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Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary GovernanceA Critical Tool for Risk Management
Sponsored by:
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Moderator:
Jennifer BennettManaging Director, Associate General Counsel & Assistant Corporate Secretary Bank of America Corporation
Speakers:
Nicole Napolitano Company Secretary & General Counsel, Corporate Governance Willis Towers Watson PLC
Jeremy TrickettSenior Vice President, Chief Governance Officer & Corporate Secretary Great-West Lifeco Inc.
SESSION 1
How do Parent Boards Oversee the Organization Chart, Activities of their Subsidiaries and Manage Foreign Subsidiary Boards
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiaries Chart
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
• Importance for Directors
We know we have important duties and
responsibilities – but since we are Directors of a
Subsidiary (not a public company), how does our
role differ?
Duties & Responsibilities as a Subsidiary Director
That’s a great question. You’re right – there are important distinctions from public companies:
▪ A public company’s subsidiaries generally have a single shareholder
▪ The interests and enterprise strategies of that public company (the sole shareholder) will ordinarily
align with or define the interests and strategies of each subsidiary
However, in order to support enterprise strategies through oversight of your Subsidiary, it’s very important
that, as a Director, you:
▪ are aware of your key duties under company law (both WHAT they are and HOW to execute them)
▪ understand and are aligned on enterprise strategies (both for Business-as-Usual and other
circumstances)
▪ are prepared to help execute enterprise strategies through your Subsidiary
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
6
▪ In most jurisdictions, the primary beneficiaries of
Directors’ fiduciary duties are the shareholder(s) of a
company
▪ In some jurisdictions, however, Directors’ duties are
technically owed to the company and assessed by
reference to the interests of the shareholder(s) as a
whole
▪ Furthermore, in certain jurisdictions, the fiduciary
duties owed by a Director are assessed by reference
more broadly to all stakeholders – including, but not
limited to, shareholder(s)
▪ If the interests of the different stakeholders differ,
the interest (and duty) that prevails will depend on
the relevant circumstances
To whom do Directors owe their duties?
Directors oversee the operations of a legal entity. They exercise oversight through defined governance processes, which will be explained in this presentation.
What is different about being a Director of a subsidiary company?
Duties & Responsibilities as a Subsidiary Director
Public Parent Company
Intermediate Holding Company
Subsidiary Entities
In most cases, a Subsidiary will have a single
shareholder whose interests will align with or define the
interests of that Subsidiary
• Duties to Parent Company as Shareholder
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
16
• Actions for Breach of Duty & Potential Personal Liability
In most cases, a Director will only incur personal liability (criminal
and/or civil) where there is some personal fault (whether through
action or inaction).
For example, if a Director commits:
▪ a breach of one of the seven key duties,
▪ a statutory offense, or
▪ a criminal offense
What is the potential
for personal liability?
The extent to which the shareholder(s) themselves
(i.e., the parent company) may also be able to bring a
direct claim against a Director varies among
jurisdictions
In most jurisdictions, something going beyond breach
of a Director’s general fiduciary duties would be
required to establish an action by a shareholder
What actions can be
taken for breach of duty?
Directors should at all times consider the presumption in the
business judgement rule / reasonable person test that, when
making a business decision they should act:
on an informed basis (with care, skill and diligence),
in good faith, and
in the honest belief that the action taken is in the best
interests of the company
RECALLThe Business Judgment Rule / Reasonable Person Test
There are two main ways by which the Subsidiary can
bring an action against a Director for breach of duty in
most jurisdictions:
1. The Subsidiary Board could decide (or, in some
cases, be required) to commence proceedings
2. If the board does not decide to bring proceedings,
a shareholder may be allowed to commence
proceedings on behalf of the board
Actions by the
Subsidiary
Actions by
Shareholders
Duties & Responsibilities as a Subsidiary Director
If doing so, their decisions will generally be upheld
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
• Protections Against Liability
There are three main ways of protecting Directors against liability. The table below outlines the instances in which Directors may or may not be indemnified and/or insured against liability stemming from a violation of duty.
