Specificity of Corporate Governance in Several Georgian Financial Institutions

Presented publication compares the specificity of corporate governance in insurance, banking and micro financial organizations, which is performed based on the following laws of Georgia: “insurance”, “commercial bank activities” and “micro financial organizations”.

In spite of all of these spheres are strictly regulated by Georgian legislation, within the framework of corporate governance there are several nuances, which distinguishes them to each other. Author finds out several legal gaps and presents its own point of view to improve legislative mechanism regulating corporate governance in several financial institutions. 

Prohibition the Same Participants in the Board of Directors and the Supervisory Board

Legislation regulating both insurance and commercial banks explicitly prohibits to appoint the same person in the same company as a member of the supervisory board and at the same time to appoint as a member of the board of directors. Undoubtedly this prohibition provides a high standard of corporate governance and the aim of it is to prevent all possible negative consequences of direct and/or indirect forms of conflict of interest. Nevertheless, legislation considers another scheme regarding to conflict of interest.

Particularly, according to law of Georgia on “insurance”: “A person shall be prohibited from being a member of the supervisory board of an insurer and he/she shall be withdrawn from the board by decision of a general meeting of shareholders if he/she is a person related to the insurer’s director, who, as stated in the civil code of Georgia is a legal heir of the first or second category, or is a person connected with the insurer’s director with business/commercial interests”. (Sub-clause “f” of the third clause of article 22¹). In the same way, such prohibition spreads on a director, where a person is prohibited being a director if he/she is at a crossroads with a member of the supervisory board, as was provided by the quoted legal norm.

This law nowhere mentions what can be implied under a person, who is connected with the business/commercial interest. Besides being a shareholder and/or member of directorate, or supervisory board, it also may mean labor attitudes. Business/commercial interests may have indirect character. If these attitudes are not indicated somewhere in documents and there is no legal/factual crossing point it will be difficult to rely on the neutrality of the person. Consequently, to avoid potential misunderstandings, it will be better if this issue is more clearly regulated by the law.

In case of commercial banks, the prohibition of kinship only applies on the member of the board of directors and not on the member of the supervisory board. According to the law of Georgia on “commercial bank activities”: “A person may not be appointed as a member of commercial bank’s board of directors or must be dismissed from the board membership by decision of the supervisory board if this person is a spouse, child or close relative of the member of bank’s board of directors”. (Sub-clause “f”, of the second clause of article 15).

The quoted legal norm applies only on the close relative attitudes of the bank’s directorate and not on a close relative attitudes of the supervisory board members. This factor in a lower degree reveals the prevention mechanism of possible conflict of interest. I consider like insurance companies, it will be better to spread the prohibition also on the members of the supervisory board, because it also extends the prohibition on the supervisory board members regarding to the kinship attitudes.

Being a Member or Director of the Supervisory Board in Another Company

According to law the of Georgia on “insurance”: “A person shall be prohibited from being a member of the supervisory board of an insurer and he/she shall be withdrawn from the council by decision of a general meeting of shareholders if he/she is a member of the supervisory board, or a director in more than five enterprises registered in Georgia”. (Sub-clause “g” of the third clause of article 22¹).

According to the law of Georgia on “commercial bank activities”: “A person may not be appointed as a supervisory board member and must be withdrawn from the board by decision of the general meeting of shareholders if this person is a member of a supervisory board or a board of directors in more than seven companies registered in Georgia”. (Sub-clause “a”, of the fourth clause of article 14).

• As in insurance and also in commercial bank sector, existing prohibitions spread only on the members of the supervisory board. If quoted legal norms intend to avoid conflict of interests, then there is a similar risk not to spread this prevention mechanism on the members of the board of directors. Likewise, the members of the supervisory board, the function of the directors is high and responsible, which obviously raises potential conflict of interest. For the purposes to prevent each risk, I consider this prohibition should be also applied on directors.
• None of the quoted legal norms specify whether they apply on the independent members of the supervisory board or not. It has a practical importance, because independent members have a completely different workload on the board, which is regulated by the charter of the company, intercorporate instructions as well as the best practices. To clarify this issue in the law has more practical meaning if we take into account the following condition of the corporate governance code for Georgian commercial banks: “At least one third, but not less than two members of the supervisory board must be independent members.” If the prohibition also applies on the independent members of the supervisory board, then the prohibition regulated by law should has more soft character, because an independent board member is a person who legally and financially is not related with the company. In order to avoid any misunderstanding, it is necessary to change current legislation regulating both insurance and commercial bank sectors, which would separate the status of a member of the supervisory board and this legal novelty should divide the quoted prohibition.
• In the indicated legal norms, there is no answer on the question: – are another enterprise financial institutions or not? Particularly, “more than five enterprises registered in Georgia” (in case of insurance companies) and “more than seven enterprises” (in case of commercial banks). As we see Georgian legislation is more detailed and specific regarding to the corporate governance models for financial institutions. Besides, in case of financial institutions there is a high risk to satisfy creditors and junior shareholders’ interests in a high quality. It may be assumed that a person is represented in less enterprises than it is quoted in legislation and these enterprises are not competing insurance companies or a competing commercial bank, but the enterprises link to one or more other enterprise(s) that reflects on the supervisory board member’s neutrality and fairness. There is no doubt such situation may cause minimum indirect damage for the company.

Different and comparatively strict regulation is imposed regarding to the conflict of interest by law of Georgia on “microfinance organizations”. According to this law: “. A director (a member of the board of directors) of a microfinance organization may not simultaneously be a partner (shareholder), a member of the supervisory board and/or board of directors of any commercial bank, non-bank depository institution – a credit union, or other microfinance organization”. (First clause of article 7). It is also noteworthy that this law obliges microfinance organizations to set up a supervisory board.

Unlike insurance companies and commercial banks, this prohibition of a microfinance organization applies only on the board of directors and not on the supervisory board. The law also prohibits directors of MSO from being shareholders, members and/or directors of several related institutions.

It is obvious that these differences may exist because of the different specification of the micro financial organization as a financial institution. As in insurance and also in commercial banks there is no restriction, that the members of the supervisory board and/or directors should not be the member of another financial institution. In this regard an appropriate legislative clarity should be occurred. On the other hand, in case of microfinance organizations, I consider it is necessary to extend this prohibition to a member of the supervisory board and to make a detailed statement if this restriction applies on an independent or non-independent member of the supervisory board.

Levan Kokaia

Master in Law. Attorney at Law. Legal consultant on corporate governance issues. Currently serves as a corporate lawyer at one of the energy companies. Member of Georgian Bar Association. Author of more than 40 publications. Guest lecturer and trainer at GIPA.