test in the leading case of City Equitable,93

which remains the leading authority on the standards expected of directors.

Romer JT established three basic principles:

a) A director need only display skills which he currently possesses, and

not those above that.

86 See for example Cook v Deeks (1916) 1 AC 554, Gencor ACP Ltd and Others (2000) 2 BCLC 734. 87 For a more in depth discussion see Saul Fridman, “An Analysis of the Proper Purposes Rule” (1998) Bond Law Review, Vol. 10, Issue 2, Article 3. 88 (1903) 2 Ch 506 89 Dovey v Cory (1901) AC 477 90 Re Brazilian Rubber Plantations and Estates Ltd. (1911) 1 Ch 425 91 Re City Equitable at 427 92 Re Cardiff Savings Banks (Marquis Butes Case) (1982) 2 Ch. 100. 93 Re City Equitable Fire Insurance Co. Ltd. (1925) Ch 407

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b) He need not devote his continuous attention to the business and

c) In the absence of suspicion he is able to rely on the experience and

expertise of others in the company.

3.1.2 The statutory duties of directors

The Law Commission and the CLR recommended a “high level” of statutory

statement of directors’ duties in order that those affected by them more readily

understand their obligations. There are now seven director’s duties which are all

based on well-established common law principles, namely: a duty to act within

the terms of his powers under the company’s constitution;94 a duty to promote

the success of the company as the director sees it in good faith95; a duty to

exercise independent judgment;96 a duty to exercise reasonable care, skill and

diligence;97 a duty to avoid conflicts of interest;98 a duty not to accept benefits,

such as bribes and secret commissions;99 and a duty to declare interests in

transactions.100 Further, section 179 of the CA 2006 makes it possible for more

than one of these general duties to be applicable at any one time.

3.1.3 Observations

Directors’ duties are the core basis of the regulation under the CA 2006.

However, the UK courts are less than willing to intervene in the running of

companies, leaving the bulk of regulation to Parliament. It is unsurprising that

these duties failed to hold directors accountable to shareholders and re-align

interests, despite codification of duties and emphasis on the importance of

promoting the success of the company.

While Macey and O’Hara’s theory on expansion of fiduciary duties, particularly

the duty of care and skill, is grounded in the need to expand horizons away from

shareholder value maximisation,101 it is unlikely that such a radical shift away

from the Anglo-American model will take place. Therefore, while the Anglo-

94 Companies Act 2006, s. 171. 95 ibid. s.172 96 ibid. s.173 97 Ibid. s.174 98 Ibid. s.175 99 Ibid. s.176 100 Ibid. s.177 101 n.39, 99

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American shareholder value maximisation theory holds sway there seems no

reason to increase the amount or scope of fiduciary duties. The courts’

unwillingness to intervene, thus leading to fairly low standards of care, is

unlikely to change anytime soon: common law developments being notoriously

slow. Similarly, merely increasing those who directors owe duties to is unlikely

to change their accountability as the scope for sanctions is limited. Director

knowledge of the unlikelihood of sanctions will not provide a change in the

attitudes of bank managers: corporate governance can therefore not properly

reform and risk will still be prevalent.

Although Macey and O’Hara’s idea of increasing fiduciary duties to include

stakeholders other than shareholders is an attractive prospect, it is unlikely to

have the same impact as it may have in the US where courts are more readily

intervene in company affairs. With regards to the UK increasing fiduciary duties

will not help reform management attitudes and thus not hold managers

accountable: more drastic action is required.

3.2 The UK “light-touch” regulatory stance.

Statutory directors’ duties failed to hold managers accountable to shareholders.

However, the well-documented inadequacy of light-touch regulation, or as

Bruce called it “an effectively unregulated”102 standpoint, first initiated by the

Labour party was considered as being a major flaw in the supervision of

directors and part of the reason for the financial collapse in 2007.103 Although

the FSA and the enactment of the Financial Services and Market Act 2000

(FSMA) were intended to address the issue “self-regulation”, AE Goodhart

branded the scheme as “weak and woolly”.104

3.2.1 The origins of light-touch regulation

102 A Bruce interview with E Hobsbawm, 3 November 2008 <www.money.uk.msn.com/investing/articles/morecommentary/article.aspx?cp-documentid=10465208> taken from Tomasic, “Beyond Light-touch Regulation of British Banks after the Financial Crisis” in “The Future of Financial Regulation” (2010, Oxford: Hart Publishing) pp. 103-122 103 n.10 781 104 AE Goodhart, ‘Regulating the Regulator: An Economist’s Perspective on Accountability and Control’, in Ferran and Goodhart (eds), Regulating Financial Services and Markets in the Twenty-First Century (Oxford, Richard Hart, 2001)

26

A report into the RBS collapse in 2009 by the FSA – The Failure of the Royal

Bank of Scotland105 - found that the previous Chancellor of the Exchequer,

Gordon Brown, had implemented the USA “Greenspan” approach as part of his

Better Regulation Action Plan in 2005. The Greenspan approach stated that

regulations which allowed for “free competitive markets are the unrivalled way

to organise economies”.106 Tomasic notes the heavy influence that Greenspan

had over the Bank of England (BoE), the regulator of the time, who saw the

light-touch approach as best to stop moral hazard from occurring through

government intervention.107 The market was seen as self-adjusting and able to

internalise the threat of collapse. The previous Labour government attempted to

incentivise more business to move into the City of London, by reducing “red-

tape”, and boost its profile and become the financial centre of the world.108 This

effectively left the British banking system without any supervision; a necessary

in order stem banks externalities which are otherwise not internalised as

Laeven notes.109 Some went as far as to say that there was a “race to the

bottom” for regulatory arbitrage, or merely “box-ticking” regulation.110

However, the collapse of Lehman Brothers in 2007 showed that banks were

unable to internalise their risk-taking strategies, and moreover, that they relied

upon inaccurate or overly idealised risk-models. Greenspan was forced to admit

he was wrong in presuming that the market would always be capable of dealing

with crisis: banks failing to support or lend to each other after Lehman Brothers’

collapse highlighted the failure of the self-regulatory power of financial

markets.111 Further, Das notes that the mathematical risk models were too

complicated to be understood by regulators, managers and directors: adequate

105 House of Commons Treasury Committee, The FSA’s Report into the Failure of RBS, 5th Report of Session 2012-2013 106 A Greenspan, “The fed is blameless on the property ladder bubble, The Financial Times, (London 7 April 2009) 107 n.74 108 Daripa, Kapur and Wright, “Labour’s Record of Financial Regulation” (2012) Department of Economics BirckBeck University of London Working Paper 1/2012, 1 109 n.22, 17 110 Carmen Reischman, “FSA’s box-ticking approach declared dead by the FCA” (Professional Advisor, 19th March 2014) <www.professionaladviser.com/ifaonline/news/2334937/fsas-box-ticking-approach-declared-dead-by-fca> first accessed 14th August 2014 111 Tomasic, n.54, 4

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risk management is therefore difficult to assess effectively.112 Greenspan, in

2008, noted the world-wide culture of markets being led by “irrational

exuberance”. Similarly the BoE’s Director for Financial Stability agreed that the

crisis was due to unrealistic risk models.113 Tomasic (2010, p.4) equates the

notion of government not intervening to regulate as “an almost blind faith in the

power of the “invisible hand” to ensure that markets are self-correcting.”114

3.2.2 The FSA and its light-touch regulation: principles based

The FSA, formed via the enactment of the FSMA, was given full control to

oversee banking regulation in 2009, a role which had previously been the

domain of the BoE. ADD HERE.

A report into the collapse of RBS115 shows the FSA on four occasions clashed

with banks’ directors who lobbied that they reduce the deductions they had to

take for “expected losses less provisions” when calculating their capital ratios

leaving RBS with an extra £870 million on their balance sheet116. Further, the

“underlying deficiencies in…[RBS]…management, governance and culture”117

allowed for directors to take high-risk inter-bank loans without the possibility of

personal liability despite banks’ wider role in the economic stability of the UK.