Du
ties
Violations are Indemnifiable Violations are NOT Indemnifiable
Diligence
(exercise reasonable care, skill, and diligence)
Loyalty
(act in the best interests of the company)
Obedience
(follow the laws of the land)
Byl
aws Indemnifiable:
BAC bylaws state Directors, officers and employees“Shall be Indemnified”
NotIndemnifiable
NotIndemnifiable
Insu
ran
ce
Insurable:
Insurance protects Directors, officers and employees if Bank of America is unable/refuses to Indemnify
Insurable:
Insurance protects Directors, officers and employees when an
Indemnity is prohibited
Not Insurable:
Criminal Conduct / Fraud
Director & Officer (D&O) Insurance applies in any insolvency or bankruptcy
Duties & Responsibilities as a Subsidiary Director
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Entity Rationalization Programs• Reviewing a company’s existing legal structure to identify what efficiencies or cost
savings could be achieved through consolidation or elimination of entities
• Benefits include increased: • Strategic Alignment with the Business• Administrative Cost Savings and Cost Avoidance in Governance, Accounting,
Auditing, Financial Reporting, Tax-Filing, Compliance, HR, Payroll and IT services
• Governance and Regulatory Oversight• Tax Benefits and Efficiencies • Operational synergies
Willis Towers Watson
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Setting Up the LER Program• Resourcing and Budget
• Stakeholders include Business, Governance, Tax, Legal, Compliance, Finance, Treasury, Office Services, HR, Marketing and Communications
• To reduce costs, consider preferred service providers for all transactions under the program
• The approval process
• Recognize that the Company will continue to evolve and consider the impact of other transactions• Challenge the creation of any new entities and whether existing entities
can be used insteadWillis Towers Watson
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Steps to Consider - LER• Obtain an accurate organizational chart
• Assess the purpose of each legal entity
• Challenge the need for each entity and whether it can be consolidated or otherwise liquidated
• Some factors may prohibit these actions (e.g. tax, outstanding litigation claims, regulatory concerns, third party consents)
Willis Towers Watson
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
• Produce a list detailing the recommended action for each entity including: • Potential benefits (e.g. potential cost savings or administrative
efficiencies) • Proposed timing for any proposed transaction and, if none is currently
recommended, when the entity should be reassessed
• There could be many proposed competing transactions• Approvals should clarify which transactions have priority in light of
resourcing, budget and potential benefits
• To maintain momentum, continue to assess the status of proposed transactions and evaluate the evolving structure
Willis Towers Watson
Steps to Consider - LER
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary Governance A Critical Tool for Risk Management
END OF SESSION 1
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary GovernanceA Critical Tool for Risk Management
Sponsored by:
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
SESSION 2
Creating a Subsidiary Governance Framework – Where to start and what should you include?
Moderator:
Neil PuddicombeAssociate General Counsel and Director of Bank Board GovernanceBMO Financial Group
Speakers:
John MullerAssociate General Counsel and Head of Americas Subsidiary GovernanceBank of America Corporation
Holly YoungwoodManaging Director & Associate General CounselJPMorgan Chase & Co.
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Agenda
1• Why Create a Subsidiary Governance Framework
2• Identifying the Subsidiaries – Defining the Scope
3• Assessing Complexity of Subsidiary Needs
4• Choosing Between Centralized and Decentralized Administration
5• Selecting Directors and Officers
6• Enlisting Internal Stakeholder Support
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Why Create a Subsidiary Governance Framework
• Allows a company to manage its subsidiaries with a consistent approach that supports that company’s strategic objectives
• Ensure that each legal entity is receiving an appropriate level of corporate governance oversight
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
What is a Subsidiary? – Defining the Scope
1
2
54
3
Parent Company
Holding Company
Subsidiary: a legal entity that is controlled by another, generally referred to as the Parent, by owning more than 50% of the voting stock.• May be wholly or partially owned• Parent may or may not have a majority of the Board of
Directors
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
• As businesses grow, subsidiaries are needed to accomplish a variety of goals:
➢ Ring-fence assets and liabilities
➢ Conduct specific transactions
➢ Facilitate tax planning and create tax efficiencies
➢ Establish a local presence
➢ Satisfy legal or regulatory requirements
➢ Enter a new line of business
Why we create subsidiaries created for many purposes
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
What is a Subsidiary Governance Framework
Purpose of a Subsidiary Governance Framework
• Establish a consistent approach for governance
• Set minimum standards, which could include the following:
• Governance
• Controls
• Management and subsidiary-level reporting
• Financial and regulatory
• Subsidiary-level approvals such as new products
• Document roles and accountabilities for Committees, Front Line Units and Control Functions
• Subsidiary specific responsibilities for the Subsidiary Board of Directors
• Establish Compliance monitoring programs to ensure the framework requirements are appropriately satisfied
The Framework requirements should be consistent with or in addition to governance requirements that may be imposed by
applicable law, rule or regulation or enacted through other company policies or procedures.
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Options to consider in establishing the framework:
• In-house• Centralized• Decentralized• Hybrid
• Outsource to Third Party Providers• Governance Providers• Law Firms• Accounting Firms
• Combination of the Above
Additional factors to consider:
• Resources and Budget• Level of Governance Support Going Forward• Assessment of Governance Support to Date – Conducting a Legal Entity Health Check• Materiality of Legal Entity• Entity Management Software
Structuring a Subsidiary Governance Framework
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Risk-Based Approach to Subsidiary Governance
Consider complexity of subsidiaries in determining required governance
Factors may include:
• Asset base
• Whether it is regulated
• Whether it is operating
• Whether it is client facing
• The prominence of its brand
• The number of employees
• Whether it contains multiple business units• Litigation concerns• Wholly-owned v. partially-owned• Jurisdictional requirements for independent directors• Reporting requirements• Whether entity is consolidated for financial statement purposes
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Example of Subsidiary Governance
Framework
More Oversight
Less Oversight
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Additional items to consider in establishing the framework:
• Outline of corporate secretarial duties• Guidance about formation, composition of subsidiary boards, appointment and termination of directors, onboarding,
training• Guidance on how to conduct board meetings; minutes guidance• Role of Independent non-executive directors on subsidiary boards• Procedures for Operations: incumbency and secretary’s certificates, powers of attorney, notarizations and apostilles• Subsidiary Director Training• Indemnification• Signing Authority
Subsidiary Governance Framework – Other Items to Consider
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
• Have a centralized approval process for the creation and elimination of subsidiaries.• Consider forming a rationalization committee with standing members from governance, tax, finance, etc.
