Banks ordered to restructure boards

The new rules stipulate that commercial banks provide an additional buffer of 2.5 per cent on minimum capital adequacy ratio of eight per cent (for Tier 1 Banks) and 12 per cent (for Tier 2 banks). (Photo: Standard/File)

By James Anyanzwa

Kenya: Commercial banks have been issued with an 18-month ultimatum to reconstitute their boards in conformity with the new corporate governance practices.

Central Bank has tabled a revised legal framework for the operations of commercial banks, which also calls for the lenders to build up extra capital reserves to offset losses during periods of financial downturn.

According to the revised prudential regulations, commercial banks must build their capital conservation buffer of 2.5 per cent above their minimum capital requirement within a period of two years.

Normally, banks can build up capital buffer by retaining their profits.

The banking regulator expects the capital conservation buffer to be made up of a quality capital and comprising mainly common equity, premium reserves and retained earnings.

 CBK further contends that capital conservation buffer would enable the banking institutions to withstand unforeseen future stress periods.

The revised prudential regulations dated November 5 would be effective from January 1, next year, according to a circular from Central Bank to all chief executive of commercial banks, mortgage finance companies and chief representative officers of authorized representative offices of foreign institutions.

“These guidelines are issued under section 33(4) of the Banking Act and all institutions should note that a breach of the guidelines attracts remedial actions as specified under the Banking Act and Regulations made thereunder,” warned Fredrick Pere, CBK’s director in-charge of bank Supervision.

 Prudential regulation target deposit-taking institutions and offer guidelines on their supervision and sets down requirements that limit their risk-taking.

The aim of prudential regulation is to ensure the safety of depositors’ funds and keep the stability of the financial system.

Absence of prudential regulations in some key areas can lead to bank failures and systemic instability, while establishing sound, clear and easily monitored rules for financial activities. It encourages managers to run their institutions better and facilitates the work of supervisors.

CBK temporarily suspended the operationalization of the new prudential guidelines in August 2012 after commercial banks complained that they needed more time to think through the modalities of implementation and its impact on their business.

Under the revised guidelines the boards of commercial banks would be required to have at least five (5) directors due to the special nature of their business, which gives them an added responsibility of safeguarding the interest of the depositors.

The reconstituted boards of commercial banks would be composed of both Executive and Non-Executive Directors with the Chief Executive being one of the board members.

What the rule says

The boards would be required to have at least 60 per cent (three-fifth) of all directors being non-executive to enhance accountability in the decision–making process, while independent director would constitute at least 33 per cent (one-third) of the total members of the board.

Non-executive directors are expected to mitigate any possible conflict of interest between the policy-making process and the day-to-day management of the Institution. 

 The revised rules also stipulate that no shareholder with more than five (5) percentage shareholding in a banking institution shall be an executive director or form part of the management of the institution or institution’s holding company.  “Shareholders must ensure that, in general meetings and related forums, the board is constantly held accountable and responsible for the efficient and effective governance of the banking institution,” read part of the guidelines.

“In the event that the board of directors does not perform to expectation or in accordance with the mandate of the institution, shareholders are expected to take appropriate action to change the composition of the board.”

In addition shareholders will be expected to ensure that the institution applies to Central Bank for approval with respect to the transfer of existing shareholding in excess of five per cent of an institution’s share capital and acquisition of more than five per cent of the share capital of an institution where there is fresh capital injection, or from existing shareholders. 

According to the revised guidelines board members should be qualified through training and Continuous Professional Development (CPD) to hold positions.

They should also have a clear understanding of their role in corporate governance and be able to exercise sound and objective judgment about the affairs of the bank.

“No director shall take up his/her position prior to being cleared by the Central Bank,” recommends the guidelines.

The board should possess, both as individual board members and collectively, appropriate experience, competencies and personal qualities, including professionalism and personal integrity.

Foreign owned locally incorporated institutions would now be   required to have local representation in the board. 

According to the guidelines, no person shall be allowed to hold the position of a director in more than two institutions licensed under the Banking Act, unless the said institutions are associates, subsidiaries or holding companies.

However, this rule shall not apply to Government bodies represented in institutions’ boards by virtue of their position as shareholders.

Shareholders will ultimately be responsible for the composition of the board and it is in their own interests to ensure that the board is properly constituted from the viewpoint of skill and diversity.

The guidelines insist that procedures for appointments to the board should be formal and transparent.

CBK reckons that the new guidelines will streamline the country’s banking operations in line with the best global banking practices.