REGULATORY ENVIRONMENT: INCREASING COMPLEXITIES AND CHALLENGES

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REGULATORY ENVIRONMENT INCREASING COMPLEXITIES
AND CHALLENGES

• Caribbean Association of Audit Committee Members
  Inc First Annual Meeting
  
• June 21- 22, 2007 Saint Lucia
• Presented by Esco Henry, ECCB

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OUTLINE

• Introduction
• Definitions
• Fiduciary Relationship between Director and
  Financial Institution
  
• Role of auditors and audit committees in
  corporate governance
  
• Standards
• - Sarbanes Oxley Act
• - IFRS
• - Companies Act and Securities Act
• - Banking Act and Guidelines
• Complexities/Challenges
• Approaches
• Conclusion

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Introduction

• Corporate Governance is receiving an
  increasing amount of attention from both the
  media and regulatory bodies such as the
  Securities Exchange Commission (SEC) in the USA,
  the Financial Services Authority (FSA) in the UK,
  the Eastern Caribbean Central Bank (ECCB) and the
  Caribbean Association of Audit Committee Members
  Inc (CAACM) in the Eastern Caribbean.
• Emergence of
• - International Financial Reporting
  Standards (IFRS)
  
• - Basel II Accord
• - Sarbanes-Oxley Act
• - Securities Act and Regulations
• - Banking Act and guidelines

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Introduction Contd

• Effective corporate governance is an essential
  element in
  
• - safe and sound functioning of an
  
  
• institution
• - arsenal for protection of investors
• - development of money and capital
  
  
• markets
• - elimination of systemic risk.

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Introduction Contd

• With regulators exercising greater scrutiny
  over the financial affairs of institutions, the
  role of auditors/audit committees has been
  evolving and is being enlarged by international
  standard setting bodies mirrored in regional
  benchmarks.
• As the bar is raised, auditors/audit
  committees find their roles being re-defined.
  They are being fashioned as major partners in
  maintaining corporate governance within
  companies.

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Introduction Contd

• The new international rules
• - complex and unachievable
• - the norm
• - might assume mandatory status
  in the
  
• future
• The challenges for regional audit committees
  
  
• - create a realistic agenda for
  achieving compliance
  
  
• within established or projected
  deadlines
  
• - implement the planned agenda

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Introduction Contd

• This presentation seeks to highlight the main
  provisions of the regulatory framework and some
  of the complexities of the new standards and
  suggest practical approaches for converting the
  challenges into successful outcomes.

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DEFINITIONS

• Corporate governance refers to
• - the processes,
• - structures, and
• - information
• used for directing and overseeing the
  management of an institution. It encompasses the
  relationships and mechanisms utilised for
  achieving accountability among an institutions
  board of directors, management, shareholders and
  other stakeholders.

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DEFINITIONS CONTD

• Risk refers to the uncertainty that
  surrounds future events and outcomes. It is the
  expression of the likelihood and impact of an
  event which has the potential to influence the
  achievement of an organization's objectives.
• Risk Management is a systematic approach
  to setting the best course of action under
  uncertainty by identifying, understanding,
  assessing, communicating and responding to risk
  issues.

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DEFINITIONS CONTD

• regulatory environment describes the body of
  laws, regulations, rules, guidelines and
  standards imposed by Parliament and regulatory
  authorities to govern the conduct of participants
  in a particular industry.

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Characteristics of good corporate governance
citizen

• honesty
• trust and integrity
• openness
• performance orientation
• responsibility and accountability
• mutual respect, and
• commitment to the organisation

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Fiduciary Relationship between Director and
Financial Institution

• Fiduciary duties owed by directors are primarily
  two-fold in nature
  
• To exercise powers for the purposes for which
  they are conferred and bona fide for the benefit
  of the institution and by extension the benefit
  of depositors
• To avoid situations in which their personal
  interests and their duties to the institution
  conflict
  
• Section 74 Companies Act No. 22 of 1996

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Fiduciary relationship Duties of care diligence
and skill

• Directors must ensure that the depositors
  moneys are protected. Diligence carries with it
  the requirement of giving a reasonable amount of
  attention to the companys business.
• Directors are expected to be familiar with
  lending policies, numbers and value of major
  accounts, defaulting accounts, availability of
  collateral, current status and results of
  attempts to recover.

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Fiduciary relationship Duties of care diligence
and skill

• A director is not expected to function as an
  expert unless appointed to the board as an expert
  in a particular field. He must however act with
  such care as is reasonably to be expected from
  him, having regard to his knowledge and
  experience.
• He must exercise reasonable care and diligence
  but is not liable for errors of judgment.
  
