Subsidiaries under scrutiny

By Darya Rusanova on 08. January 2019

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As regulators, investors and wider stakeholders increase their demands for companies to improve governance and compliance standards, subsidiary boards of large organisations are coming under scrutiny as well as directors at headquarters.

Directors are responsible for the actions of their companies and subsidiaries around the world and must comply with local and international legal and regulatory requirements in multiple jurisdictions. A lack of global harmonisation on regulation and legislation makes this a particularly difficult task in large, sprawling groups.

Subsidiary governance has been an unappreciated risk in the past, but parent organisations are attempting to gain better oversight of affiliate boards and to ensure they have good governance in place instead of hoping for a trickle-down effect from the main board. Adopting this approach before a problem blows up into a crisis in part of a widespread business—whether regional, global, government-owned, private or quoted—can prevent costly reputational and financial damage.

An accounting scandal at BT Italia, a subsidiary of the UK telecoms group, blew up in 2017, revealing malpractice such as false invoicing and off-balance sheet loans. In the same year, Tesco, the UK retailer, was fined by the Serious Fraud Office and the FCA for accounting fraud at its subsidiary, Tesco Stores Ltd, which dated back to 2014. The retailer also had to pay compensation to investors for overstating profits.

Brexit

A strong governance framework across subsidiaries is particularly important at a time when the UK is poised to leave the European Union on 29 March 2019. The extent to which UK companies will have to comply with EU regulations in order to trade is still unclear and the final details in any exit deal will affect a raft of issues from human rights to labour laws, environmental standards and money laundering.

Although, in the past, UK governance has led the way in many countries, breaking away from decades of EU regulation and corporate governance—such as the Shareholder Rights Directive—could present new challenges and risks for companies and their subsidiaries.

Organisations need to be diligent to ensure that in a post-Brexit environment their governance at parent and subsidiary level is at least as robust as the current one.

Balancing act

Companies that want to ensure an effective global subsidiary governance framework face lots of challenges. Parent company oversight of subsidiary boards is a difficult task as the balance between centralised control, devolved responsibility or autonomy varies enormously depending on whether the subsidiary is partly or wholly owned by the parent, and also on the structure of the legal entity. Balancing parent group needs and subsidiary independence involves fine-tuning and often needs adjusting.

Working out who is responsible for what, avoiding overlaps or unwanted interference is equally demanding. While the main board sets the objectives, values and culture in the organisation’s strategy for the subsidiary board to follow, it is down to the latter to achieve them.

Read the full article here.

Brainloop, Board, Corporate Governance

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