Corporate Governance in Financial Services

Introduction

In the fast-paced landscape of financial services (FS), effective governance is not merely an operational necessity; it is a critical pillar supporting the entire economic framework. The governance structures established within financial services organisations play an integral role in safeguarding financial stability. As challenges intensify in an interconnected global economy, robust governance translates into resilience, enabling institutions to withstand pressures that may arise from systemic risks and external shocks.

The Macro View: Financial Stability and Economic Prosperity

Good governance in financial services is crucial for maintaining the confidence of investors, consumers, and the broader market. When governance fails, the implications can ripple across the economy. Banking failures often stem from a loss of stakeholder confidence, which can trigger a rush for liquidity, leading to a systemic crisis. The fallout from such events can impact everyone from individual depositors to larger entities within the ecosystem, including businesses and governments.

Regulators believe quick action is needed to prevent contagion and ensure private investors bear the cost of failure, not taxpayers or customers. So shareholders should ensure that the firms they own are well managed.

Regulatory Framework: An Overview

The governance landscape in UK financial services is primarily shaped by two key regulators: the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA). The regulatory regime covers conduct matters (e.g. Treating Customers Fairly (TCF), Consumer Duty), micro-prudential regulation (ensuring individual firms are well capitalised and have appropriate risk management, etc), and macro-prudential policy (targeting systemic risk and linkages across the global banking system).

Prudential Regulation Authority (PRA): The PRA focuses on ensuring that financial institutions are safe, sound, and adequately capitalised. It addresses micro-prudential regulation through rigorous supervision of individual firms. The PRA mandates institutions to maintain appropriate levels of capital and manage risk effectively. Its emphasis on resolution is pivotal, aiming to ensure that, in cases of failure, operations are managed properly without transferring losses to taxpayers or consumers.

Financial Conduct Authority (FCA): The FCA is responsible for making sure financial markets work well for individuals and businesses. Key focus areas include conduct matters, such as TCF and Consumer Duty. The FCA works in tandem with the PRA to ensure that governance and consumer protection are intertwined, fostering a culture of accountability among financial service providers.

Regulatory Goals: Essential Components of Governance

To create a resilient financial landscape, regulators desire firms to have:

• • Robust Risk Management: This involves maintaining sufficient capital and liquidity, developing sustainable business plans, and engaging in regular reporting to regulators. Tools such as the Internal Capital Adequacy Assessment Process (ICAAP) and the Internal Liquidity Adequacy Assessment Process (ILAAP) are integral. Firms are required to have a regulatory business plan and regular reporting and engagement with regulators.
  • Failure Management Framework: Institutions must present a clear strategy for managing potential failures through robust Recovery and Resolution Planning (RRP) and plans for Solvent Wind Down (SWD). Operational resilience is another key area of focus for regulators.
  • Governance Structure: A foundation of strong governance includes established accountability via clear Terms of Reference (ToRs), delegation of authority, and mechanisms to ensure oversight of key individuals with Senior Managers & Certification Regime (SMCR) and Management Responsibilities Maps (MRMs).

   

  Why it matters

  Contributing approximately 12% of the UK’s GDP in 2023 and employing 2.5 million people (including in related professional services), the FS industry is fundamental to the UK’s economy. This global financial centre relies on continued confidence in the UK markets, and corporate governance is an essential component to maintaining trust and stability within the global financial system. A single banking failure can have wide reaching impact on other banks, businesses, consumers and even governments.

  A quick Google search of misconduct and scandals in financial institutions produces a plethora of failures in FS firms – examples of regulatory intervention and penalties, fraud, money laundering, and ‘debanking’ to name just a few. The underlying failure across them all is a lack of good governance and lack of adequate internal controls. One might conclude that it is only the largest firms that suffer from poor practices, as these are the ones that dominate the headlines, but the risk is just as likely to take place in small and growing institutions and can be equally as damaging.

  Regardless of size, the financial regulators will not hesitate to use their powers to address serious failings. As an example, in a recent ‘Dear CEO’ Letter to wealth management firms, the FCA’s expectations around financial crime and consumer duty are clear, and failure to adhere to them will result in the FCA taking action, if appropriate action is not taken “to rectify the root cause of any issues, which is often poor and ineffective leadership, governance, systems and controls and conflicts of interest management”¹. This could result in fines, changes to management, suspension of activities as well as legal action against the company.

  Examples of financial penalties can be seen in those levied against HSBC (January 2024) – £57m and Credit Suisse (July 2023) – £87m.