• Determine what level of organizational approval is required for the creation or elimination of a subsidiary.• A sliding scale requiring higher levels of approval starting from corporate support approvals, to executive approvals and ending at
parent company board approval may be appropriate. • Determining factors may be capital allocation, reputation risk
• Use of a centralized database to keep track of the organizational.• Consider whether you need entity management software.
• Have a centralized process for monitoring and eliminating subsidiaries.
• Review the organizational structure periodically
• Highlight newly created entities, eliminated entities and entities that have undergone significant changes (business expansion, name changes, etc.)
• Re-assess each subsidiary’s complexity based on your framework
Practices for managing the organization
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
• Consistency, not uniformity
• Communicate and implement
• Monitor, audit, report and review
• Evolving process
Subsidiary Governance Framework – No One Size Fits All
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary Governance A Critical Tool for Risk Management
END OF SESSION 2
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary GovernanceA Critical Tool for Risk Management
Sponsored by:
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
SESSION 3
Discussion with a Subsidiary Chair – why is good subsidiary governance important and what role does the Corporate Secretary play?
Moderator:
Colleen HennessyAssociate General Counsel and Director of Subsidiary Governance (U.S.)BMO Financial Group
Speaker:
Bonnie HowardRetired Chief Auditor and Global Head of Emerging Risk, Citigroup Independent director- Assured Guaranty Ltd, Artisan Partners Funds, STRIVE International
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary Governance A Critical Tool for Risk Management
END OF SESSION 3
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary GovernanceA Critical Tool for Risk Management
Sponsored by:
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Moderator:
Stephen L. BrownSenior Advisor, Board Leadership Center KPMG
Speakers:
Charles T. CanfieldPrincipal Corporate Governance Officer IFC Corporate Group
Marjorie Pierre-MerrittVice-President and Assistant Corporate Secretary TIAA
SESSION 4
Creating a Culture of Ethics, Environmental and Social Governance at the Subsidiary Level
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Charles T. CanfieldPrincipal Corporate Governance Officer
IFC ESG DepartmentOctober 11, 2018
THE GOVERNANCE OF E&S:INTRODUCTION TO THE IFC ESG PROGRESSION MATRIX FOR LISTED COMPANIES
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
OBJECTIVES
✓Introduction - Background on ESG Integration
✓Overview of CG Matrix - Corporate Governance with a focus on integrating sustainability into Board roles and responsibilities and Control Environment components
✓Stakeholder Engagement
2
Governance Professionals of Canada Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
INTRODUCTION – BACKGROUND ON ESG INTEGRATION
✓Changes in Best Practices/Conclusion that E&S needs to be integrated into CG ▪ Standard setters > UN PRI, ICGN, WFE, UN SSE, IOSCO, OECD, EU, US SEC,
TCFD▪ Reporting & Disclosure > GRI, IIRC, SASB, Asset4▪ Institutional Investors / Asset Managers > Aviva Investors, Cartica Capital,
Bank of Montreal, Triodos▪ Various Standards and Codes (S.A., Brazil, H.K., etc.) incorporated
E&S/Sustainability▪ Data providers > Bloomberg, ISS, MSCI and Sustainalytics ▪ Rating agencies > S&P, Moodys
✓Stakeholder Engagement (widen definition)3
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
3
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
CORE TOOL – CG PROGRESSION MATRICES
Level 1 Level 2 Level 3 Level 4
Commitment to
Good Corporate
Governance
Structure and
Functioning of the Board
of Directors
Control Environment
Transparency and
Disclosure
Treatment of Minority
Shareholders
P R O G R E S S I O N
LEVELS
PAR
AM
ETER
S
4
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Commitment to
ESG (Leadership and Culture)
• ESG integration and Stakeholder Engagement• Oversight of ESG at the Board level / Board level committee to review ESG issues• National / Global Leader in ESG
Structure and Functioning of
the Board of Directors
• Board approves sustainability strategy and E&S policies
• Board verifies ESMS in place and audited
• ESG issues are a recurring Board agenda item
• Board member with understanding of E&S risks, and if sensitive industries, then at least one E&S Expert
Control Environment • ESMS integrated into the corporate Risk Management framework
• Head of E&S/ Sustainability has unfettered access to the Board and reports to the Risk Management Committee of the Board
Transparency and Disclosure • Annual Report includes ESG reporting• Annual Report uses IIRC, GRI, SASB and/or other acceptable framework• ESG data is subject to independent assurance
Treatment of Minority
Shareholders
• Addition of Sixth Parameter Stakeholder Engagement
HIGHLIGHTS OF CHANGES-E&S COMPONENTS
5
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
STAKEHOLDER
ENGAGEMENT