FSA chief executive of the time, Hector Sants, admitted the limitations of the

FSA’s principles based approach stating “it does not work with individuals that

have no principles”118. Perhaps this is another reason why Macey and O’Hara’s

theory of increasing fiduciary duties fails: they failed to take into account the

attitudes of individual/rogue bankers. This is only emphasised further by Sir

Fred Goodwin, former chief executive of RBS, having brought the bank to the

112 “Structure and Reform of Corporate Governance in the United Kingdom in relation to the Shareholder versus the Stakeholder theory” (LLM Thesis, University of Glasgow) 113 ibid. 114 n.74 115 Financial Services Authority, The Failure of the Royal Bank of Scotland (2011) 116 “Regulators “light touch” led to failure” Financial Times (December 2011) <www.ft.com/cms/s/0/2bf14c52-24ce-11e1-bfb3-00144feabdc0.html#axzz3ApPvYqjR> 117 n.102, 59 118 Mortgage Solutions, “FSA Admits Weaknesses in “Principles-Based” Regulation” (Professional Advisor, 12th March 2009) <www.professionaladviser.com/ifaonline/news/1342841/fsa-admits-weakness-principles-regulation>

28

brink of collapse.119 However, the FSA failed to hold him or any senior

management accountable for their actions. Lord Turner, chairman of the FSA,

said the handling of RBS and previous banks such as Northern Rock, had been

“completely inadequate.”120

However, Redwood121 contends that the “convenient myth” that light-touch

regulation was to blame easily ignores the real problem that directors were able

to make such decisions without any personal consequences despite an

increase in regulation during the period of 2005-2007. This argument is without

merit: it was not the lack of regulation but the application of the regulation that

allowed directors to act without limitation on their power. Although it is not

pertinent to conclude that the banking crisis would not have occurred if the FSA

had been more concerned with the quality of assets rapidly being acquired by

banks as Alfred (2010) suggests, it is clear that advances within an ever

increasingly opaque and complex banking system had allowed for bank

directors to act without consequence to their actions.122 With a lack of

monitoring both internally and externally, all regulation of any kind becomes

redundant, and where the market fails and shareholders and managers

interests are not aligned, managers are effectively able to act without limitation.

The FSA was criticised for its inability to pick up on systematic risks within the

economy and for allowing the financial sector to become over-leveraged and

unstable due to the poor risk-management decisions of those bank directors at

119 Rob Davies, “Disgraced RBS boss Fred Goodwin faces wrath from Pensioners” (This is Money, 25th April 2013) <www.thisismoney.co.uk/money/markets/article-2314826/Disgraced-RBS-boss-Fred-Goodwin-faces-wrath-pensioners.html> 120 Hugo Duncan, “FSA Admits to “Inadequate Regulation” in Royal Bank of Scotland Scandal” (This is Money, 23rd June 2011) <www.thisismoney.co.uk/money/article-2007425/FSA-admits-inadequate-regulation-Royal-Bank-Scotland-scandal.html> 121 John Redwood, “Was Light-Touch Regulation the Cause of the Crisis?” (John Redwood’s Diary, 27th May 2012) <www.johnredwoodsdiary.com/2012/05/27/was-light-touch-regulation-the-cause-of-the-crisis/> 122 RJ Shiller, Irrational Exuberance, Second Edition (New York, Currency Doubleday, 2007); and H Shefrin, Beyond Greed and Fear – Understanding Behavioural Finance and the Psychology of Investing (Oxford, Oxford University Press, 2007

29

the top. Moreover, the FSA’s inability to hold those responsible for such

decisions was one of the most important criticisms.123

3.2.3 The end of the FSA and light-touch regulation

While Redwood notes that regulation increased during the financial crisis, it is

quite obvious that the regulation and the regulator were both inadequate at

holding directors accountable to shareholders; the basis of regulation. There

was a crying need for a complete regulatory reform in order to strengthen

corporate governance standards.

The revision of the FSMA included the dissolution of the FSA and replacement

with dual regulators124, giving back overall control of financial regulation to the

BoE, a recalculation that Quinn125 notes, for some, could not come sooner.

Haill summarises this overhaul stating,

“From 1 April 2013 the Financial Services Authority has been replaced by the ‘twin peaks’ of the Financial Conduct Authority and the Prudential Regulatory Authority, with the latter overseen by the Bank of England.

A third new body, the Financial Policy Committee, reports directly to the BoE and is able to force banks to cut lending to certain sectors to relieve systemic risks building up in the economy.”126

The main focus of both the FCA and PRA is now to “act in a way which is

compatible with [their] strategic objective of ensuring that relevant markets

function well, and advances one or more of its operational objectives”.127 Their

approach to regulation is somewhat different to that of the FSA leaving behind

the notion of light-touch regulation or market based regulation.128 Parliament

has said that regulators are to look “beyond compliance, supervise and pro-

123 James Quinn, “The FSA is dead. Few will be sorry to see if gone” The Telegraph (London, March 2013) <www.telegraph.co.uk/finance/comment/james-quinn/9963153/The-FSA-is-dead.-Few-will-be-sorry-to-see-it-gone..html> 124 Oliver Haill, “Why the FSA was split into two bodies” Financial Times Advisor (London, 8th May 2013) <www.ftadviser.com/2013/05/08/regulation/regulators/why-the-fsa-was-split-into-two-bodies-SX5toVpnEQtBbYNlcUC9xJ/article.html> 125 n.123 126 n.124 127 The Financial Conduct Authority. An Overview” (Allen and Overy, 1st April 2013) <www.allenovery.com/SiteCollectionDocuments/The%20Financial%20Conduct%20Authority%20April%202013.pdf> 128 Carmen Reischman, “FSA’s box-ticking approach declared dead by the FCA” (Professional Advisor, 19th March 2014) <www.professionaladviser.com/ifaonline/news/2334937/fsas-box-ticking-approach-declared-dead-by-fca>

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actively challenge” to become tougher and bolder.129 Moreover, in the FCA

Position Paper,130 they state the need for banks to have experienced staff,

although this does not necessarily mean that those staff will not extract private

benefits for the advancement of their own careers over the effective regulation

of the bank, as noted by Laeven.131

3.3 Conclusion

This chapter has illustrated how regulation which was put in place to help hold

directors accountable to shareholders once more by aligning their interests had

failed. It was clear that a bank’s corporate governance was so dis-similar to

NFI’s that there was a need to drastically change regulation in order to hold

directors accountability and limit their risk taking.

129 n.127 130 ibid. 131 n.23, 22

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4. REFORMING THE ACCOUNTABILITY MECHANISM IN BANK

CORPORATE GOVERNANCE

The previous chapters have explored how the lack of properly functioning

corporate governance within banks, and subsequent lack of supervision from

regulators, enabled directors to make overly risky and sometimes fraudulent

decisions. The accountability mechanism (i.e. shareholder value maximisation)

had failed to restrain directors. This chapter discusses the move towards

individual accountability by the Senior Person’s Regime (SPR) and protection of

the whistle-blower.

4.1 The Financial Services (Banking Reform) Act 2013

As previously noted, the lack of supervision implemented by the previous FSA,

coupled with the failings of corporate governance and traditional directors’

duties for limiting managerial discretion, had left bank managers accountable to

no one. The serious lack of managerial accountability, and the public lack of

faith in bankers,132 required a complete overhaul of banking regulation.

The Parliamentary Commission on Banking Standards (PCBS) in its report into

the financial crisis, Changing Banking for Good Volume I, noted that:

“Too many bankers, especially at the most senior levels, have operated in an environment with insufficient personal responsibility. Top bankers dodged accountability for failings on their watch by claiming ignorance or hiding behind collective decision-making. They then faced little realistic prospect of financial penalties or more serious sanctions commensurate with the severity of the failures with which they were associated. Individual incentives have not been consistent with high collective standards, often the opposite.”133

Further, the PCBS report highlighted the failing of corporate governance at the

time of the crisis as enabling directors to create “Potemkin villages” “giving the

appearance of effective control and oversight without reality”.134 The PCBS

132 Noam Noked, “Changing Banking for Good or for Better?” (Harvard Law School Forum on Corporate Governance and Financial Regulation, 28th July 2013) <www.blogs.law.harvard.edu/corpgov/2013/07/28/changing-banking-for-good-or-for-better/> 133 House of Lords and House of Commons, Parliamentary Commission on Banking Standards, “Changing Banking for Good” First Report of Session 2013-2014, Volume I Summary, Conclusions and Recommendations, 8 134 ibid. 8

32

report, and previous White Paper 2012 consultation,135 were instrumental in the

creation of the new Banking Reform Act; the PCBS report being the

foundational structure. At the heart of the Act is the realisation of making

“individual responsibility a reality.”136

The major steps towards individual accountability in the new Act have been the

introduction of a Senior Persons Regime and the reform of the protection for

whistle-blowers. The extent to which the Act has provided some form of

protection for stakeholders other than shareholders in the reforms for personal

accountability remains to be seen.

