Corporate Governance in Mongolia:
Results from the 2009 Corporate
Governance ROSC Assessment
A presentation by Sebastian Molineus
World Bank Corporate Governance Group
In Ulaanbataar on May 27, 2010
1.
The Definition of and Business Case for Corporate Governance (CG)
2.
The World Bank’s CG ROSC Program
3.
Key Findings of the CG ROSC for Mongolia
4.
Policy Recommendations
2 out of 26
To begin with, it is important that we are all on the same page as to
what good corporate governance means
Simplified definition
The OECD defines corporate governance as:
• A system by which companies are directed and controlled …
• which involves a set of relationships between:
•
a company’s management
•
board of directors
•
its shareholders and
•
other stakeholders
• … and which provides the structure through which company objectives are
set, attained and monitored.
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A simple enough definition. But reality is more complex:
Illustration
Internal—Corporate—Perspective
External—Stakeholder—Perspective
Shareholders
- The general assembly Are
accountable to
Directors
- The board of directors Audit
Cttee
Rem
Cttee
Guide &
control
Risk
Nom
Cttee
Report &
answer to
Managers / Executives
- CEO / mgt. team / ExCom CIA
CRO
CCO
Act in interest of
Provide capital to
Ext.
Audit
Elect &
dismiss
Intermediaries
Stakeholders
Reputation
Agents
Law- & rule makers
• Company, Banking,
Securities Laws
• Accounting firms
• Regulations, Listing rules
• Law firms
• National CG Codes
• Investment banks
• Credit rating agencies
Capital & Financial
Markets
• Financial analysts
• Debt & equity markets
• Financial media
• Competitive forces
• Research institutes
• Market for corporate
control
• Educational institutions
• Corporate governance
institutes
• CSR
• Institutes of directors
• HSE
Civil society
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The following illustration offers a ‘look & feel’ of the key themes CG
touches upon
Illustration
Protection of (minority)
shareholder rights
Strong disclosure &
transparency regime
Robust control structures
Good board practices
Strong enforcement regime
Robust legal & regulatory
environment
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The good news: much research and analysis by renown international
experts demonstrates that CG adds to the corporate “bottom line”
Optimizes Operational and Financial Efficiency
• Streamlines business processes, leading to better operating performance & lower capital expenditures
 Gompers, Ishii and Metrick, Corporate Governance and Equity Prices, August 2001
• Improves the company’s ROCE, with firms in the top cg quartile avg. 33% & in bottom quartile 15%
 Credit Lyonnais SA, 2001
• Better share price performance, higher profitability, larger dividend payouts & lower risk levels than peers
 Lawrence Brown, Georgia State University, Sept. 2003
Improves Access to Outside Capital
•Global Institutional Investors managing more than 1 trillion of assets state that they will pay a premium for
well governed companies. Premiums avg. 30% in Eastern Europe & Africa and 22% in Asia and Latin America
 McKinsey Global Investor Opinion Survey on Corporate Governance, 2002
Improves Valuation and Lowers the Cost of Capital
•Over 10 years, well-governed companies across a wide range of sectors have seen superior valuation
multiples of more than 8% over their badly governed peers.
 Metrick, Ishi and Gompers, Corporate Governance and Equity Prices, August 2001
•One standard-deviation improvement in governance brings an improvement in valuation multiples that
ranges from 18% for companies in major OECD markets to 33% in emerging markets.
 Clapper and Love, World Bank, 2002
Builds/Improves the Company’s Reputation
• CG can make/break reputations by creating confidence &goodwill and building/restoring investor trust
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And, at the same time, CG can bring important benefits to the
government , markets, and economy as a whole
For regulators and supervisors:
• A first line of prudential defense
• Increased financial stability & reduction to crisis
For markets:
• Higher market capitalization and liquidity
• Increase in investor confidence and trust
• Ability to attract, allocate & monitor investment
For economies:
• More “champion” companies that can compete and grow internationally
• Higher economic growth
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1.
The Definition of and Business Case for Corporate Governance (CG)
2.
The World Bank’s CG ROSC Program
3.
Key Findings of the CG ROSC for Mongolia
4.
Policy Recommendations
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The CG was identified by G-8 Financial Stability Forum as one of 12
standards of the global financial architecture
A ROSC consists of a gap-analysis, policy recommendations, and action plan,
and aims to help our client countries improve upon their CG frameworks
1
2
Invitation to
conduct ROSC
1 month
CG ROSC is
voluntary, and is
not published w/o
client approval
• Step 1: Upon
receipt of
invitation, team
compiled
• Step 2: Local
consultants hired
to assess CG
framework
3
Benchmarking
and drafting
4 May
– 6 months
- July
4
1 – 3 months
Aug. – Sep.
