The Reserve Bank of India (RBI) issued operative guidelines with regard to the appointments of MD and CEO, Whole Time Director, Chairperson, Non-Executive Directors and composition of important committees last month, as part of its measures to strengthen corporate governance standards in commercial banks.

Further, the regulator plans to bring out a ‘Master Direction on Governance’ in commercial banks, based on the ‘Discussion Paper on Governance in Commercial Banks in India’.

The discussion paper, as well as the recent instructions on appointments of directors and constitution of important committees, gives much importance to the roles of independent and NEDs in developing an efficient and effective ‘corporate governance model’ in banks.

While the theory aspect looks sound for documentation purposes, the spirit lies in how the written rules are practised in reality.

The Kumar Mangalam Birla Committee, which submitted its report on corporate governance in listed entities in 1999 (which paved the way for SEBI’s section 49 of the listing agreement), remarked thus: “The imperative for corporate governance lies not merely in drafting a code of corporate governance but in practising it, and the best results would be achieved when the code is treated not as a mere structure, but a way of life.”

How can banks achieve this? Probably the regulator and banks may have to bring qualitative changes in the way corporate governance recommendations are practised in the banks. Let us examine them.

Board Agenda

The role of Chairman and Managing Director has been separated in many banks, including public sector banks (PSBs), following the recommendations of PJ Nayak Committee (2014). The main aim of this move was two-fold. First, to ensure that the meetings are conducted to take up items, which are board-driven and not senior management-prepared. Second, to devote the precious time of the board on quality issues and not on rudimentary issues.

The Nayak committee emphasised that the board should only concentrate on business strategy, financial report and their integrity and risk. If the annual reports published by PSBs are anything to go by, one feels that the agenda items are even now management-directed. Time taken for completion of calendar of reviews is one example. Another example is the income earned on non-core banking activities such as sale of third-party products (insurance, mutual funds), which form a miniscule of the total income in many banks, especially PSBs. To achieve this, significant level of staff strength is used. This business strategy of the senior management is approved year after year by the board of many banks, apparently without any major discussion.

Role of Directors

Attending a board meeting in a bank is totally different from attending similar meetings in manufacturing and service-oriented companies. Independent and NEDs joining a bank’s board are from different walks of life. They can only be the members of the Audit Committee of Board (ACB) that discusses the financial and internal/ external audit report before it is sent to the board for approval.

They form the majority in RMCB (Risk Management Committee of the board), which takes up the capital adequacy, liquidity needs, apart from the policies to be drafted on the various risks in the banks (operational, credit and market risks). Hence, ‘orientation training’ prior to joining the board and periodical ‘continuous education’ are absolute essentials.

Apart from supporting the MD and CEO in the business strategies brought to the table, one expects NEDs (some of whom are former central bankers or retired chiefs of PSBs) to play a proactive role in evaluating the risk policies practised, effectiveness of internal control mechanisms, and discussions with external/ internal auditors, once a year at least, on the concerns noticed.

However, the happenings in a private sector bank, which was rescued with investments from a group of public and private sector banks last year and the conflict of interest/ undue benefit allegations cast on the chief of a large private bank two years back, does not inspire confidence among stakeholders that the reputed persons occupying the board in these banks played their role effectively.

Conflict of interest

The guideline says that whenever there is a conflict of interest, the board member concerned shall refrain himself from voting. This should be changed, and the board member should absent himself from the board proceedings when the conflict of interest issue is taken up by the board. Only in the absence of that member will the other board members feel encouraged to share their opinion in a more forthright manner.

Audit committee of the board

ACB’s role flows directly from the board’s oversight function. It acts as a catalyst for effective financial reporting. Banks’ financial results have become more complex now. One can cite many instances of ACB meetings held by PSBs without a qualified member in such boards.

This defeats the purpose of ACB as even the well-informed members, who have only an understanding of financial matters, might prove to be just novices before a well-prepared CFO.

Quality of internal audit and all forms of external audit reviews and remedial measures thereof is another important function played by ACB. Asset Quality Review by the RBI, which resulted in recognition of ₹5-lakh crore fresh NPAs in 2015-16 by the banking system, did leave a feeling that the ACB in those banks could have played this role much better.

In addition to the general corporate governance practices governing commercial banks, radical reforms are needed from the government to make a material improvement in the governance of PSBs.

The government should cede its regulatory role in favour of RBI and keep an arm’s length in managing PSBs so that corporate governance practices in the latter improve substantially.

(The writer is a former Chief General Manager with a PSB)