4.2 The Senior Persons Regime

Of all the reforms proposed and enacted by the Act, none has been more hotly

debated and reported than the Senior Persons Regime (SPR).137 This regime

replaces the previous Approved Persons Regime (APR), a regime that was

described by the PCBS in its report as a “complex and confused mess” due to

its constantly changing nature and unclear or unfit rules.138

4.2.1 The Approved Persons Regime

In May 2011 the FSA implemented their APR, under the FSMA 2000, which

required any person with a “controlled function”, including directors, NEDs and

the chief executive, to be approved by the regulator. In a financial services

context, a person exercising a controlled function was someone who has

“significant influence” in the financial organisation. The FSA was able to

approve someone by applying the “fit and proper persons test” to the

135 HM Treasury and Department for Business Skills and Innovation, “Independent Commission on Banking Standards White Paper 2012, “Banking Reform: Delivering Stability and Supporting a Sustainable Economy”” (June 2012) 136 n.119, 9 137 See “New Conduct Regime for Senior Managers in Banks Begins to Take Shape” (Littleton Chambers, 15th July 2014) <www.littletonchambers.com/new-conduct-regime-for-senior-managers-in-banks-begins-to-take-shape-547/>, Susannah Hammond, “The Proposed Senior Persons Regime – the Ultimate Incentive for Regulatory Arbitrage?” (Compliance Alert, 12th October 2013) <www.compliancealert.org/the-proposed-senior-persons-regime-the-ultimate-incentive-for-regulatory-arbitrage/>, Christopher Coltart QC, “Prosecuting Bankers Under the Banking Reform Act 2013: Political Puff for Criminal Clout?” (2 Hare Court, 6th January 2014) <www.2harecourt.com/blog/prosecuting-bankers-under-the-banking-reform-act-2013-political-puff-or-criminal-clout/> and Sam Fleming, “Behaviour of Senior Bankers May Come Under Closer Scrutiny” Financial Times (London, 26th November 2013) <www.ft.com/cms/s/66bd0e0c-5681-11e3-ab12> for overview 138 n.119, 11

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performance of the function to which the application relates. The approval of

someone performing a controlled function was accompanied by seven

statements of principle defined by the corporate governance code. Here it is

worthwhile noting that, as analysed in previous chapters, the Code has been

unable to hold directors accountable. Prior to the banking collapse in 2007 there

had been little debate amongst academics over the notion of banking corporate

governance, however, the volume of work post-crisis has been substantial.139

Throughout, literature has analysed the futility of the Code in limiting managerial

discretion. It is therefore odd that legislators did not take note when drafting the

APR of the limited effect the seven principles would have on the behaviour of

managers.

Similarly, what constitutes a fit and proper person for a role is debatable: how

can the regulator be in a position to approve someone for a role when they are

unaware of the complexities and knowledge required for that role? The previous

chapter highlighted the FSA’s inability to understand banking operations. The

change in regulator from the FSA to the FCA and PRA by the Financial

Services Act 2012, saw no change in the ability of the regulators to curb

excessive risk and identify those directors who were not fit for purpose. Paul

Flowers, a Methodist minister, famously became a NED of the Co-operative and

a year later the bank was exposed to having a £1.5 billion “black hole” and,

more recently, he was found guilty of possession of class A drugs. Similarly, a

report by Grant Thornton Financial Services Group140 notes that the APR only

covered around 10 per cent of those working within a banking institution

meaning that over 90 per cent did not need to comply with the statement of

principles and were not subject to regulator sanctions: a percentage which the

PCBS deemed left the APR “woefully narrow”.141 Martin Wheatley, on his

observation of the limitations of the APR to investigations on the LIBOR scandal

noted,

139 See previous footnotes. 140 “Senior Persons Regime: Implications for Senior Decision Makers” (Grant Thornton Financial Services Group) <www.grant-thornton.co.uk/Documents/financial-services/Senior%20Persons%20Regime%202014.pdf> 141 n.73, 15

34

“One of our problems… was that for the set of people we wanted to take action against we did not have an Approved Persons Regime, which meant that it became more complicated for us to take action.”142

One of the major flaws in the APR was the inability for the FSA to take action

against individuals. In the PCBS report the FSA admitted to finding it difficult to

bring cases against individuals because,

“…it is unclear who was responsible for a decision (or series of decisions) because lines of accountability are unclear or confused, or because they pass, at some point, through people who are not approved (and are not required to be).”143

The PCBS report noted that the “ability to establish clear individual

responsibility is an essential pre-cursor to effective enforcement”.144 Moreover,

the PCBS notes the APR’s only focus was on the approval of those with a

controlled function: there was no effort towards continual monitoring of those

individuals to improve corporate governance through accountability.145 Laeven

notes this trend and states that “ongoing financial reforms and re-regulations in

response to the global financial crisis virtually ignore bank governance”,

although he questions whether bank governance interaction with regulation

does promote financial stability.146

4.2.2 The new Senior Persons Regime

The Reform Act introduced the new SPR to replace the existing APR. The FCA

and PRA envisage the SPR coming into force at the beginning of 2015.147 The

“FSMA, as amended by the Act, enables the PRA and FCA to specify a function

as a Senior Management Function (SMF). Individuals performing an SMF

specified by the PRA will require pre-approval by the PRA with the FCA’s

consent. Individuals performing an SMF specified by the FCA will require pre-

142 House of Lords and House of Commons, Parliamentary Commission on Banking Standards, “Changing Banking for Good” First Report of Session 2013-2014, Volume II, Chapter 1 to 11 and Annexes Together with formal minutes, Chapter 6, para.555 143 ibid. para. 559 144 n.10, para. 555 145 ibid. 146 n.23, 13 147 “PRA and FCA Proposals to Improve Responsibility and Accountability in the Banking Sector” (Compliancy Services, 8th August 2014) <www.compliancy-services.co.uk/news/article/3924/pra-and-fca-proposals-to-improve-responsibility-and-accountability-in-the-banking-sector>

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approval by the FCA only.”148 However, the fit and proper person’s test of the

APR is still present in the new SPR, the only difference being that while

previously the regulator expected banks to vet their own candidates, this is now

a formal legal requirement.

As previously highlighted, traditional corporate governance methods had failed

to hold directors accountable to shareholders, and the complexity of banking

further hindered finding individuals accountable. The SPR therefore seeks to

implement a system of individual accountability in line with recommendations

from the PCBS report which includes a “three pillar” approach for those in

senior positions:

a) “A Senior Persons Regime to replace the significant influence

function of the APR and should provide much greater emphasis on

individual accountability. However, the scope of the SPR is less than

that of the APR and only applies to those who sit in governing bodies

and report directly to the board.149 However, it has been noted that

this senior function has the possibility of being interpreted very

widely150 it is likely to be limited to only the most senior of managers.

b) A Licensing Regime to replace the APR “as the basis for upholding

individuals’ standard of behaviour” and “centred on the application of

a set of revised Banking Standard Rules to a broader group than

those of currently covered by the Statement of Principles” (PCBS

Report at 97).

c) A reform of the register to support the other two pillars”151

The PCBS report notes that the crux of the SPR is to ensure that individuals are

aware of their key responsibilities in order that they may be held accountable

148 Consultation Paper FCA CP14/13/PRA CP14/14 “Strengthening Accountability in Banking: A new framework for individuals” (July 2014), 8 149 n.80, 5 150 Michael Raffin and Simon Orton, “The New Regulatory Regime for Senior Bankers” (Freshfields Bruckhaus Deringer, February 2014) <www.freshfields.com/uploadedFiles/SiteWide/Knowledge/00294_PG_Corp_Senior%20Persons%20Regime_V3.pdf> 2 151 Harvey Dyson, “The New Senior Persons Regime” (Compliance Monitor) <www.compliancemonitor.com/high-level-standards/senior-management-accountability/the-new-senior-persons-regime-96541.htm>