Benchmarking vis- Final draft report
à-vis the OECD
sent to client for
Principles
comments
• Step 1: Desk
review of all laws
& regulations
• Step 1: Internal
peer review
process organized
• Step 2: Survey of • Step 2: Final draft
listed companies
• Step 3: Fact-
report sent to
client for feedback
finding mission to • Step 3: Feedback
qualify data
discussed and
• Step 4: Drafting of incorporated
ROSC report
• Step 4: Final
report issued in
The term ROSC is short for a
Report on the Observance of Standards and Codes
Implementation
by country
Feedback and
dissemination
Several years
Oct. –
May
Country to carry-out
10
recommendations.
WBG may be of
assistance
• Step 1: Separate
request to WBG,
incl. IFC and IBRD
• Step 2: WBG
assesses need and
resources
• Step 3: In follow-up
to implementation, a
2nd ROSC may be
commissioned to
asses progress
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The CG ROSC has a global reach, and since 2001, 71 CG ROSC
Assessments have been carried-out in 61 countries
In addition, the World Bank’s CG Group has also developed country-level CG Reviews
specifically targeting the SOE and banking sectors
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1.
The Definition of and Business Case for Corporate Governance (CG)
2.
The World Bank’s CG ROSC Program
3.
Key Findings of the CG ROSC for Mongolia
4.
Policy Recommendations
11 out of 26
A quick prelude to the presentation of key findings
Publicly listed companies
• However, the CG ROSC carries many important
lessons for all company types, incl. large non-listed
banks, LLCs, and SOEs.
Laws and regulations date
up to June 2009
• Recent amendments to laws and regulations may
since have been made.
Focus of the CG ROSC:
Practice data dates from
mid-2007 to early 2009
Carried-out in close
cooperation with relevant
stakeholders
• Note that the data is based on a 2007 FRC survey and
WB fact-finding mission in early 2009
• Wide discrepancies in practice, in particular
between banks vs. SOEs and companies!
• In particular the local World Bank and IFC offices, WB
Accounting & Auditing ROSC team, and USAID
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CG needs to be seen within the context of the economic, political, and
legal environment, some of which are still in development
 Limited number of companies for which CG is a priority
- 384 listed COs. (early 2008); however, trading is limited to MSE-20
- 16 banks, 137 NBFI plus some large SOEs operating in Mongolia
- Most companies are SMEs, in which a tailored approach is called for
 N.B.: Ownership highly concentrated, largely in the hands of company
insiders and/or the state
 Enforcement institutions (BoM, FRC, courts) present, but often do not
appear have resources, authority, and/or independence
 Capital market presents opportunities & challenges
- Low free-float: Associated with insider trading; discourages shareholder involvement
- Few institutional investors: Little CG engagement
- Levels of disclosure remain low
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Much has already been achieved! However, the CG ROSC shows that a
number of important challenges remain, in particular in practice vs theory
Today’s Achievements
• CG Codes/Regs launched for
Legal &
regulatory
reforms
Enforcement
capacity
Actual practices
listed companies, banks, SOEs
• Key laws in place & recently
amended; new reforms launched
Tomorrow’s Challenges
• To close remaining gaps in the legal
and regulatory framework, e.g.:
- Ability of shareholders to approve
dividends, issue new share issues
• A&A, CG ROSCs commissioned
• Modernize framework
• FRC created in 2006
• Build enforcement capacity/ regulatory
• MoU between the BoM, FRC
“bite”, with real fines
and SPC to ensure for financial
market stability
• Independence of regulators should be
• Launch of CG reform projects by
• Boards need to fulfill their primary role
USAID and IFC
• Launch of CG Centers and
training programs to build
capacity among directors
strengthened
of oversight/guidance
• Disclosure must be improved
• Nascent internal control frameworks
are built
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This inability of companies to follow good corporate governance at the
company level has impacted Mongolia’s CG ROSC Assessment
Implementation of the OECD Principles in Mongolia
Fully implemented, 2
Not
implemented, 7
Broadly
implemented, 4
Partially
implemented, 19
• The great majority of “high-level” OECD Principles are either “Partially” or
“Not Implemented”
• Only 18% are “Fully” or “Broadly Implemented”
Source: World Bank analysis
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Diving down a bit further, we find that Mongolian companies have
particular difficulties in terms of implementing good board practices
Implementation of Principle VI on Board Practices
VI.F. Access to information
VI.E. Exercise objective judgment
VI.D. The board should fulfill certain key
functions
VI.B. Treat all shareholders fairly
VI.A. Acts with due diligence, care
VI.C. Applies high ethical standards
Source: World Bank analysis
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Most boards are not fulfilling their role: that of providing managerial
oversight and strategic guidance on behalf of all shareholders
Role
Structure
Composition
Remuneration
Training &
evaluation
• Boards involved in day-to-day management; no succession plans
• Duties (of loyalty and care) defined, but not understood
• In practice, most companies have not formed board committees
• Position of CEO and chairman legally separated, yet insiders