  Importance of Governance in FS

  Effective governance often goes unnoticed—until it fails catastrophically. Within the context of global banking, poor governance can lead to contagion risks that may devastate the global economy. Not only does a failure of a single institution endanger its immediate stakeholders, but it also threatens to destabilise counterparties, businesses, governments, customers, mortgages, impact customer trust, affect interest rates, and even destabilise pension plans.

  Good governance thus becomes paramount in securing banking licenses and obtaining permissions, with regulators keenly observing compliance with PRA supervisory statements (e.g., ss3-21, ss5-16) and corporate governance codes. Firms also experience scrutiny during moments of concern, engaging with regulators through processes like s166 reviews, voluntary requests, and enforcement actions—clear touchpoints where governance takes centre stage.

  How Can We Help

  Financial institutions are facing a rapidly changing and increasingly competitive environment. The PRA and FCA expect UK Financial Institutions to maintain a high level of corporate governance. Across the sector, internal teams are facing a greater compliance workload and increasing challenges on internal resources. Technology continues to replace the traditional delivery of financial services and all this amidst broader global uncertainty. Elemental has particular expertise in working with banks and financial institutions, supporting them with designing and implementing an appropriate governance framework.

  Elemental helps a number of financial services institutions and industry bodies looking for external governance and board support. We offer a joined-up approach to help tackle the most important issues facing organisations and their boards, including:

  • Governance audit
  • Governance Framework
  • Board and Committee Meeting Support
  • Directors’ Duties and Training
  • Board and Committee Effectiveness reviews

   

  Drafting / Reviewing Governance Frameworks and Governing Documents

  The financial services regulatory framework is in essence based on the principles of good governance. On a very basic level, this means making sure that the right people are discussing the right things, at the right time. Complexity can arise when determining who the right people are, what matters they need to consider and what information they need in order to make good decisions.

  The foundation to satisfying these requirements is a good corporate governance framework. A corporate governance framework supports the Board and management by providing a clear picture of who is responsible for what, who has the authority to make decisions on a matter, and who has oversight. The framework can also ensure that all senior manager functions are covered, especially where these responsibilities may have been delegated.

  It is essential that FS firms have clear and up-to-date Articles of Association with Matters Reserved to Shareholders clearly set out, supported by clear delegations of authority and terms of reference for each Committee that are reviewed annually to ensure they are still fit for purpose.

  Meeting Support

  With regards to discussing the right things, due to the vast number of matters a Board needs to consider (particularly in the financial services industry) it can be easy for discussion items and certain approvals to be missed. This can often occur in financial services as Board Committees are set up for specific areas (Audit, Credit, Risk, Compliance) and it becomes unclear which is responsible for recommending or approving items. An annual forward planner can help ensure nothing falls through the gaps.

  In terms of evidencing effective challenge, accurate and sufficiently detailed minutes of Board and Committee meetings is a crucial tool for supporting this requirement.

  Board and Committee Effectiveness Reviews

  There is also a rising number of areas, such as artificial intelligence, social media and environmental issues, that are posing both risks and opportunities for companies that a lot of directors do not currently have sufficient expertise in. This can then cause governance issues because the Board is unable to provide effective challenge and take informed decisions that will ultimately impact the development of strategy and risk management going forward. In a Supervisory Statement from the PRA, they state that:

  “Between them the non-executive directors need to have sufficient current and relevant knowledge and experience, including sector experience, to understand the key activities and risks involved in the business model and to provide effective challenge across the major business lines of the firm. The PRA expects to see evidence of effective challenge, particularly in relation to key strategic decisions.”²

  A solution to this is to ensure that regular effectiveness reviews are being undertaken which will, among other things, assess the breadth of skills and experience of Board members against the specific requirements of the company’s business and strategy, identifying any gaps or areas of weakness that can be addressed in future training or Board appointments.

  Conclusion

  Effective governance in financial services is much more than a regulatory checklist; it is a crucial framework ensuring firms operate in a sustainable and accountable way ensuring that when challenges arise, institutions are equipped to manage them without devastating repercussions on the economy. As history has shown, the lack of solid governance can lead to disastrous consequences, potentially destabilising the entire financial ecosystem. Organisations must thus prioritise governance not merely as a compliance activity but as a critical cornerstone for resilience and long-term sustainability in an unpredictable global market.

  It is essential that Boards and senior management fully consider their current practices to ensure they are fit for purpose as well as satisfy the increasing requirements of the regulators. By investing in robust governance frameworks, firms position themselves not only for regulatory approval but also for enduring success in an ever-evolving marketplace.

  If you should need any assistance with your corporate governance arrangements, please do not hesitate to contact us.