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thus ensuring corporate governance within banks improves which should, “in

turn, contribute to the advancement of both the regulators [PRA and FCA]

objectives.”152 To add bite to personal accountability the SPR has reversed the

burden of proof if there is found to be a contravention of the statement of

responsibilities. A person of senior management will now have to prove their

innocence, and more importantly, they can no longer rely on demonstrating that

they were not “knowingly concerned”. They will need to show “that [they] had

taken such steps as a person in the same position could have reasonably been

expected to take to avoid the contravention occurring (or continuing)”.153

Additional to this, is the introduction of a criminal offence for allowing a bank to

become insolvent. While the introduction of the new criminal offence has

generated many headlines154 it is likely to be extremely difficult to enforce due

to the need to have to prove that a manager’s conduct fell well below that which

was expected of a person in his position.155 Moreover, the difficulty in proving

that a single decision by one director was to blame for the banks entire

insolvency almost makes the offence redundant: Steve Baker’s idea of making

directors remuneration part of bank capital, and therefore liable to the losses of

the bank, was perhaps a more realistic approach.156

However, it cannot be doubted that Parliament and regulators are now seeing

the necessity of good corporate governance standards in improving bank

stability: Mehran, Morrison and Shepra note that “the supervisory community

has recognised that governance practices are often weak before a crisis” and

have taken steps in recent years to identifying stronger practices.157

4.2.3 A critical evaluation of the Senior Persons Regime

152 n.84, 6 153 ibid. 154 Robert Peston, “Jail Reckless Bankers, Standards Commission Urges” BBC News (London, 19th June 2013) <www.bbc.co.uk/news/business-22954586> amongst others 155 Christopher Coltart QC, “Prosecuting Bankers under the Banking Reform Act 2013: Political Puff for Criminal Clout?” (2 Hare Court, 6th January 2014) <www.2harecourt.com/blog/prosecuting-bankers-under-the-banking-reform-act-2013-political-puff-or-criminal-clout/> 156 Steve Baker, “A Bill to make bankers bear their own risks” (Steve Baker MP, 29th February 2012) http://www.stevebaker.info/campaigns/the-financial-system/financial-institutions-reform-bill/ 157 n.1, 10

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It is undoubtable that previous regimes for limiting managerial discretion were

ineffective. But how far does the new SPR go in reality to limiting directors and

holding them accountable, and will this really be an improvement of corporate

governance in banks?

Ernst and Young Financial Services partner Philip Middleton recently spoke of

personal liability as being the perfect way in which to focus the mind when

weighing up risks.158 Further, Laeven, drawing from Buser, Chen and Kane,

notes that the ability to increase risk depends on the constraints by bank

regulation. But to what extent the threat of personal liability actually focuses

minds or changes corporate governance is up for debate.159

The SPR aims to allow regulators to be able to identify those who actually make

big decisions within banks and hold them accountable: an ex-post process.

Date notes this look towards “punishment not prevention”.160 There appears to

be a fundamental lack of reform of internal mechanisms for dealing with

problems before they arise i.e. monitoring of corporate governance internally.

Moreover, the “punishment not prevention” notion does little to try and reform

the culture of risk-taking and instil the notion of corporate responsibility. Andrew

Tire, chairman of the TSC, expressed disappointment at the Banking

Commissions findings not being implemented in full, stating;

“The Commission has recommended radical reform, replacing the failed system with vigorous and continuous supervision for senior persons which identifies who is really responsible for what and which makes them individually accountable.”161

There appears to be a fundamental lack of acknowledgment of the need to

reform corporate governance internally to re-align director and shareholder

158 Steve Tolley, E&Y: Personal Liability would focus directors minds (6th July 2012) http://www.moneymarketing.co.uk/ey-personal-liability-would-focus-bank-directors-minds/1054166.article 159 n.22, 13 drawing from S. Buser, A. Chen, E. Kane, “Federal Deposit Insurance, Regulatory Policy and Optimal Bank Capital” (1981) Journal of Finance, Volume 36, Number 1, pp.51-60 160 www.conversation.which.co.uk/money/george-osborne-pcbs-parliamentary-commission-banking-report/ 161 Donio O’Loughlin, “Tyrie Blasts “box-ticking approval of disgraced RBS Chairman” Financial Times Advisor (19th November 2013) <www.ftadviser.com/2013/11/19/regulation/regulators/tyrie-blasts-box-ticking-approval-of-disgraced-co-op-chair-I2dqwy7YPpDWPFd15B7okM/article.html>

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interests thus preventing problems for occurring in the first place. Moreover,

while the FCA and PRA have increased regulation and provided licences in

order to easily identify those who take overly risky decisions, there is still the

problem of the regulator being unable to identify those decisions in the first

place. While the SPR provides a platform for change towards individual

accountability this author finds that the need to look towards sustained internal

monitoring in order to change attitudes and strengthen corporate governance.

This appears to have been overlooked entirely by legislators and regulators.

In another analysis, Henry Warwick (2014, p.2) notes the move by some,

including Professor Black and Kersaw in their response to the PCBS report –

The Commission on Banking Standards Report and Bank Incentives: A Missed

Opportunity162 - towards stakeholder value maximisation as (opposed to only

shareholders) in order to reform attitudes towards risk-taking.163 While this

debate has been acknowledged throughout this essay as having the potential to

change risk-taking profiles, the change of accountability to stakeholders as

opposed to only shareholders does little to hold directors personally

accountable.

4.3 The Protection of the Whistle-blower

The above analysis and critical evaluation of the SPR highlights the lack of

continuous and internal monitoring as part of the reforms. Whistleblowing has

long been an established tool for identifying malpractice internally within the

banking industry and acts as an incentive to limit managerial discretion and

enhance accountability. Not surprisingly, therefore, the protection of the whistle-

blower has featured heavily in financial reforms, mainly in part due to the

Capital Requirement Directive IV (CDR IV) (which Parliament has said it will

directly copy into national law) requiring the establishment of mechanisms to

encourage whistleblowing.164

4.3.1 The law and protection of the whistle-blower

162 Julia Black and David Kersaw, “The Commission on Banking Standards Report and Bank Incentives: A Missed Opportunity” (2013) Law and Financial Markets Project Briefing 2/13 163 Find. 164 “Banking Reform Bill Updater 4, Corporate Governance”, (Norton Fullrose Bright, October 2013) <www.nortonrosefulbright.com/knowledge/publications/107977/banking-reform-bill-updater-4>

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UK law largely governs whistleblowing via the Public Interest Disclosure Act

(PIDA) (1998) which protects whistle-blowers from potential unfair dismissal by

their employers for reporting wrongdoing. Gleghorn summarises the two-tier

protection offered by the PIDA;

“First, any dismissal whose only or principal cause was as a result of the employee making a "protected disclosure" will be automatically unfair (the compensation for which is uncapped). Secondly, whistle-blowers are protected from being subjected to any detriment (for example, bullying or refusal to promote) as a result of making the disclosure.” 165

The main concern with whistleblowing for employers is the removal of the upper

financial limit for unfair dismissal. The introduction of the Enterprise and

Regulatory Reform Act 2013 sought to provide some form of protection for

employers by requiring an employee to qualify the disclosure by believing it to

be in the public interest. This sought to deter those who might otherwise be

incentivised to speak out against employers in order to claim an uncapped

financial limit for unfair dismissal.

