UK: Building societies and corporate governance

The Financial Services Authority's Chief Executive, Hector Sants, delivered a speech titled "The future of financial regulation" on 7 May at the Building Societies Association Conference. During his speech, Mr Sants identified areas of weakness in the governance of some building societies:

"I would like to finish with a few words about corporate governance. There are three reasons for doing this. Firstly, we have seen inadequate review, assessment and challenge of proposed new initiatives. As I have already highlighted, we have particularly found this around the liquidity and funding issues with which societies have been confronted. Some societies have been very slow to appreciate the nature and scale of the market turbulence or react prudently.

Secondly, if a building society is to survive, prosper, and bring real benefits to its members, it must have a good quality board. A board, together with the senior management team, has to lead their society through these challenging, competitive and more complex times.

And thirdly, because, as you will be aware, we have maintained the guidance that says that building societies should have regard to the Combined Code when establishing and reviewing their own corporate governance arrangements. To this point may I highlight two matters that are set out in the Combined Code: That the board should undertake a "formal and rigorous" annual evaluation of individual directors and that non-executive directors should scrutinise the performance of management in meeting agreed goals and objectives.

I would ask you to consider whether this is a process which is well established at your society; and, in particular, is it "formal and rigorous". Do your Boards act on the results of the evaluation? In most cases there may only be behavioural changes to make. But in exceptional cases this might mean going further and questioning whether the person is still right for the role. Most societies do evaluate their executive directors, and many have processes that could be regarded as clearly demonstrating best practice, but in some cases we have seen this does not involve a structured process with, for example, agreed objectives and performance criteria against which the assessment is made. Such processes look neither "formal" nor "rigorous".

I would now like to say a few words about succession planning. This is, I am afraid, another area where we believe improvements should be made. I am sure you will agree it is vitally important for the long term health of a society that it has management depth and a credible management development and succession planning process. I am afraid that we do not believe that the practice in this area is always at the level we would expect.

Such deficiencies can carry considerable risk for a society, not least of which is the risk of stagnation and lack of focus which can result from a lengthy transitional period. May I thus use this opportunity to remind boards and non-executives in particular of their responsibilities in this area. This will be a theme we shall be returning to in the future.

In conclusion on governance, I would just like to underline the importance of boards focussing on what we say in the Building Society Regulatory Guide, namely “Society boards and management have a special responsibility to protect the interests of their members through the highest standards of corporate governance.” Public companies have the added pressure of institutional shareholders you are not subject to this additional scrutiny and thus must be extra diligent. I am sure you are all aware of this point, but I feel it bears repeating".