Lonny McPherson Senior Advisor International Advisory Group

1. Corporate Governancein Financial InstitutionsOCDE/IAIS/ASSAL Conference on Insurance Regulation & Supervision in Latin AmericaPunta Cana, Dominican Republic9 May 2003 Lonny McPherson Senior Advisor International Advisory Group

2. Discussion Points • OSFI- background • The Importance of Corporate Governance in Financial Institutions • OSFI’s risk-based supervisory framework • OSFI’s Corporate Governance Guide • External Oversight Providers

3. OSFI – Some Background • Canada’s primary regulator of financial institutions • Est. 1987 – agency of Gov’t of Canada • independent – funded by Industry • Legislated mandate (OSFI Act) • Integrated supervisor • supervise/regulate all banks (54), and all federally incorporated or registered trust and loan companies (65), insurance companies (306), cooperative credit associations (7) and pension plans (1,189) • Prudential regulator

4. OSFI’s Supervisory Approach • Reliance based • Relationship manager concept • Risk focused – judgment • Continuous monitoring • on-site/off-site • Interventionist • Consolidated supervision • Transparent • Adhere to Core Principles

5. Corporate Governance in Financial Institutions • OSFI definition • the oversight mechanisms, including the processes, structures and information used for directing and overseeing the management of a company.

6. The Importance of Corporate Governance in Financial Institutions • Encompasses the means by which the Board and Senior Management are held accountable for their actions and for the establishment and implementation of oversight functions and processes.

7. The Importance of Corporate Governancein Financial Institutions • OSFI regulatory framework has 3 components: • 1) supervision by OSFI • 2) direct oversight – Board/Senior management • 3) independent oversight – external auditor, actuary • Components must work together

8. The Importance of Corporate Governancein Financial Insitutions • OSFI’s risk based Supervisory Framework consists of an assessment of: • risk profile • financial condition • risk management processes • compliance with applicable laws/regulations

9. The Importance of Corporate Governancein Financial Institutions • Effective corporate governance is essential to the safe and sound functioning of a financial institution • Board & Senior Management are designated as key control functions in OSFI’s Supervisory Framework

11. OSFI’s Corporate Governance Guideline • Focuses on issues relevant to financial institutions • Outlines OSFI’s expectations of boards and management • Provides information on factors to assess quality of governance • Not a checklist of criteria

12. OSFI’s Corporate Governance Guideline –Key Provisions • Role of the Board in risk management • Role of the Board in internal controls • Role of the Board in independent oversight functions • Governance of subsidiaries • Board independence • How OSFI assesses effectiveness of corporate governance

13. OSFI’s Corporate Governance Guideline Role of the Board in Risk Management • Understand the institution’s risk exposures • Review & approve overall risk philosophy & risk tolerance of the institution • Review & approve policies for accepting, managing & reporting significant risks • Review & approve organizational structure supporting risk management functions of the institution

14. OSFI’s Corporate Governance Guideline Role of the Board in Risk Management • Require from management timely and accurate reporting on: significant risks; procedures & controls for managing risk; overall effectiveness of risk management processes • Assure itself that risk management functions have sufficient independence & are subject to periodic reviews

15. OSFI’s Corporate Governance Guideline Role of the Board in Internal Controls • Ensure management establishes and maintains a sound system of internal controls • Review internal control systems on a high level to ensure functioning as expected, including review of internal & external audit opinions on aderquacy of controls • Require management to take prompt corrective action on deficiencies

16. OSFI’s Corporate Governance Guideline Role of Board -Independent Oversight Functions • Approve mandates and organizational structures of these functions, promote their capacity to operate effectively & independently, with access to the Board • Recommend appointment of external auditor and heads of internal oversight functions • Ensure the functions have resources & authority to perform duties • Establish committees, such as Audit Committee to oversee these independent oversight functions

17. OSFI’s Corporate Governance Guideline How does OSFI Assess the Effectiveness of Governance? • A variety of factors, the most important of which are findings from monitoring/on-site examinations • Board/Committee minutes • Increasingly involved in discussions with Board and Committees

18. OSFI’s Corporate Governance Guideline How does OSFI Assess the Effectiveness of Governance? Ratings Criteria for Boards • Composition • Role/responsibilities • Nature/operations of Board Committees • Board practices • Self assessment programmes

19. OSFI’s Corporate Governance Guideline How does OSFI Assess the Effectiveness of Governance? • OSFI looks for indications that appropriate processes and procedures are in place to help the Board carry out its responsibilities AND that these responsibilities, are in fact being carried out Characteristics + Performance= Effectiveness

20. OSFI’s Corporate Governance Guideline How does OSFI Assess the Effectiveness of Governance? • Effective Performance • appropriate organizational structures, policies and controls help promote good corporate governance but do not ensure it. • effective corporate governance is primarily the result of dedicated Directors and Senior Managers performing faithfully the duty of care

21. OSFI’s Corporate Governance Guideline How does OSFI Assess the Effectiveness of Governance? • Effective Performance (cont’d) • what makes structures and policies work are knowledgeable and competent individuals, with a clear understanding of their role and strong commitment to, and in, carrying it out.

22. OSFI’s Corporate Governance Guideline How does OSFI Assess the Effectiveness of Governance? • Remember “one size does not fit all” • OSFI takes into consideration that institutions will adopt different approaches to governance based on size, complexity and nature of their significant activities

23. External Oversight Providers • High quality checks/balances in the oversight of FIs are cornerstone of effective governance • this is why OSFI cares about quality of internal control and integrity of external oversight processes such as external audit or actuarial reviews. • New peer review process for reports of Appointed Actuaries (Canadian Institute of Actuaries)

24. External Oversight Providers • Canadian Public Accountability Board • Established to promote high quality, independent auditing of public companies in Canada • Superintendent is member of the Council of Governors • involves a materially enhanced practice inspection function and a significant degree of public oversight • will have specific authorities/responsibilities including ability to levy sanctions and impose discipline.

25. External Oversight Providers Accounting Standards Oversight Council • focuses inter-alia, on the implications of Enron for accounting and auditing standards • recently endorsed accounting standard setters proceeding to require expensing of stock options. • Superintendent is a member

27. Corporate Governance in Financial Institutions Conclusion • In the current environment, it is important that regulators and policy makers look to the lessons of Enron and other corporate failures, to enhance sound corporate governance practices, and also to ensure we can continue to rely on the work of those who provide independent oversight functions to corporations whose stakeholders rely on them

28. Thank you www.osfi-bsif.gc.ca