• Stakeholder engagement (SE) policy• Key stakeholders are identified• Mechanism where stakeholders can ask questions or complain• SE incorporated into Board decision-making and ext. reporting• Dedicated personnel and reporting lines for both external and internal (worker and contractor)
stakeholder relationships• Board ensures appropriate dialogue with key stakeholders. • SE activities is recurring board agenda item• Annual report sustainability data and how the company’s activities materially affect stakeholders• Designated a senior executive assumes responsibility for stakeholder relationships• Commitment to SE visible to staff, contractors, suppliers and collaborators via codes of conduct or similar
that set out core expectations in relation to issues such as stakeholder interactions• Independent audit on grievance mechanism effectiveness to Board
HIGHLIGHTS OF CHANGES-E&S COMPONENTS
6
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
CG PROGRESSION MATRIX – STAKEHOLDER ENGAGEMENT
Excerpt of relevant E&S provisions of the Progression Matrix
1. Acceptable ESG Practices 2. Intermediate ESG Practices 3. Good International Practices 4. ESG Leadership
• Ad hoc stakeholder-identification,
including workers, customers,
regulators and the locally Affected
Community.
• Informal response to stakeholder
requests and concerns.
• Key stakeholders identified also include
local NGOs and CSOs.
• Stakeholder engagement (SE) policy and
strategy
• External Communications Mechanism
(ECM) for stakeholder questions and
complaints.
• Basic process to ensure timely response
and documented grievance mechanism.
• SE personnel reporting to senior
management.
• SE activities and outcomes reported to
the board and externally.
• Formal stakeholder mapping process and expanded
definition of stakeholders includes, contracted workers,
neighboring projects, and international NGO/CSOs.
• Well-defined SE policy, strategy, and procedure with
stakeholder analysis, differentiated approaches for priority
groups, iterative disclosure/consultation, grievance
management and reporting
• External and publicly accessible communications procedure
to receive, assess, address and respond issues raised and
provide, track and document responses.
• Effective grievance mechanism for Affected Community
concerns and grievances.
• Trained personnel and direct reporting lines to management
for external and internal stakeholder relationships.
• Unresolved stakeholder issues require a management action
plan.
• Senior executive responsible for stakeholder relationships.
• Commitment to stakeholder engagement visible to staff,
contractors, suppliers, and collaborators via codes of
conduct setting out expectations for stakeholder
interactions and human rights.
• Senior executives participate actively in international
industry discussions on related topics.
• SE practices incorporated into requirements for primary
suppliers and contractors.
• SE and reporting consistent with international standards (AA
1000 Standards 2015 and 2008, ISO 26000).
• SE activities and outcomes included in board decision making
and external reporting procedures.
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
IFC CG PROGRESSION MATRIX - COMMITTMENT
1. Acceptable ESG
Practices
2. Intermediate ESG
Practices
3. Good International
Practices 4. ESG Leadership
Companies that fulfill the
requirements of national
legislation
Companies that take extra
steps to ensure good ESG
practices
Companies that provide a
major contribution toward
improving ESG nationally
and that comply with good
international standards
(e.g., IFC Performance
Standards)
International best
practices—companies that
are publicly recognized as
among national and global
leaders on ESG;
trailblazers
Excerpt of relevant E&S provisions of the Progression Matrix
8
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
CG PROGRESSION MATRIX – STRUCTURE AND FUNCTIONING OF THE BOARD
Excerpt of relevant E&S provisions of the Progression Matrix
1. Acceptable ESG Practices 2. Intermediate ESG Practices 3. Good International Practices 4. ESG Leadership
• Board has ability to verify E&S.
management systems are in place.
• At least 1 director with
understanding of E&S risks.
• Board is trained on ESG risks issues
generally and for the industry.
• ESG issues are a recurring board
agenda item and board approves
sustainability strategy and ESG
policies.
• Board is aware of and routinely
reviews E&S performance.
• In sensitive industries, at least 1
director has in-depth knowledge
of E&S risks.
• Specialized committees (incl.
sustainability) are more than 50%
independent (including chair).
• Board receives independent audits
on effectiveness of ESMS,
including stakeholder engagement
processes and grievance
mechanism.
9
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
CG PROGRESSION MATRIX – CONTROL ENVIRONMENT
Excerpt of relevant E&S provisions of the Progression Matrix
1. Acceptable ESG Practices 2. Intermediate ESG Practices 3. Good International Practices 4. ESG Leadership
• Comprehensive ESMS integrated in
risk-management framework.
• E&S risks are part of the decision
making
• Company refers to and is guided by
good international industry practices
in its E&S risk-management practices.