However, as Gleghorn notes, unfair dismissal claims must be brought before

employment tribunals, placing a large financial burden on the employee with

pockets less deep than their employers.166 Further, they have the potential to be

labelled as a troublemaker in their industry meaning their chances of being re-

hired in a similar position are negatively affected. The most famous example is

the firing of Paul Moore who voiced concerns over the excessive risk-taking in

HBOS shortly before its near collapse a year later.167 Gleghorn further notes

that, unsurprisingly, due to the risks associated with whistleblowing from an

employee’s perspective, there have “not resulted in an avalanche of

opportunistic employees”.168

4.3.2 The reform of whistleblowing the UK.

165 “Whistleblowing – the case for financial incentives”, (Risk.net) <www.risk.net/operational-risk-and-regulation/feature/2301403/whistleblowing-the-case-for-financial-incentives> 166 ibid. 167 James Moore, “Whistleblowers who expose bank scandals get better protection” The Independent (London, 20th January 2014) <www.independent.co.uk/news/business/news/whistleblowers-who-expose-bank-scandals-to-get-better-protection-9070796.html> 168 n.98

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The Banking Commission was surprised by the amount of evidence to suggest

bank staff were ignoring or failing to report misbehaviour:169 another example of

the nonchalant attitude towards accountability and risk-taking attitudes

encountered in numerous banks during the financial crisis and LIBOR scandal,

and, the effect of the lack of protection for whistle-blowers. Similarly, the

problem of whistle-blower protection has not gone unnoticed by the FCA and

PRA. Ross Altmann of the London School of Economics further commented,

saying;

“It is vital that those who try to expose scandals which harm members of the public, are protected by the law against ruinous claims against them by those who have been exposed.”170

However, the PCBS report171 did not underestimate the importance of

whistleblowing in the reform of corporate governance and accountability of

directors in banks. However, they noted that this change was unlikely to be

achieved quickly.172 The report recommended the following:

A) Banks should ensure that staff members have clear information about

what to do when they suspect wrongdoing. This means reviewing

employment contracts, policies, and codes of conduct to ensure that

relevant documentation clearly sets out the institution's whistleblowing

procedure and circumstances in which staff would be expected to "blow

the whistle".173

B) In addition to formal whistleblowing policies, banks should have in place

mechanisms for staff members to raise concerns about practices even if

they are not making a specific allegation of wrongdoing.174

169 Matthew Howse, “Report on UK Banking Urges Radical Reform to Raise Standards” (Morgan Lewis, 27th June 2013) <www.morganlewis.co.uk/index.cfm/fuseaction/publication.detail/publicationID/08fec6b9-cc38-4f6a-ab2a-45e9fe72efb7> 170 Ian Cowey, “New City Regulator Urges Whistleblowers to Protect Consumers but Who Will Protect the Whistleblower? The Telegraph (London, 2nd April 2013) <www.blogs.telegraph.co.uk/finance/ianmcowie/100023841/new-city-regulator-urges-whistleblowers-to-protect-consumers-but-who-will-protect-the-whistleblowers/> 171 n.133 172 n.133, para. 784. 173 n.10, para 784 174 n.10, para. 786

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C) A senior NED board member, ideally the chairman, should be appointed

within each bank to take responsibility for the effective operation of the

bank's whistleblowing regime. This person would be personally

responsible for ensuring that whistleblowing procedures are adequate

and that complaints are dealt with appropriately. Importantly, this person

would also be personally accountable for protecting whistle-blowers

against detrimental treatment. This may mean that the appointed

whistleblowing director is required to approve any significant employment

decision regarding the whistle-blower—for example, any changes to role,

responsibility, or remuneration or possible disciplinary action—before any

such changes are implemented.175

D) If a regulator is concerned about the potential impact of encouraging

whistle-blowers by financially incentivising them, as happens in the

United States, the regulator should carry out research into the impact

that the US regime has had in encouraging whistleblowing and exposing

wrongdoing.176

Further to this, the FCA has reiterated the importance of whistleblowing as “part

of the maintenance of effective financial markets and...a relatively inexpensive

way of improving corporate governance”.177 Despite highlighting the importance

of the whistle-blower, the PCBS report was unconvinced of the need to provide

compensation in order to incentivise whistle-blowers178 (although academic

comment was much in favour of financial incentives).179 Commenting on the US

system, with the implementation of the Dodd-Frank Wall-Street Reform Act,

which provides financial protection for whistle-blowers, academics have sought

to encourage the implementation of a similar system in the UK. However, the

175 n.10, para.788 176 n.10, para. 792 177 “Whistleblowing – the case for financial incentives”, (Risk.net) <www.risk.net/operational-risk-and-regulation/feature/2301403/whistleblowing-the-case-for-financial-incentives> 178 n.133, para. 673 179 Sam Fleming, “Regulators Urged to Improve Protection for Whistleblowers” The Financial Times (London, 1st December 2013) <www.ft.com/cms/s/fc1ac938-5a84-11e3-b255-00144feabdc0,Authorised=false.html>, Ian Cowey, “New City Regulator Urges Whistleblowers to Protect Consumers but Who Will Protect the Whistleblower? The Telegraph (London, 2nd April 2013) <www.blogs.telegraph.co.uk/finance/ianmcowie/100023841/new-city-regulator-urges-whistleblowers-to-protect-consumers-but-who-will-protect-the-whistleblowers/>

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FCA and PRA have been sceptical about implementing a similar regime that

allows for whistle-blowers to become millionaires. Understandably, introducing

such a system of financial support again provides incentives for opportunistic

whistle-blowers, meaning regulation would effectively come full circle and the

reforms via the implementation of the Enterprise and Regulatory Reform Act

2013 would become redundant.

As recently as August 2014 the FCA and PRA have concluded, in their paper

“Financial Incentives for Whistle-blowers”180 presented to the Treasury Select

Committee that,

“There is no empirical evidence to suggest that the US system raises either the number or the quality of whistleblowing disclosures within financial services. Nor do the incentives in the US model appear to improve the protection available to whistle-blowers. What whistle-blowers tell us they would like is better protection for all whistle-blowers rather than large payments to a tiny minority ... We therefore propose not to introduce financial incentives, but to press ahead with the regulatory changes necessary to require firms to have effective whistleblowing procedures, and to make senior management accountable for delivering these."

While the author agrees that offering financial incentives for whistle-blowers will

not necessarily increase valued reports, one has to wonder what would

incentivise a change in the attitudes towards whistle-blowers in order that more

come forward.

Much attention has been paid to the need to provide adequate protection to

whistle-blowers via finance incentives, but less attention has been paid to the

internal regimes for safeguarding whistle-blowers in banks. Michael Ruck181

notes that,

“It is clear from the FCA and PRA's recent messaging on the senior persons regime that they are seeking to improve the culture within all firms; in particular, by placing responsibility for regulatory compliance firmly on the shoulders of senior management. This includes making senior management directly responsible for ensuring the whistleblowing

180 Financial Conduct Authority and Prudential Regulation Authority, Financial Incentives for Whistleblowers, (2014) 181 “UK Financial Services Regulators Rule Out Payments for Whistleblowers” (Out-Law.com for Pinsent Masons, August 2014) <www.out-law.com/en/articles/2014/august/uk-financial-services-regulators-rule-out-payments-for-whistleblowers/>

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procedures within their firms are clear, well publicised and effectively conducted."

However, leaving the safeguarding of whistle-blower protection to a senior

board member opens up the possibility of whistle-blower regimes in banks not

being properly implemented. The issue of board member independence has

been previously been analysed as one of the downfalls of banks in the financial

crisis.182 Requiring the senior board member to be subject to the SPR makes

them easily identifiable for personal accountability, however, the complexities of

the bank and potential for lack of independence could see whistle-blowers

inadequately protected as board members hide behind the opaque structure of

the bank. Regulators still lack the insider knowledge of banks and external

supervision can only go so far. Further, the regime places faith in senior

management when studies have shown that the attitude of senior board

members to whistle-blowers and to risk has been blasé.

4.4 Conclusion

The Reform Act has come a long way in the acknowledgment of the need to

have accountability, and in particular individual accountability, due to the

complex and opaque nature of banks and directors willingness to take

excessive risk. However, problems such as who is competent to run a bank,

and whether the protection of whistle-blowers is enough, are still present.

Moreover, there has been a lack of reform towards continual monitoring: the

regulators seem only interested in dealing with ex-post mechanisms.

182 See Chapter two.

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5. THE COMPANY SECRETARY

Previous chapters have analysed how the characteristics of a bank mean that

director and shareholder interests are not properly aligned, leaving directors’

accountable to no one and managerial discretion not being effectively limited.