continue to dominate board
• MCGC calls on 1/3 of boards to be independent, but definition
fails to cover directors who are shareholders
• In practice, few directors thought to be truly independent
• Except for the largest companies, NEDs receive low pay
• Executive pay not based on formal evaluation or LT incentives
• Cultural stigma against training
• Board self evaluations virtually non-existent
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Moreover, many boards have failed to implement robust control
structures
Risk management
• Little practical guidance offered for companies
outside of banking sector,
• Risk governance structures nascent, underfunded
Internal controls
• Internal control structures organized around a unit
and not spread to all staff
• Management letters cite gaps in internal control
structures
Internal audit
• MCGC calls for the IA to be independent; yet, IA
often reports to the CEO and not board/audit cttee
External audit
• Conflicts of interest due to the provision of non-audit
work
• Quality of peer review process questioned
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And while Mongolia has taken an important step in adapting IFRS and
ISA, the level of transparency remains below international standards
Implementation of Principle V on Disclosure and Transparency
V.B, Standards of accounting & audit
V.C. Independent audit annually
V.A. Disclosure standards
V.F. Research conflicts of interests
V.E. Fair & timely dissemination
V.D. External auditors should be accountable
Source: World Bank analysis
19 out of 26
Financial and non-financial disclosure in particular remains weak,
despite the adoption of IFRS and ISA
Financial reporting
standards
• IFRS mandatory for all companies; however, challenges
expected in transition process (adapt vs. adopt)
• 2008 A&A ROSC: critical gaps in financial reporting in
terms of quality and timeliness
Financial disclosure
• 2007 FRC report: 78.9% failed to submit their financials
to the authorities
• Even fewer are thought to publicly disclose their
financial statements, e.g. in their annual report or www
Non-financial
disclosure
• Only 4 – 5 companies prepare and disclose annual
reports; most do not have CG sections
• Little to no information on CG, ownership structures,
information on board members, remuneration, etc.
External audit
• Conflicts of interest due to the provision of non-audit
work
• Quality of peer review process questioned
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And while the legal frameworks contains many good practice provisions
protecting minority shareholders, these are often not followed in practice
Implementation of Principle II and III on Shareholder Rights
III.A. All shareholders should be treated equally
II.G. Shareholders allowed to consult each other
II.E. Control arrangements allowed to function
III.C. Board/Mgrs. disclose interests
III.B. Prohibit insider trading
II.D. Disproportionate control disclosure
II.C. Shareholders GSM rights
II.B. Rights to part in fundamental decisions
II.A. Basic shareholder rights
I.IF. Exercise of ownership rights facilitated
Source: World Bank analysis
21 out of 26
With a few exceptions, key shareholder rights are in place …
While a number of basic shareholder rights are in place …
• Participate and vote in the GMS  Art. 35 CL
• Basic information rights in place  Art. 96 CL
• Ability to nominate & elect directors  Art. 63 CL
• Allowed to vote on non-executive compensation  Art. 63, 77 CL
• “One share, one vote” exists for common shares  Art. 64.2 CL
A few remaining gaps need to be address.
• The board and not shareholders approves a rise in authorized
capital or issuance of new shares (potential for dilution)
• Whistle-blower procedures absent
• The board and not shareholders approve dividends
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The real story: a number of companies fail to respect basic
shareholder rights
Companies conducting a GMS and paying dividends
450
400
350
300
Total no. of listed companies
250
200
150
No. of companies holding a GMS
100
50
0
No of companies paying declared
dividends
Source: FRS 2007 Survey
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1.
The Definition of and Business Case for Corporate Governance (CG)
2.
The World Bank’s CG ROSC Program
3.
Key Findings of the CG ROSC for Mongolia
4.
Policy Recommendations
24 out of 26
Policy Recommendations. The Government of Mongolia might
consider to:
1. Make regulatory bodies responsible and hold them accountable for
enforcing laws and regulations
2. Restore trust in the capital market by developing a fair process that allows
companies to de-listing when they are inactive or fail to comply with the law,
and also protects minority shareholders fairly
3. Develop a strategy to improve upon the corporate governance of
Mongolia’s SOEs.
4. Modernize the corporate governance framework by amending the
company, banking, accounting and auditing, and securities laws, relevant
regulations, in particular the listing rules, as well as the MCGC!
5. Build a qualified cadre of directors by supporting the Mongolia
Corporate Governance Center and other nascent corporate governance
institutions
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But in the end …
… it is up to the private sector to demonstrate its commitment
to real reforms!
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Thank you!
For more information, please visit:
www.worldbank.org/corporategovernance
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