• E&S/ Sustainability head has
unfettered access to senior
management and CRO.
• Cybersecurity policy subject to
periodic internal audit.
• Head of Sustainability has access to
the board and reports to risk-
management committee.
• Effectiveness of ESMS reviewed by
external auditor every 2-5 years.
• ESMS is consisted with international
codes such as ISO 14001.
10
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
CONTROL ENVIRONMENT: EXAMPLE OF IMPLEMENTATION AT SUBSIDIARY LEVEL
Stage 1
Expand compliance scope to a Group compliance function
to cover all associated risks of all entities wholly owned
and controlled within Group and develop matrix reporting
such that subsidiary compliance functions are reporting
into Group compliance function, Also, Charge the Audit
Committee to provide oversight over the Compliance
Function. See Diagram
Stage 2
Ensure that compliance function staff obtain international
credentials in compliance, such as the Certified
Compliance & Ethics Professional International (CCEP-I).
Group level
Subsidiary level(Replicated in each key subsidiary)
AGSA Management
Group Board of Directors
Audit & Ethics Committee
Group CEO
Compliance functioncovers group and all subsidiaries
Subsidiary Ethics Committee
Subsidiary Board of Directors
Compliance function
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
• Adapt to Other Paradigms (Family, FIs, SOEs, Privatized Transitioned, Funds & SMEs)
• Adapt Framework to other tools e.g., Model CG/ESG Code, Model Listing Rules and other standards
• Train nominee directors
• Implement new framework and tools into investee companies
• Available at:
https://www.ifc.org/wps/wcm/connect/topics_ext_content/ifc_external_corporate_site/ifc+cg/investment+services/corporate+governance+tools
NEXT STEPS
12
Subsidiary Governance: A Critical tool for Risk Management
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary Governance A Critical Tool for Risk Management
END OF SESSION 4
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary GovernanceA Critical Tool for Risk Management
Sponsored by:
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Moderator:
Poonam PuriProfessor Osgoode Hall Law School
Speakers:
Scott FisherPartner Davies Ward Phillips & Vineberg LLP
John J. MartinPartner Chapman and Cutler LLP
SESSION 5
Officer Duties, the Corporate Veil and Preserving Privilege In Minutes
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
"The limited-liability company is the building-block of capitalism, mobilising resources for investment. But its central tenet, that investors are not generally responsible for the liabilities of the firms they invest in, faces growing challenge. A decision by the Court of Appeal stretches almost to breaking point the 'corporate veil' that has protected parent companies from the sins of their subsidiaries.”
The Economist, May 2012, about Chandler v Cape PLC
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Key Questions
• How much direction and oversight should parent corporations be exercising over their subsidiaries?
• How independent should subsidiaries be?
• To whom do subsidiary directors owe their duties?
• What factors should be considered when nominating subsidiary directors?
• What factors should be considered when creating subsidiaries?
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Agenda
1. Director and Officer Duties
2. The Corporate Veil
3. Lessons for Directors
4. Privilege in Minutes
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
1. Director and Officer Duties in the U.S.A. What fiduciary duties are owed by officers and directors?
I. Duty of Care
II. Duty of Loyalty
III. Other Duties?
B. To whom are these fiduciary duties owed?
C. By what standard do courts generally judge officer and director conduct?
I. Directors – Business Judgment Rule
II. Officers
D. Statutory Exculpation
E. Are there circumstances when fiduciary duties will be enhanced?
F. International Trends
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
1. Director and Officer Duties in the U.S. (cont'd)A. What fiduciary duties are owed by officers and
directors?I. Duty of Care: Obligation to use the amount of care which an
ordinarily careful and prudent person would use in similar circumstances
II. Duty of Loyalty: Obligation to act in good faith for the benefit of the Corporation and its stockholders (and not for the director’s/officer’s own interest)
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
1. Director and Officer Duties in the U.S. (cont’d)III. Other Duties?• Components of duty of care and duty of loyalty (not separate
duties).
• Good Faitho Act with honesty of purpose and in the best interest of the
Corporation (opposite of bad faith)
o Example #1: Knowing violation of law
o Example #2: Intentional failure to act in the face of a known duty to act
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
1. Director and Officer Duties in the U.S.(cont’d)III. Other Duties?• Duty of Oversight
o A corporation can be held responsible for the conduct of its management and employees so a functioning oversight and compliance system must be in place
o Federal sentencing guidelines allow penalties to be reduced for the corporation’s violation of federal criminal laws if the corporation has appropriate oversight and compliance programs in place
o Directors of foreign-based corporations – (In re Puda Coal, Inc. S’holders Litigation)
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
1. Director and Officer Duties in the U.S.(cont’d)III. Other Duties?• Duty of Disclosure
o Directors must communicate honestly with stockholders and to make full and fair disclosure
o Does not require disclosure of all information – substantial likelihood that the disclosure of the omitted fact would have been viewed by the the reasonable stockholder as having significantly altered the total mix of information made available
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
1. Director and Officer Duties in the U.S. (cont’d)
B. To whom are these fiduciary duties owed?
• Directors and officers owe fiduciary duties to the corporation and its stockholders
• The corporation does not owe fiduciary duties to its stockholders• Insolvency:
o Some courts have indicated that fiduciary duties might shift from stockholders to creditors as the corporation approaches insolvency
• N.Am. Catholic Educ. Programming Found Inc. v. Gheewalla –Delaware Supreme Court held that creditors of a corporation have no right to assert direct claims against directors for a breach of fiduciary duties.