An analysis of the reforms made by the introduction of the Reform Act, has

critically argued that they only focus on ex-post regulatory mechanisms: there

has been no focus towards reforming and monitoring corporate governance

internally.

This chapter explores the opportunity missed by Parliament for reforming

corporate governance from an internal viewpoint i.e. focusing on ex-ante

process for improving accountability and re-aligning shareholder/director

interests. It is argued that the company secretary is best placed within a

company to help monitor corporate governance standards and is the crucial link

between directors and shareholders. This comes as the ex-chair of the FSA

states that the financial reforms have not gone far enough to prevent another

crash.183 Further, the chapter argues that the status of the company secretary

be changed, and that Parliament needs to empower the company secretary in

their role of upholding corporate governance in banks to improve accountability.

5.1 An overview of the company secretary

5.1.1 General overview

Prior to the introduction of the CA 2006 every company, whether public or

private, was required to have a company secretary. After the introduction of the

CA 2006 a private company is now no longer required by law to have a

company secretary if incorporated after the 6th April 2008. However, this does

not preclude private companies from not having a company secretary if required

in their company articles, or those incorporated before the 6th April 2008 from

keeping their company secretaries. The removal of the requirement for a

company secretary is a welcome relief to small private companies’. Although

183 Nicky Stubs, “Financial Regulation Reforms “inadequate” to Prevent Another Crash, says ex-FSA Chair” (Blue and Green Tomorrow, 12th February 2014) <www.blueandgreentomorrow.com/2014/02/12/financial-regulation-reforms-inadequate-to-prevent-another-crash-says-ex-fsa-chair/>

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banks are private companies most do employ a company secretary, however,

unlike public companies, company secretaries employed by private companies

are not required to have any formal qualifications.

The company secretary is normally appointed by the company directors as a

whole and, within small companies, can be the director himself. Similarly

termination of the company secretary is by directors, without the need to consult

shareholders.

5.1.2 The role and function of the company secretary

The company secretary is the chief administrative officer of the company.

However, unlike directors, company secretaries are not subject to the full range

of general duties regarding the company within sections 170-177 of the CA

2006. But, as an officer of the company, they are subject to certain fiduciary

duties including: the duty to act in good faith in the best interests of the

company; the duty to avoid conflicts of interests; the duty to not act for any

collateral purpose and the duty not to make profits from secret dealings for or

on behalf of the company. Company secretaries are therefore able to be

prosecuted for failing to carry out their duties properly. However, again, as with

directors, the likelihood of company secretaries being taken to court over

breach of their duties is unlikely.

Part 12 of the CA 2006 does not specify the role or function of the company

secretary, but many of these functions are implied by the fact that the company

secretary is an officer of the company and therefore liable for failings. Company

secretaries owe duties in three principle areas: that of the Board, the company

and the shareholders, with the role having potential to be very diverse in each

area.

“The Board

The corporate secretary must ensure that the procedure for the

appointment of directors is properly carried out and they should assist in

the proper induction of directors, including assessing the specific training

needs of directors/executive management. They need also to be

available to provide comprehensive practical support and guidance to

directors both as individuals and as a collective with particular emphasis

46

on supporting the non-executive directors. They should also facilitate the

acquisition of information by all board and committee members so that

they can maximise their ability to contribute to board meetings,

discussions etc. Further to these tasks, they need to assist in the

compilation of board papers and to filter them to ensure compliance with

the required standards of good governance. It may also be part of the

Company Secretary’s role to raise matters which may warrant the

attention of the board.

The Company

They should ensure compliance with all relevant statutory and regulatory

requirements and that due regard is paid to the specific business

interests of the company, for example, a manufacturing company may

require a different approach from that of a bank or a financial services

company or from that of a charitable company. They also need to assist

in the implementation of corporate strategies by ensuring that the board’s

decisions and instructions are properly carried out and communicated.

Further to this, they should be available to provide a central source of

guidance and advice within the company on matters of business ethics

and good governance.

The Shareholder

The Company Secretary needs to communicate with the shareholders as

appropriate, and to ensure that due regard is paid to their interests. They

also need to act as a primary point of contact for institutional and other

shareholders, especially with regard to matters of Corporate

Governance.”184

5.1.3 Secretarial duties

As well as providing for an effective communication channel between different

actors within the company, the company secretary also has specific secretarial

duties. These duties represent the most traditional notion of the role of company

184 “The Role of Company Secretary. Director’s Briefing” (ICAEW, October 2013) <www.icaew.com/~/media/Files/Library/collections/online-resources/briefings/directors-briefings/ST9COSEC.pdf>

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secretary. Duties include, but are not limited to, maintaining statutory registers,

filling in annual returns and various Companies House duties.185

5.2 The changing role of the company secretary

5.2.1 The importance of the role of the company secretary in

corporate governance

While the company secretary continues to provide administrative duties to

support executive directors and NEDs, a realisation of the potential the role of

the company secretary has for inducing sound corporate governance has

thrown the role into the spotlight.186 Osborne equates this rise to the company

secretary to having “privileged access” to both the Board and executive, and

therefore, being in a key position to internally monitor corporate governance

within a company.187 Moreover, the key role the company secretary plays in

ensuring the effective functioning of the board and the emphasis placed on the

support of NEDs, has started to see the role change.

As early as 1971 Lord Denning recognised the change in the role of the

company secretary from merely a clerical position to a senior position within a

company, in the case of Panorama Developments where he stated that the,

“…company secretary is a much more important person nowadays…He is an officer of the company with extensive duties and responsibilities. This appears not only in the modern Companies Act, but also by the role which he plays in the day-to-day business of the company. He is no longer a mere clerk.” 188

However, the Cadbury Report189, in its report on effective corporate governance

standards, was the first report to truly highlight the importance of the company

secretary in a monitoring capacity for the board over corporate governance by

stating;

185 “ICSA Guidance of the Corporate Governance Role of the Company Secretary” (ICSA, October 2008) <www.icsa.org.uk/assets/files/pdfs/081020%20-%20Corp%20Gov%20role%20of%20co%20sec.pdf> 186 ibid. and Roger Dickinson, “The Company Secretary in the UK and their role in upholding best practice in corporate governance in banks and other organisations” (ICSA) <www.ebrd.com/downloads/legal/corporate/icsa.pdf> 187 Simon Osborne, “Rise of the Company Secretary” (The Law Society Gazette, 7th July 2014) <www.lawgazette.co.uk/law/practice-points/rise-of-the-company-secretary/5042026.article> 188 Panorama Developments (Guildford) Ltd v Fidelis Furnishing Fabrics Ltd [1972] 2 QB 711 (Court of Appeal) para. 255 189 n.28

48

‘‘The company secretary has a key role to play in ensuring that board procedures are both followed and regularly reviewed. The chairman and the board will look to the company secretary for guidance on what their responsibilities are under the rules and regulations to which they are subject and on how these responsibilities should be discharged. All directors should have access to the advice and services of the company secretary and should recognise that the chairman is entitled to strong support from the company secretary in ensuring the effective functioning of the board.’’190

The company secretary’s governance role is thus firmly defined in the Code

which states that “the company secretary should be responsible for advising the

board through the chairman on all governance matters”.191 Moreover, the Code

sees the role of the company secretary as being a resource for the whole board:

“All directors should have access to the advice and services of the company

secretary, who is responsible to the board for ensuring that board procedures

are complied with."192

But it was not until the financial crisis of 2007 that the role of the company

secretary as “guardians of compliance” of governance standards really began to

emerge. The Walker Review 2009 highlighted the induction of new directors,

particularly new NEDs who may enter a company with little or no knowledge of

the companies inner workings, as being a crucial area for improving corporate

governance within banks and that “the secretary has a key role in designing and

implementing an induction process that quickly and efficiently gives directors

the knowledge they need to play a full part in the boardroom.”193 Similarly, a rise

in what was considered to be an important monitoring function within the board,

the NED, saw more interaction with company secretary.194 Further, and

especially in the case of the banks, the advice and support required of the

board was becoming ever more complex leading to an increased reliance on

the company secretary.