• Such reasonable care is measured by the care
  an ordinary man might be expected to take in the
  same circumstances on his own behalf.
  

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Fiduciary relationship Duties of care diligence
and skill

• A director may rely on the opinion of an
  expert who is not a director but he must in
  respect of such advice exercise his own
  independent judgment when arriving at a decision.
  
• If he acts honestly for the benefit of the
  company, he discharges his legal duty to the
  company.
  

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Breach of Duty - remedies

• Breach of duty attracts a raft of remedies in
  tort, contract law or by statute
  
• Injunction or declaration
• Damages or compensation
• Rescission of contracts section 76 of Companies
  Act through application to the court by member
  of the company to set aside the transaction and
  to require the director to account to the company
  for any profit or gain realized
• Revocation of appointment of director Companies
  Act No 22 of 1996 section 78
  

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Criminal Sanctions

• The legislation governing conduct of directors
  has created numerous offences to punish unethical
  or dishonest behaviour by directors of companies
  and licensed financial institutions
• Penalties range from fine of 1000 to
  250,000.00 and imprisonment for up to five
  years
  
• Banking Act sections 3(5)(b), 6(4), 8(8), 9(5),
  12(4),
  
• Companies Act - section 107 (2)
• Provision is also made in the Banking Act
  stipulating that each director is required to
  take reasonable steps to secure compliance by the
  financial institution with each requirement of
  the Act - section 30

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Criminal Sanctions Contd

• Failure to declare and register related interest
  and conflict of interest - 10,000.00 section
  28(5)
  
• With intent to deceive makes false or misleading
  statement/omits relevant entry for audit purposes
  - 15,000.00 - section 29 / Companies Act 107
  (2)

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Criminal Sanctions Contd

• Section 31 of Banking Act Liable for
  offences committed by the company unless he
  proves
  
• - that the act constituting the offence
  
  
• took place without his knowledge or
  
  
• consent, or
• - that he exercised all due diligence to
  
  
• prevent the commission of the
  offence.
  

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Other Sanctions

• Central Bank may sanction directors for
• engaging in unsafe or unsound practices in
  conducting the business of the institution
  
• violating any law, regulation or guideline issued
  by the Central Bank
  
• Failure to comply with any requirement imposed
  under section 22 - 50,000.00 section 22 (5) (b)

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Role of Auditors and Audit Committees in
Corporate Governance

• The role of auditors in general is changing to
  accommodate the new demands and challenges
  imposed by the regulatory regimes. So too is the
  role of audit committees.
• Auditors are expected to
• - fulfil their traditional functions of
  accounting
  
• and financial control,
• - deliver cost and efficiency savings in
  their
  
• operations,

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Role of Auditors and Audit Committees in
Corporate Governance

• Auditors and audit committees are expected
  to
  
• - respond to ever increasing regulatory
  
  
• and statutory requirements, and
• - add value to the organization as a
• whole.

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Sarbanes Oxley

• The Act is applicable to public companies
  trading securities.
  
• Main Provisions
• - Public companies to evaluate and disclose
  
  
• effectiveness of their internal controls as
  they
  
• relate to financial reporting (Section
  404)
  
• - certification of financial reports by CEO
  and
  
• chief financial officers
• - auditor independence
• - establishment of fully independent audit
  
  
• committees

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Sarbanes Oxley Contd

• - attestation by the companys external
  auditor
  
• on managements assessment of the
  
  
• effectiveness of the companys internal
  
  
• controls and procedures for financial
• reporting,
• - SOX forbids external auditors from
  
  
• 8 participating in the design and
  
  
• implementation of an
  institutions
  
• financial system
• 8 providing actuarial, human
  resources and
  
• investment advice.

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Sarbanes Oxley Contd

• Conceivably, those principles may in the
  future be applied in our jurisdictions to
  institutions considered to be systemically
  important to the financial system licensed
  financial institutions and companies trading on
  the ECSE.

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International Financial Reporting Standards (IFRS)

• IFRS is intended to harmonise accounting
  practices and
  
• to make it easier for stakeholders across
  country borders to measure and compare
  performance and to truly embrace a global
  international accounting language.
• The concept of fair value accounting is
  perhaps the single largest problem encountered
  with IFRS.
  
• Criticism - increases the need for subjective
  valuations to be performed by reporters.