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1. Director and Officer Duties in the U.S. (cont’d)
C. By what standard do courts generally judge officer and director conduct?
• Directors
• Business Judgment Rule: Presumes the board acted on an informed basis and in the honest belief that the action was taken in the best interest of the corporation
• If a plaintiff can prove that a majority of the board acted in bad faith, was grossly negligent or was disloyal, the burden shifts to the directors to prove that the transaction was entirely fair to the corporation
• If the business judgment rule presumption is not rebutted, the court will not second guess the board’s decision unless the challenged transaction constitutes waste (i.e. no rational basis for the decision)
• Officers:
• Not settled under Delaware Law whether officers are entitled to the protections of the business judgment rule
• If officers are not entitled to the protections of the business judgment rule, then the standard of care for breach of the duty of care may be reasonableness as opposed to gross negligence
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1. Director and Officer Duties (cont’d)
D. Statutory Exculpation
• Section 102(b)(7) of the General Corporation Law of the State of Delaware allows a corporation to include a provision in its certificate of incorporation to eliminate the personal liability of a director to the corporation or its stockholder for monetary damages for the breach of a fiduciary duty
• A corporation may not eliminate liability for the following:
– Breach of the duty of loyalty
– Acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of the law
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1. Director and Officer Duties (cont’d)D. Statutory Exculpation
• Unlawful payments of dividends or unlawful stock repurchases or redemptions or
• Transactions in which the director derives an improper personal benefit
• Section 102(b)(7) exculpation is available for directors but not officers
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1. Director and Officer Duties (cont’d)E. Are there circumstances when fiduciary duties will be
enhanced?• Transaction with Controlling Stockholders: entire fairness standard of review
applies in two general circumstances
• When a controlling stockholder stands on both sides of the transaction
• If at least half the directors that approved the transaction were not disinterested and independent
• Interference with Stockholder Vote
• If the board acts with the primary purpose of interfering with the stockholder franchise, the board must show it had a compelling justification
• If the board can show a compelling justification, the business judgment rule applies
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1. Director and Officer Duties (cont’d)E. Are there circumstances when fiduciary duties will
be enhanced?
• Defensive Measures:
• Because of the inherent conflict of interest in deploying anti-takeover measures (retention with the corporation or obtaining severance benefits), in order for entire fairness to not be the standard of review, directors must show:
• reasonable grounds for believing a danger existed to the operation or policies of the corporation; and
• the defensive measures employed were reasonable in relation to the threat and not preclusive or coercive
Subsidiary Governance: A Critical tool for Risk Management
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1. Director and Officer Duties (cont’d)E. Are there circumstances when fiduciary duties will be
enhanced?
• Sale of Control:
o burden is on the directors to obtain the highest value reasonablyavailable
o if the directors fail to meet this burden, they must show that the transaction was entirely fair to the corporation
o there is no one single blueprint for directors to follow
• Officers:
o officer duties are ill-defined under Delaware corporate law
o until it is clear whether the business judgment rule applies to officer conduct, it will likely remain unclear whether any heightened reasonableness standards apply to officer conduct in certain situations
Subsidiary Governance: A Critical tool for Risk Management
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1. Director and Officer Duties (cont'd)F. International Trends• The Yates Memo, 2015 (USA): outlines six policies to guide attorneys when investigating
corporate misconduct and includes a renewed focus on individual misconduct.
• The Senior Managers Regime, 2016 (UK): focuses on individual accountability and sets a statutory duty of responsibility requiring Senior Managers to take reasonable steps to prevent regulatory breaches from occurring (or continuing to occur) in their area of responsibility.
• The Manager-in-Charge Regime, 2017 (HK): identifies eight core functions that are considered instrumental to the operations of licensed corporations; each core function is to have at least one "Manager in Charge" designated as being responsible for managing that function.
Subsidiary Governance: A Critical tool for Risk Management
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1. Director and Officer Duties (cont'd)F. International Trends • Banking Executive Accountability Regime, 2018 (Australia): makes Authorized
Deposit-taking Institutions and their most senior executives and directors accountable for meeting heightened standards of behavior.
• Proposed Guidelines on Individual Accountability and Conduct (Singapore): promotes individual accountability of Senior Managers, strengthens oversight of employees in material risk functions and raises standards of conduct in financial institutions.
• Focus on Senior Management Responsibility (Ireland): Central Bank of Ireland will focus law reform on Senior Management responsibility for regulatory compliance.
