Will governance reform the financial services industry?
If one has to look at the economic development of South Africa since the birth of democracy in 1994, it is clear that the country has come a long way in establishing itself as the economic power house of the continent and one of the fastest developing nat
However, the country is not without its challenges. And one of the biggest challenges which has been building since 1994 is the slow moral decay that the country is going through. Corruption is seemingly rampant and fraud is almost an everyday occurrence.
Effects on the financial services sector
While there are other sectors of society which has fallen prey to this moral decay worse than others, a slow trickle is starting to have an effect of the financial services sector.
I have written a number of newsletters regarding some radical changes that government hopes to impose on the sector. The first was the proposed ban on the use of second hand car parts as replacement parts in vehicles and the effects that it would have had on the insurance sector as well as the panel beating and restoration sector. This has since been retracted.
The second newsletter concerned the proposed use of retirement funds to fund struggling parastatals such as Eskom, South African Airways, Telkom and the SABC.
Governance is the key to reform the industry
How do we combat this growing problem? While many of us sit back and watch the decay taking the view that there is not much we can do to stop it, there needs to be a serious intervention. Good corporate governance is key, and a few pieces of legislation instituted by industry regulators hopes to be the catalyst of this intervention.
One of the ways in which this change will hopefully occur is through the establishment of the social and ethics committee which is part of the revised companies act.
As much as Dr Johan Erasmus told the 14th Annual Compliance Institute Conference that he would have liked the committee to be the one responsible for organising the year end functions of these companies and to oversee the behaviour at these said functions, the committee plays a far more important role in the industry.
“A key function of the social and ethics committee is to act as the social conscience of the business’ operations and to ensure that the organisation behaves consistently with that of a responsible system set out by its board,” says Erasmus.
Not every company in the industry will need to establish a social and ethics committee. The committee will only be mandatory for publicly listed companies, state owned companies and their various service providers (sub-contractors and their affiliates) and any company which has earned 500 public interest score points in any two of the past five years.
There are no restrictions on how big this committee must be. However, the Companies Act does point out that three of the members can be directors or prescribed offices and at least one of these members must be a non-executive director. This committee will monitor the activities of the company and raise matters with the board. It is also compelled to report to shareholders at annual general meetings.
The whole point of this committee will be to strengthen the transparency of the private sector. Therefore the committee needs to be as objective as possible and needs to act as independently as possible from its board of directors. Another objective is to prevent crimes such as bribery and fraud. However, it will be interesting to see how this is monitored as corruption seems to be rampant with all levels of corporate society seemingly playing a role.
Will SAM come to the rescue?
One of the most proactive regulators in implementing systems and processes which would encourage good industry governance has been the Financial Services Board which is in the process of implementing Treating Customers Fairly as well as Solvency Assessment and Management (SAM).
While there are a lot of companies that are sceptical about SAM and the effects that it will have on them and their business practices, Donovan Hutchinson from the FSB says that the regulation will significantly improve the industry.
“SAM is a principle based legislation which encourages companies to base their operations on taking on more risk and managing that risk in a responsible manner. If companies can manage this properly, it will significantly benefit them,” says Hutchinson. He adds that SAM is uniquely tailored to suit the local environment and is comparable with international legislation.
The question that everyone is asking is: how will SAM improve governance?
SAM is made up of three aspects, which the FSB calls lines of defence. The first line of defence is the line responsible for the day-to-day running of the business. The second line of defence is made up of auditors which monitor these events and the third line of defence is independent from the first two, but must establish the framework within which the first two lines must operate in. Line one owns and manages the risk while line two is responsible for risk control and compliance. Line three is responsible for risk assurance.
“The reporting structure within SAM is key to good governance. The first, second and third lines report to senior management while the third line also reports to the board of directors but because the third line is the most independent it also has the responsibility to report to regulators should it still not be satisfied with the company’s performance.
Editor’s Thoughts:
While it is clear that there is a concerted effort to improve the governance of a number of the country’s key industries, one cannot help but look at these efforts with a certain measure of scepticism. While there are all these grand plans, the proof of the pudding will be in the eating. A plan is only as good as its execution.
A nagging question in my mind is: what if the corruption is so rampant that it compromises the structures which are responsible for overseeing ethical practices? A key feature of both of these acts of legislation is the whistle blowing function whereby any person who suspects unethical activities and have exhausted all avenues within the company can go to regulators to bring these activities to their attention.
Do you feel that these pieces of legislation will improve the industry? Or will they prove to be harder to implement that initially thought? Please comment below, interact with us on Twitter at @fanews_online or email me your thoughtsjonathan@fanews.co.za.
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