November 30, 2009
Dubai : What Next?
So, its there for all to see - free fall of Dubai and Abu Dhabi index, investor sentiment turning adverse reflected in higher risk premium and the prospect that Dubai may face a major jolt in its aspirations to become a global financial hub. Real estate prices are predicted to fall by 20-30 per cent more. To add to all this, the region as a whole may face a setback just when it was coming out of an inactive first half of 2009. And all of this for a potential debt default which the Central Bank of UAE has vowed to defend in a belated yet notable communication. Why all ths , if the debt can be defended, if other Emirates are willing to come with rescue packages. Wasn't this crisis unavoidable?
In my view, this was an avoidable crisis. To avoid such embarrasments in future, certain actions, in my view, are necessary on part of players and regulators in the market. Let me jot them down one by one-
1. Risk Management must Replace Crisis Management in Financial Institutions : In a volatile global financial market, robust Risk Management Framework must be in place to prepare entities for crisis.
2. Greater focus on Systemic Risks : Central Banks must get into more research and action plans to contain financial risks. The Financial Stability Units must be strengthened asnd the FS unit and Supervision Units must work closely.
3. Speed of Regulatory Intervention must increase. Regulators must act fast, any delay can cost a lot in reputationasl damages and the spread of contagion. For this, off site surveillance must get hard data and a framework that enables quick analysis of data. Online data flow from financial institution to central bank is much needed in the region. Greater transperancy is also desirable.
4. The Central Bank should , in my view, actively promote the establishment of robust risk management practices in regulated entites.
5. Board and Senior Management awareness on risk issues must grow. And they should continuously assess risks as and when they arise . No point in waiting for the quarterly Board meetings.
6. Risk must find its alignment with Strategy. Risk must shed its role of compliance, but must act as a business partner to promote long term sustainable growth.
7. More focus should be towards measurinfg and monitoring risk appetite, something that contributes to risky behaviour in the first place.
All the above steps are much needed - be it in Dubai, Doha, Delhi or Dublin. Or else, we will see more crisis management like the present one.
Posted by sunandoroy at 09:53 AM
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November 29, 2009
The Dubai Deb(t)acle and the High Cost of Poor Reputational Risk Management
"It takes many good deeds to build a good reputation, and only one bad one to lose it" – Benjamin Franklin once observed. The recent Dubai debt crisis has pointed towards poor reputational risk management. One can understand the need for debt restructuring in the face of a huge liquidity problem, as has happened in the 1980s and 1990s in many emerging markets, leading to IMF led salvage operations. Dubai, clearly, is not in that league. Its funding opportunities had not dried out , it had the support of the other Emirates and seemed solvent to global lenders. Though jolted by the real estate crisis, the Dubai model seemed robust enough to withstand the financial tsunami and making a comeback in due course. The surprise decision therefore reflected poor judgement. And, more importantly, poor reputational risk management.
In the light of what is happening now, it is very clear that if reputational risk management is left to the hunches of top management, fiascos like this will happen again and again. Risk management, arising out of reputational losses, must be assessed early and managed swiftly. No point managing operational risks such as loss of a key or of documents, without addressing reputational risks in detail. The problem is , there is no proven model of reputational risk management and hardly any guidance from Basel or regulators. One is not sure what needs to be managed and how. But the need to manage reputation is paramount, and one needs to start , even with limited guidance.Let me put forward some pointers in this direction. As is the case with individuals, reputation of an institution can be damaged by a wide range of factors, and not honouring commitments is one of them. Possible sources may include, among many things ,poor financial performance, lack of strong governance and leadership; inadequate regulatory compliance;failure to deliver customer promises;ineffective monitoring of outsourcing arrangements ;poor workplace culture;adverse changes in geopolitical factors; poor external and internal communications; and, unplanned and slow crisis management. In a market where everyone is sensitive to rumours and bad news, there can be many more things that can affect the reputation. During the Great Depression of 1930s, a well known Bank faced a run when a popular pastry shop in its premises had a huge queue of hungry customers. This implies that there is a need to be extra cautious in difficult times with reputation risk management.
Managing reputational risk would mean establishing guidelines provide a framework for effective implementation of the reputational risk management process; establish the role of various functions in the reputational risk management process; and,establish the requisite mechanism for mitigation in the case of a reputational risk event. This broadly translates to a series of steps. First, one needs to find out possible sources of reputational risk . Second, such risks need to ba assessed ( may be by looking at severity of impact and likelihood of occurrence). Next, a collective assessment coupled with an evaluation of potential damages will be useful. Finally, effective design the controls and planning the mitigation measures may facilitate avoidance of risk. Often, you find a Bank faced with a crisis has no predesigned plan to tackle. The resultant slow response increases reputational losses. This is exactly what is happening now in Dubai, poor or contingency planning in the event of the reputational risk event.