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2. The Corporate VeilA. What is the “Corporate Veil”?
B. Case Law
C. How to protect the parent corporation?
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The Honourable Ian Binnie, former Justice of the Supreme Court of Canada,
at the Coxford Lecture (2012)
“[I]s it right that the idea of a 'corporate veil' be used in 2012 to block the claims, for example, of Latin American villagers
seeking compensation for the destruction of their environment by tailings from a Canadian owned mine? Why should the cost of the environmental devastation fall entirely on the heads of its victims? Why shouldn’t legal responsibility
follow the money up the corporate food chain?”
2. The Corporate Veil (cont'd)
Subsidiary Governance: A Critical tool for Risk Management
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2. The Corporate Veil (cont'd)A. What is the “Corporate Veil”?
• Shareholders are liable for corporate conduct only in very limited circumstances.
• Piercing the corporate veil occurs whenever the court imposes liability on shareholders of a corporation by disregarding the corporate form.
• Piercing the corporate veil traditionally occurs where:• the parent misuses the separate corporate form for wrongful purposes; and
• the parent controls the subsidiary to the extent that the subsidiary is a mere instrument of the parent.
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2. The Corporate Veil (cont'd)A. What is the “Corporate Veil”?
• Plaintiffs are attempting to impose liability directly on the parent corporation when they cannot obtain a remedy against the subsidiary in their own country.
• Two legal mechanisms for imposing liability directly on a parent corporation: o Tort: The parent owed a duty of care to the individuals who dealt with
the subsidiary.o Agency: The subsidiary was an agent for a parent that completely
dominated and controlled the subsidiary.
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2. The Corporate Veil (cont'd)B. Significant U.S. Cases
Re Puda Coal, Inc. Stockholders Litigation (2013)• If a corporation’s assets and operations are situated in a foreign jurisdiction, directors must have
controls in place to oversee foreign operations.
Rich v. Chong (2013)• “When faced with knowledge that the company controls are inadequate, the directors must act,
i.e., they must prevent further wrongdoing from occurring.”
• Referencing Puda Coal: “U.S.-based directors of companies with substantial operations outside the U.S. …must actively monitor the extraterritorial operations of the Delaware entity.”
Kiobel v Royal Dutch Petroleum Co. (2009), 2nd Circuit – US Court of Appeals• The U.S. Supreme Court decided that the presumption against extra territoriality applied to the
Alien Torts Act thereby narrowing significantly the bases upon which claims based in foreign jurisdictions can be addressed in U.S. Courts.
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2. The Corporate Veil (cont'd)B. Significant Canadian Cases
Choc v. Hudbay Minerals Inc., 2013 ONSC 1414• Security personnel working for Hudbay subsidiaries were alleged to have committed
human rights abuses at a Guatemalan mining project.
Garcia v. Tahoe Resources, 2017 BCCA 39• Claim for damages brought by Guatemalan plaintiffs against a Canadian parent
company over the actions of mine security personnel hired by foreign subsidiary.
Araya v. Nevsun Resources Ltd., 2017 BCCA 402• Eritrean plaintiffs seeking remedies in Canadian courts against parent mining
company for allowing forced labour and other abuses in minority owned venture in Eritrea.
Yaiguaje v. Chevron Corp., 2018 ONCA 472• The plaintiffs are attempting to enforce a USD $9.5 billion Ecuadorian judgment in
Canada against Chevron US and its Canadian subsidiary.
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2. The Corporate Veil (cont'd)B. Other Significant International Cases
Chandler v Cape PLC, 2012• Held that a duty of care will be owed if a parent corporation assumes responsibility for the conduct or
behaviour of a subsidiary.
Lungowe and others v Vedanta Resources plc, 2017, UK Court of Appeal• Claims brought by local farmers against a Zambian mining company and its UK parent in relation to pollution
from a mine in Zambia.• The Court of Appeal found there was “a properly arguable case or serious question to be tried.”
HRH Okpabi v Royal Dutch Shell, 2017, UK Court of Appeal• Claims for damages were brought by over 42,500 Nigerian citizens against Royal Dutch Shell and its Nigerian
subsidiary for ongoing pollution and environmental damage in the Niger Delta.• Court of Appeal found it relevant that Royal Dutch Shell issued mandatory policies, standards and manuals
which applied to its Nigerian subsidiary.
AAA and others v Unilever plc, 2018, UK Court of Appeal• Claimants alleged that the UK parent and its Kenyan subsidiary were liable for failure to adopt adequate
safeguards to protect its employees from ethnic violence that erupted in Kenya.• Court of Appeal held the UK parent did not owe the claimants a duty of care in negligence on the ground
that there was no proximity.