190 n.28, 33 191 ibid. 192 “Company Secretary: Governance and Liabilities” (Outlaw.com for Pinsent and Masons) <www.out-law.com/page-11127> 193 ibid. 194 N. Brennan, J. Soloman, “Corporate Governance, Accountability and Mechanisms of Accountability: An Overview” (2008) Accounting, Auditing and Accountability Journal Volume 21, Number 7, pp. 885-906, 888

49

5.2.2 Changing the perception of the company secretary

Although there is acknowledgement of the importance of the company secretary

in the Code, the role has been somewhat underestimated or undervalued. A

partner at Clifford Chance LLP recently stated that “company secretaries were

usually grey, old men who didn’t want to be lawyers anymore”. Similarly,

Osborne notes that the role is often overlooked and misunderstood. Further, he

purports that the “emphasis on administration and procedure over a more

proactive approach was underpinned by the additional responsibility for

ensuring that all law and regulation was complied with” this is a label that the

company secretary has found hard to shake off.195

Despite outside opinions, a report by Lintstock for the All Parliamentary

Corporate Governance Group (APCGG), Elevating the Role of the Company

Secretary, which surveyed 166 company secretaries in the FTSE All Share

Index, found that only one quarter thought their job was purely administrative.

However, this is compared to three quarters of board population who thought it

was.196

However, the label of the company secretary as being merely a clerical position

could be about to change. The most thorough examination of the role of the

company secretary in inducing and monitoring sound corporate governance

principles has been undertaken by Andrew Kakabadase of the Henley Business

School. In association with the Institute of Chartered Secretaries and

Accountants (ICSA), the report - Company Secretary: Building Trust Through

Governance197 - highlights the importance of the company secretary to good

governance and internal monitoring structures. The research reveals that “good

company secretaries make a significant contribution to board performance,

share the same qualities as good chairmen and enable effective decision-

making”.198

195 n.181 196 Lintstock for the All Parliamentary Corporate Governance Group (APCGG), Elevating the Role of the Company Secretary, (2012) 197 Institute of Chartered Secretaries and Accountants (ICSA), the report - Company Secretary: Building Trust through Governance, (2014) 198 ibid.

50

Further, the research suggests that the role is going through a pivotal change

due to increasing demands from boards and the complexities of new regulation.

Particularly acknowledgement of the recognition of the importance of good

corporate governance standards to the financial stability of companies has seen

the need for a role which helps create and monitor such standards. Osborne

states that the “company secretary is now required to be more outward-looking,

interacting with major shareholders, proxy advisers and regulators, and being

increasingly strategic – bringing a wider understanding of business and the

economic context in which their organisation works.”199 Similarly, Sir Richard

Olver, the chairman of BAE systems for a period of ten years adds;

“People who think that the role of company secretary is purely administrative are living in the past. I believe that the role has grown exponentially, particularly in the years following the financial crisis. I know that during my time as chairman, I relied heavily on the knowledge and strategic judgement of the company secretary when ensuring that we were meeting our organisational objectives.”200

5.3 A missed opportunity for holding directors’ accountable

This author believes that the characteristics of the company secretary allow

them to be best placed to help strengthen corporate governance standards in

order to hold directors’ accountable to shareholders once more. The

strengthening of corporate governance would enhance financial stability,

support regulation and change attitudes towards accountability by directors’.

5.3.1 Representing stakeholders not shareholders

There has been much academic debate since the banking collapse in 2007

asserting that special bank attributes mean that focusing on shareholder value

maximisation only as a means for holding directors’ accountable is flawed.201

Despite many academics acknowledging the inadequacy of this traditional

Anglo-American corporate governance perspective, Parliament has yet to move

away from shareholder accountability.

199 n.181 200 Maria Brookes, “Company Secretaries Help Drive Organisational Success” (Presset, 3rd July 2014) <www.pressat.co.uk/releases/company-secretaries-help-drive-organisational-success-79f239196bc71262fd5d7817ef386b09/> 201 Alexander, K,. “Corporate Governance of Banks: The Role of the Principle-Agent Problem” (2006) Journal of Banking Regulation, Volume 7, Numbers 1-2, pp.17-40

51

However, the company secretary is best placed to represent the interests of

stakeholders other than shareholders by ensuring good corporate governance

and sound risk management: by being on the board, but being semi-

independent, they are able to ensure duties and principles are adhered to. If the

Code and directors’ duties were properly enforced internally, stakeholder

interests would be protected. Directors’ would have to act in the interests of the

company and this means they would be unable to take overly risky decisions

that could be to the detriment of the company and therefore stakeholders in

general, particularly debtholders.

Moreover, company secretaries are easily identifiable. Although they may

delegate to others they are responsible for the decisions made within their role.

As there is only one company secretary any potential mal-practices or failure to

monitor directors’ sufficiently can be easily identified by regulators.

5.3.2 Focus on internal mechanisms of accountability

Brenman and Soloman note the finance researchers have long focused on the

internal mechanisms for accountability of board and board performance.202

Previous, critical analysis within this paper has highlighted the ineffectiveness of

the board at being able to hold directors’ accountable to shareholders.

However, board and board performance as an accountability and limiting

mechanisms need not be redundant and indeed, if functioning correctly, are an

effective way to hold directors’ accountable to shareholders. The Reform Act

has focused on the notion of continual monitoring by the FCA and PRA in order

that the board be strengthened. But, as previously highlighted, the twin

regulators are still ill-equipped to monitor the complex financial dealings within

banks. The company secretary, as a long-standing member of the board, with

an understanding of banks inner workings, is best placed to serve the

monitoring and compliance function required under the act.203 Without the

strength of the monitoring function, the SPR essentially becomes the previous

202 n.194 203 “The New Role of the Company Secretary” (Ernst and Young, 2014) <http://performance.ey.com/2014/04/28/new-role-company-secretary/>

52

APR regime focusing only on approval of those with a senior position and not

the continual internal monitoring.

5.3.3 A change in attitudes

Rather than simply continue to add extra regulation, which Leaven notes

actually further distorts corporate governance within banks,204 regulators need

to look towards changing the perception and attitudes of bankers towards

accountability and corporate governance. The LIBOR rigging is a clear example

of directors’ nonchalant attitude towards accountability. Company secretaries,

by enforcing corporate governance standards and continually monitoring

boards, are able to sway and help change director attitudes: an insider with

whom bankers can trust as it were. However, it is clear that the attitudes of

directors towards company secretaries may lessen the extent of the company

secretary’s influence.

5.4 Recommendations on the role of the company secretary

The above analysis provides an argument that the company secretary has been

overlooked by Parliament in its reforms of the accountability of directors and

governance. In order for the potential of the company secretary to be realised,

this paper proposes various recommendations on the changing of the role.

5.4.1 Split the role

The historic role of the company secretary is rooted in administration and

secretarial work. This is now only one portion of the work that the company

secretary handles daily. In order that the potential of the company secretary to

monitor the board and hold them accountable to shareholders is realised, the

role needs to be split into two different roles: one with a corporate

governance/monitoring function and one dedicated to secretarial work. The two

roles will need remain completely separate.

Similarly, a change of name will be required. Studies have shown that the word

“secretary” resonates with people a less than important role.205 While this name

is adequate for the role which purely concerned secretarial duties, it is far from

204 n.23, 9 205 n.196, although ironically positions such as the “Secretary of State” are very senior.

53

appropriate for a corporate governance/monitoring function. Corporate

governance officer is more appropriate and will help dissipate some of the

stigma attached to the company secretary name tag. However, the author

acknowledges that a name change is not enough to change the attitudes of

directors, but it is hoped in time that the role will be taken more seriously.

5.4.2 Statutory duties

As previously noted, company secretaries are not subject to the full range of

statutory duties that directors are. Although this paper has argued that Macey

and O’Hara’s idea to extend fiduciary duties in order that directors’ are

accountable to stakeholders other than shareholders is not warranted, the

notion of expanding who those duties are applicable to is different. Statutory

duties have been unsuccessful in limiting directors, however, the company

secretary does not share the same attributes as directors. Company secretaries

do not make decisions that affect banks i.e. they are unable to extract such high

private benefits as bank directors as directors take risk-based decisions which

effect their remuneration and their relationship with shareholders. Moreover,

placing the burden of statutory duties on company secretaries is likely to

increase their credibility amongst their colleagues.

