Korea seeks to overhaul banks' corporate governance (2024)

Gov't forms taskforce to improve fairness, transparency of lenders

By Anna J. Park

One of the key areas that Korean banks are lagging behind global financial firms is corporate governance.

Along with the country's complex regulations, a less-than-effective system of checks and balances has been cited as a key factor resulting in the undervaluation of stocks issued by Korean financial institutions compared to their earnings performances. A series of financial accidents that occurred over the past few years further highlights the structural weaknesses of local banking groups in terms of governance.

Against this backdrop, financial authorities have placed top priority this year on strengthening internal control systems at financial institutions and improving corporate governance. In order to achieve the goal, both the Financial Services Commission (FSC) and the Financial Supervisory Service (FSS) recently launched a taskforce to overhaul the system of checks and balances overseeing lenders. The FSC is Korea's top financial regulator that maps out financial policies. The FSS, which is under the technical control of the FSC, is a watchdog that supervises financial firms and implements policies.

Revisions to the Act on Corporate Governance of Financial Companies will also be ready by the end of March. The revisions are expected to include a clause that imposes on CEOs the responsibility of taking appropriate measures to prevent financial accidents. The boards of directors of financial companies will also be responsible for supervising management to exercise internal control measures.

The series of actions follow President Yoon Suk Yeol's emphasis made in January that the government needs to make efforts to improve corporate governance at financial firms.

"Banks provide services that serve a public function. Therefore, the government has an interest in the fair and transparent governance of banks," Yoon said on Jan. 30.

The FSC is currently looking into the corporate governance and internal control systems of global financial companies, while also examining related laws and practices in advanced global markets to come up with its own measures.

"In order to secure rationality and transparency in executive leadership and appointment processes, the FSC will overhaul the internal control systems and corporate governance of financial companies," FSC Chairman Kim Joo-hyun said in response to the president policy directive.

Problematic features

Korea's financial groups operate under a unique corporate governance system, which does not necessarily fit global standards. For instance, it has become somewhat customary for the heads of major financial groups to serve at least three terms, as seen in the case of Hana Financial Group's former head Kim Jung-tai, who led the lender for 10 years.

The extended tenure was partially attributed to a close relationship between the heads of financial groups and their boards of directors. This tight relationship also resulted in the board's weakened supervisory function over the heads of financial institutions. Korea's corporate laws and systemic structures also fall short of granting effective supervisory powers to boards of directors.

But the tide has begun to change with both the FSC chairman and FSS Governor Lee Bok-hyun voicing in unison since late last year the need to have financial firms shoulder more responsibility to exercise effective internal controls and prevent financial accidents.

Amid such calls, Shinhan Financial Group Chairman Cho Yong-byoung and Woori Financial Group Chairman Son Tae-seung, whose current tenures will both end in March, decided not to seek another term. They were not expected to step down from their posts this time, as the two leaders were still in their second terms, while the banks achieved strong earnings.

Some are concerned that regulators are virtually meddling in the affairs of financial institutions. But the government emphasized that such moves should not be seen as state pressure on the financial sector, but as an attempt to implement changes to create a more transparent and equitable market.

"If financial firms' corporate governance practices have been evaluated as good and sound, the government wouldn't have had to look into them in the first place," FSC Vice Chairman Kim So-young told The Korea Times during a press conference on Friday.

"The government is identifying areas of improvements for the fairer management of financial firms' corporate governance, including the process of appointing chairpersons and also their internal control systems. Thus, the government aims to induce improvements in the corporate governance of financial companies in general," the vice chairman said, adding that the revisions to the Act on Corporate Governance of Financial Companies will be ready by the end of March.

Cases in advanced markets

Regulators are studying cases in advanced markets, ranging from the CEO succession plans of global corporations and internal control systems to the supervisory roles of regulators over corporate boards of directors. They say regulatory structures in advanced markets grant financial authorities a stronger voice and supervisory powers over boards, internal controls as well as CEO succession plans.

For instance, the Swiss-headquartered Basel Committee on Banking Supervision (BCBS) stipulates that supervisory authorities maintain "sufficiently frequent contact as appropriate" with banks' boards, non-executive board members and senior and middle management to assess corporate governance, capital adequacy, risk management and internal controls.

The Financial Stability Board (FSB), an international body that monitors and makes recommendations to the global financial sector, also stipulates that discussions by financial authorities with boards and senior management will facilitate a common understanding of risk management.

The Office of the Comptroller of the Currency (OCC), an independent bureau in the U.S. that supervises all national banks, federal savings associations and branches of foreign banks, also stipulates that it maintains communication with boards to discuss OCC examinations and other matters of mutual interest.

The U.K.'s Prudential Regulation Authority (PRA) also holds regular meetings with senior level executives, boards and non-executive directors of financial institutions to discuss strategies, internal controls, corporate governance and risk management.

In addition, the U.K.'s financial regulators ― PRA and FCA ― officially adopted the Senior Managers and Certification Regime (SM&CR) in 2016, which is aimed at placing greater accountability on senior management and at improving banking firms' standards of conduct, thereby establishing an effective governance structure. SM&CR has legal grounds through the Financial Services (Banking Reform) Act of 2013, which aims to prevent major conduct failures by senior employees that became evident during the 2008 global financial crisis.

Stringent standards are also applied when regulators evaluate potential CEO succession candidates at financial firms. The FCA meticulously evaluates the integrity of senior management employees seeking to lead financial institutions.

The U.K.'s legal framework was actually a factor that helped the Korean operations of Standard Chartered ― Standard Chartered Bank Korea ― avoid the mis-selling of problematic fund products in 2019.

Having a stronger internal control system and risk management framework than local banks, the U.K.-headquartered bank branch was one of very few among major lenders here that did not sell the problematic derivative-linked fund (DLF) product back then. An official at the bank explained that its risk management department employs much higher standards of conduct than local peers.

The U.S. also has a stringent legal framework that requires financial companies to employ effective internal controls and responsibilities by boards of directors as seen in the court cases of Stone v. Ritter (2006) and Marchand v. Barnhill in 2019. The Securities and Exchange Act and its related FINRA rules also require financial firms to establish reasonable supervisory systems and internal control procedures.

"As opposed to major global financial companies in the U.S. and U.K. having strengthened internal controls in both human and systemic infrastructures, Korean financial companies have passively responded to such matters with a lack of full awareness," according to a research paper by the Korea Capital Market Institute (KCMI), jointly authored by senior research fellow Lee Hyo-seob and Ahn Soo-hyun, a professor at Hankuk University of Foreign Studies Law School.