Let’s face the reality- losing reputation is costly and one needs to take decisions with an awareness of their impact on the reputation of the organisation.
Posted by sunandoroy at 10:49 AM
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November 22, 2009
The Crucial Issue of Board Level Compensation- Emerging Regulatory Framework
Things are changing fast in an area traditionally shrouded in confidentiality. The issue has raise its head in the afternmath of the financial crisis. As directors give direction to the company's growth trajectory, along with senior management, they play a critical role in the future performance of a company. And they are paid heftily for such action. some such ambitious actions have landed many banks and FIs in trouble in recent times. Therefore, the financial crisis of has brought to the fore a number of policies governing director and executive remuneration.
Some Issues in Board Level Remuneration
Need for Remuneration Policy
Whilst the form, structure and level of directors' remuneration continue to be matters primarily falling within the competence of companies, their shareholders and, where applicable, employee representatives, the Commission considers that there is a need for additional principles regarding the structure of directors’ remuneration, as set out in a company’s remuneration policy and the process of determining remuneration and control on that process.
o The Structure of Director's Remuneration
The structure of directors´ remuneration should promote the long term sustainability of the company and ensure that remuneration is based on performance. Variable components of remuneration should therefore be linked to predetermined and measurable performance criteria, including criteria of a non-financial nature. Limits should be set on the variable components of remuneration. Significant variable components of remuneration should be deferred for a certain period, for example three to five years, subject to performance conditions. Further, companies should be able to reclaim variable components of remuneration that were paid on the basis of data,which proved to be manifestly misstated.
o
Termination Payments under Scanner now
It is necessary to ensure that termination payments, so-called ´golden parachutes´, are not a reward for failure and that the primary purpose of termination payments as a
safety net in case of early termination of the contract is respected. To that purpose, termination payments should be limited to a certain amount or duration beforehand, which, in general, should not be more than two years annual remuneration (on the basis of only the non- variable component of the annual remuneration) and not be paid if the termination is due to inadequate performance or if a director leaves on his own account. This does not preclude termination payments in situations of early termination of the contract, due to changes in the strategy of the company or in merger and/or takeover situations.
o
Remuneration in Shares
Schemes under which directors are remunerated in shares, share options or any other right to acquire shares or be remunerated on the basis of share price movements should be better linked to performance and long term value creation of the company. Therefore, an appropriate vesting period should apply to shares, whereby vesting is made subject to performance conditions. Share options and rights to acquire shares or be remunerated on the basis of share price movements should be not be exercisable during an appropriate period and the right to exercise them should be made subject to performance conditions. In order to further prevent conflicts of interest of directors who hold shares in the company, these directors should be obliged to retain a part of their shares until the end of their mandate.
o
Towards Greater Transperancy
In order to facilitate the shareholders' assessment of the company's approach to remuneration and strengthen the company's accountability towards its shareholders, the remuneration statement should be clear and easily understandable. Moreover, further disclosure of information relating to the structure of remuneration is necessary. In order to increase accountability, shareholders should be encouraged to attend general meetings and make considered use of their voting rights. In particular, institutional shareholders should take a leading role in the context of ensuring increased accountability of boards with regard to remuneration issues.
o
Role Of Remuneration Committee
Remuneration committees, as referred to in Recommendation 2005/162/EC, fulfil an important role in designing a company's remuneration policy, preventing conflicts of interests and supervising the (managing) boards behaviour in the context of remuneration. To strengthen the role of those committees, at least one member thereof should have expertise in the field of remuneration.
o
Exercise Caution in Hiring Remuneration Consultants
Remuneration consultants may have conflicting interests, for instance when they advise the remuneration committee on remuneration practices and arrangements, and at the same time advise the company or the executive or managing director(s). It is appropriate for remuneration committees to exercise caution when hiring remuneration
consultants.
Non Binding Guidelines
guidelines are often non-binding recommendations , with shareholders having the final say on remuneration.
Select Guidelines
European Commission
Directorspay 290409 en .pdf
CEBS
High Level principles
FSA
Ps09_15.pdf
Posted by sunandoroy at 02:36 PM