5.4.3 Appointment of company secretaries

The appointment of company secretaries is by the board. If the role were to

change and be split into two roles, one of which would comprise only of a

corporate governance function, the lack of independence of the company

secretary from the board may cause issues. The same issues that have been

found with NEDs and their lack of independence mentioned in chapter two, are

easily transferrable to company secretaries. Approval of a company secretary,

in their corporate governance function role, by the FCA and PRA would create

sufficient independence and further strengthen the importance of the role in

directors’ minds.

5.4.4 A requirement for banks to employ a “corporate governance

officer”

54

It seems odd that despite the recognition of the role of the company secretary in

enhancing internal monitoring and ensuring compliance with sound corporate

governance principles, that there is not a requirement by law for banks to have

a company secretary. The CA 2006 was right to recognise the limitations of

requiring all private companies to have a company secretary, but banks are

somewhat different. They are hardly the small struggling private company: the

legal requirements for capital make this entirely impossible in itself. Although

many banks due employ a company secretary, it is not in the function of a

corporate officer as mentioned above.

This paper suggests that the CA 2006 be amended in order to take account of

financial institutions, requiring them to have a company secretary in the capacity

of a corporate governance officer.

5.5 Conclusion

This chapter has sought to provide an argument that Parliament missed out a

crucial opportunity to reform the internal monitoring of corporate governance in

banks in order to hold directors’ accountable to shareholders once more.

Further, it is has posited that the role of the company secretary is best placed to

perform such a role having dramatically changed in recent years to become a

“guardian of compliance” by virtue of their privileged position between both

board members and managers.

Recommendations as to the enhancement of the role of the company secretary

have also be given in order that the role be recognised as an important function

in limiting directors in their risk taking abilities.

55

6. CONCLUSION

The purpose of this paper has been to analyse and critically evaluate the

reasons behind the financial scandals concerning bank directors and their

inability to be held accountable for their rogue or overly risk-taking behaviour

and the subsequent reform of banking regulation since. The importance of the

need to reign in over-zealous bank directors cannot be underestimated given

the recent scandals of LIBOR and PPI mis-selling. Based on theoretical

literature and conceptual ideas, this paper has sought to answer whether the

regulatory reforms bought about by the Financial Services (Banking Reform)

Act 2013 are satisfactory in holding directors accountable for their actions.

Chapter one discussed, with the use of theoretical literature, traditional

corporate governance concepts of shareholder value maximisation in aligning

shareholder and director interests. Traditional corporate governance literature

suggests that directors are accountable to shareholders by implementation of

various techniques. However, subsequent analysis of particular attributes of

banks has highlighted the inadequacy of traditional corporate governance

methods in holding directors accountable to shareholders. Moreover, the

change towards the institutional investor in banks has sought to amplify the

inability for directors’ to be held accountable.

Due to the inability of shareholder and director interests to become aligned

(which would otherwise hold directors accountable to shareholders) regulation

is required: the need is even more prevalent given that a banks systemic risk

affects the economy as a whole. However, critical evaluation in chapter two of

the regulations and statutory mechanisms put in place highlights their

inadequacy, particularly as they were based on traditional corporate

governance theories and did not take into account the attributes of banks. This

effectively left directors without regulation and free to extract high private

benefits of control and take overly risky decisions.

The consequence of the lack of regulation and the limitations of traditional

corporate governance saw reform of banking regulation in its entirety by the

introduction of the “twin peaks” regulators, the FCA and PRA, and the

introduction of the Banking Reform Act, which has sought to hold directors’

56

individually accountable for their decisions. The major reforms come in the form

of the Senior Persons Regime (SPR), a regime used to monitor and approve

those with a senior management function, and the reform of the protection of

the whistle-blower. While this paper acknowledges that both reforms are a step

in the right direction, it has also sought to critically analyse any perceived

weaknesses. Moreover, it notes that there has been a missed opportunity to

reform how directors are monitored from an internal standpoint.

This paper has posited that the company secretary has been overlooked by

Parliament as a means of effective monitoring of corporate governance within

banks in order to hold directors accountable to shareholders once more. As

there has yet to be a move away from the theory of shareholder value

maximisation, the company secretary, having both access to the board and

management, is in the best position to monitor corporate governance principles

and ensure regulatory compliance. It concludes that the need for a company

secretary should be a legal requirement for banks in the UK and not just a legal

requirement for publically listed companies as the position currently stands the

under the Companies Act 2006.

In terms of policy implications, this paper presents recommendations on how to

strengthen the role of the company secretary in their monitoring capacity. A

move towards enhancing not only ex-post mechanisms of accountability, but

also ex-ante accountability is required in order to reach a full rounded

monitoring function to curb excessive risk taking.

The debate within this paper is far-reaching and multi-faceted. In order to

achieve effective working of the policy recommendations on the company

secretary, extensive empirical research is required by government and

independent bodies as to the effectiveness of the company secretary in

effectively monitoring directors. Moreover, the recommendations as to approval

of company secretaries by the FCA and PRA would require careful

consideration by the regulators themselves.

The limitations of this paper must be acknowledged. The paper has analysed

the banking reforms from an accountability perspective; it has not addressed

the merit of the reforms from other perspectives. Future research into the effect

57

of the banking reforms on other problems mentioned within chapter one of this

paper, such as institutional shareholders or remuneration, will be required in

order to provide a full understanding of the impact the banking reforms will have

on various identified shortcomings in previous regulation and theory.

Although the banking reform act has gone a long way in the recognition of the

need to hold directors accountable for their actions personally, this paper has

emphasised the need for regulation to further enhance the internal monitoring of

corporate governance. The need for internal monitoring in order to ensure

compliance cannot be underestimated. Regulators and banks must work

together to change.

58

GLOSSARY

FSA – Financial Services Authority

FCA – Financial Conduct Authority

PRA – Prudential Regulation Authority

FRC – Financial Reporting Council

BoE – Bank of England

PIS - Proactive Intervention Scheme

SRR - Special Resolution Regime

RBS – Royal Bank of Scotland

SPR – Senior Persons Regime

APR – Approved Persons Regime

LR – Licencing Regime

Code – UK Corporate Code of Governance

NFI – Non-Financial Institution

NED – Non-Executive Director

59

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Company Law Review, Modern Company Law for a Competitive Economy:

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Arthur, T., Booth, P., Does Britain Need a Financial Regulator? (Institute of

Economic Affairs, 2010)

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RESEARCH

Lintstock for the All Parliamentary Corporate Governance Group (APCGG),

Elevating the Role of the Company Secretary, (2012)

Institute of Chartered Secretaries and Accountants (ICSA), the report -

Company Secretary: Building Trust through Governance, (2014)

74

CODES

Financial Report Council, UK Corporate Governance Code, September 2012

Listing Rules

REGIMES

Approved Persons Regime

Licencing Regime

Proactive Intervention Scheme

Special Resolution Regime

The Senior Persons Regime

UK STATUTES

Companies Act 2006

Enterprise and Regulatory Reform Act 2013

Financial Services (Banking Reform) Act 2013

Financial Services Act 2012

Financial Services and Markets Act 2000

Public Interests Disclosure Act (1998)

US STATUTES

Dodd–Frank Wall Street Reform and Consumer Protection Act (2010)

EUROPEAN UNION DIRECTIVES

Capital Requirement Directive IV

UK CASES

Panorama Developments (Guildford) Ltd v Fidelis Furnishing Fabrics Ltd [1972]

2 QB 711

Pervical v Wright (1902) 2 Ch 421, 425-6.

Punt v Symons & Co Ltd (1903) 2 Ch 506

75

Re Brazilian Rubber Plantations and Estates Ltd. (1911) 1 Ch 425

Re Cardiff Savings Banks (Marquis Butes Case) (1982) 2 Ch. 100.

Re City Equitable Fire Insurance Co. Ltd. (1925) Ch 407

Re Smith and Fawcett Ltd. (1942) Ch. 304