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2. The Corporate Veil (cont'd)C. How to protect the parent corporation?Factors a court will likely consider in holding that a parent owes a duty of care to third parties for subsidiary conduct:
• ownership and effective control of the subsidiary (for example, whether the subsidiary is wholly owned or not);
• the degree of control exercised by the parent company over the situation giving rise to potential liability;
• assumptions of responsibility by the parent company regarding the situation giving rise to potential liability;
• public representations by the parent company regarding its relationship with its subsidiary;
• employment by the parent company, rather than the subsidiary, of the individuals responsible for the subsidiary’s activities;
• adoption of policies by the parent that apply to its subsidiary
• See Parents’ subsidiary liabilities hit home and Leading-Edge Practices in Subsidiary Governance
Subsidiary Governance: A Critical tool for Risk Management
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3. Lessons for Directors of Parent Companies
• Potential directors should conduct appropriate due diligence on the corporation, its operations, and its management and board.
• Directors should actively monitor the corporation’s foreign assets and operations and seek competent professional advice where necessary.
• Directors should have a centralized approval process for managing the organizational chart, including the creation and dissolution of subsidiaries.
• Create a legal entity framework and subsidiary rationalization committee.
• It’s a bad idea to recycle subsidiaries.
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3. Lessons for Directors of Subsidiary Companies
• Corporate records and minutes should reflect that the subsidiary directors turned their mind to the possible effect of a transaction or contract on the subsidiary, and that they were not subservient to the requests of the parent.
• Directors of subsidiaries should ensure that they independently evaluate and consider the impact of enterprise-wide corporate policies.
• Ensure compliance with residency requirements for directors under the jurisdiction’s corporate law where it is incorporated.
• Nominee directors are subject to the same duties and obligations required and expected of all subsidiary directors.
• See Parents’ subsidiary liabilities hit home and Leading-Edge Practices in Subsidiary Governance
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
3. Lessons for Directors of Subsidiary Companies
• Consider setting up a structure and process to identify necessary skills, qualifications and competencies required of subsidiary board members.
• Consider separating the chair of the subsidiary board from the president of the subsidiary corporation.
• Consider appointing subsidiary board directors from other business lines or geographic regions rather than employees from the revenue-generating operations of the subsidiary itself.
• Consider appointing a majority of board members who are tax-resident in the jurisdiction where the subsidiary is incorporated or, if this is not feasible, appointing a majority of board members who are not tax-resident in the parent company's tax home.
• See Leading-Edge Practices in Subsidiary Governance
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4. Privilege in MinutesA. What is covered by privilege?
B. U.S. Case Law
C. What are best practices, from a legal perspective, in drafting minutes to protect privilege?
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4. Privilege in MinutesA. What is covered by privilege?
• Confidential communications between a party and its legal counsel that contains legal advice.
• Privilege will only attach if legal advice was being sought or given.
• Minutes and board discussions are not necessarily protected by legal privilege simply because the board meeting is confidential or because you have labelled a portion of the meeting “in-camera.”
• Privilege is lost once minutes are shared with a third party.
• Exception: “Transactional common interest privilege”.
• See Legal privilege: are you protected?
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4. Privilege in MinutesB. Case Law in the U.S.
First Fed. Savs. Bank of Hegewisch v United States, 2003 U.S. Claims • Privilege applied to unredacted board minutes when accounting firm investigated complicated
accounting issues such that accounting firm's role was related to rendering legal advice but did not apply to the subsequent disclosure of the same unredacted board minutes during an annual audit.
Re Teleglobe Communications Corp., 2007 U.S. App. (3rd Cir.)• Case upholds a parent company's right to assert privilege against its subsidiaries in certain
circumstances.
• BCE wanted to cease funding of Teleglobe, a wholly-owned subsidiary. Some unsecured creditors and a group of Teleglobe's U.S. subsidiaries sued BCE claiming that this decision caused the subsidiaries to file for bankruptcy. During the litigation, the Teleglobe U.S. subs sought access to documents containing legal advice provided to BCE and Teleglobe prior to the termination of funding.
• The Court of Appeal held that it is joint-client privilege that applies where a corporate parent and its subsidiary consult the same in-house counsel regarding the same legal matter – common interest privilege does not apply.
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4. Privilege in Minutes (cont’d)B. Best Practices• Record board minutes clearly.
• Be clear on when a lawyer’s presence will give rise to privilege.
• Inspection of board minutes by third parties should be restricted to prevent loss of privilege.
• Legal advice described in minutes should be redacted before minutes are disclosed.
• Consider receiving a separate report from counsel, which can then instead be referenced in the minutes.
• See Legal privilege: are you protected?
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary Governance A Critical Tool for Risk Management
END OF SESSION 5
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary GovernanceA Critical Tool for Risk Management
Sponsored by:
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Moderator:
David Chernin Director of Customer Success Diligent
Speakers:
Jennifer BennettManaging Director, Associate General Counsel & Assistant Corporate Secretary Bank of America Corporation
Colleen HennessyAssociate General Counsel and Director of Subsidiary Governance (U.S.)BMO Financial Group
SESSION 6
Grab Bag
Subsidiary Governance: A Critical tool for Risk Management
New York, October 11, 2018
Subsidiary GovernanceA Critical Tool for Risk Management
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