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International Financial Reporting Standards
(IFRS) Contd

• Other concerns
• - difficulty in reporting on management
  
  
• performance since the standards focus
  
  
• on the balance sheet and not the income
  
  
• statement
• - the stresses caused by additional
  
  
• regulatory interpretations and

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International Financial Reporting Standards
(IFRS) Contd

• - disclosures required by IFRS represent a
  considerable amount of additional work, the
  financial statement component of annual reports
  being expanded up to 50 more with introduction
  of IFRS
• - there are instances where certain types of
  companies and sectors have new requirements to
  fulfil
  

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International Financial Reporting Standards
(IFRS) Contd

• IFRS has not been adopted wholesale in any
  Caribbean jurisdiction.
  
• The ECCB draft Corporate Governance Guidelines
  impose a duty on licensed financial institutions
  to meet IFRS requirements.

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Companies Act

• Provisions (St. Kitts and Nevis Act No. 22 of
  1996) mandate companies to
  
• - keep accounting records (section 102)
• - approve accounts and arrange for
  
  
• auditing (section 104)
• - file audited accounts with the Registrar of
  
  
• Companies (section 105)
• - appoint auditors (section 109)

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Companies Act Contd

• The auditors duties and powers are set out in
  section 111 and include certifying whether
  
• - proper accounting records have been
  
  
• kept by the company and
• - the companys accounts are in agreement
• with the accounting records and returns.

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Securities Act

• Broker dealers and limited service brokers are
  required to maintain such accounts and other
  records, and file such financial statements and
  reports, as may be prescribed.
• The Minister may make regulations requiring
  licensees to submit to the Commission, at
  intervals set out in the regulations, returns of
  their financial resources in a form set by the
  Commission.

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Securities Act Contd

• Persons licensed under the Securities Act are
  required to submit to the Commission, audited
  financial statements prepared in accordance with
  international accounting standards, and which
  contain such additional information as may be
  prescribed.

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Banking Act and Guidelines

• The Banking Act stipulates that an auditor be
  appointed by each licensed financial institution.
  (section 19)
  
• The Central Bank may require the auditor to
  provide additional information as it considers
  necessary.
  
• The Central Bank is empowered to issue
  guidelines respecting inter alia
  
• - corporate governance

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Banking Act and Guidelines Contd

• policies, procedures and systems for identifying,
  monitoring and controlling country risk, transfer
  risk, liquidity risk, interest rate risk,
  operational risk and such other risks as the
  Central Bank shall specify.
• Draft guidelines for internal and external
  auditors impose a duty on auditors to comply with
  international financial reporting standards.
  

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Regional vs international standards

• Regional reporting standards are not
  considered to be onerous.
  
• However, the noticeable trend is for
  regulators to adopt and adapt international
  standards
  
• - in accordance with directives from
  international standard setting bodies or,
  
• - in response to international pressure
  for developing countries to implement the same
  benchmarks as developed countries.

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Regional vs International Standards

• Reasonable conclusion will region
  inevitably embrace IFRS, SOX and/or Basel II
  Accord?
  
• Gradual phasing in or more abrupt approach?

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Complexities/Challenges Identified

• Learning curve
• Allocation of time
• Allocation of human resources
• Assessment of financial requirements
• Acquisition of additional software and IT
  expertise (consultancy)
  
• Consequences of non-compliance
• - sanctions by regulators,
• - possible litigation by shareholders

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Complexities/Challenges Identified Contd

• The international standards present particular
  difficulties of implementation for small and
  developing states and institutions.
  
• While compliance is not mandatory at this
  time, reasonable expectations forecast reception
  of some of those measures.

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Suggested Approaches

• Auditors and audit committees in the
  Caribbean basin area will be expected to quickly
  navigate the unfamiliar territory being forged by
  international standard setters in anticipation of
  adoption by regional regulators and in
  recognition of the benefits to the local and
  regional business environment.

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Suggested Approaches Contd

• Research and preliminary reports by industry
  specialists highlight the need for training and
  education programmes.
  
• The benefits of networking with other
  institutions should not be ignored.
  
• The CAACM provides an ideal forum for members
  to forge alliances with one another and to
  organise training programmes.
  
• CAACM could position itself to serve as
  adviser to regulators on which standards/hybrid
  best serve the interest of all stakeholders.

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Conclusion

• Mindful of the complexities and challenges
  which are inherent in implementation of the new
  accounting standards, regional auditors have one
  choice adjust as necessary to accommodate
  seamless transition to the new standards. In
  this regard, credible and reliable information is
  key.

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Questions Or Comments?

• Esco Henry
• Legal Adviser, ECCB
• Email esco.henry_at_eccb-
  centralbank.org
  
• Tel [phone]