Green Paper - Corporate governance in financial institutions and remuneration policies {COM(2010) 285 final} {COM(2010) 286 final} {SEC(2010) 669}
Date: 2010-05-26
Institutions: European Commission
Subjects: audit, board of directors, corporate governance, economic recession, financial institution, financial services, shareholder

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EUROPEAN COMMISSION 

Brussels, 2.6.2010 
COM(2010) 284 final 

GREEN PAPER 

Corporate governance in financial institutions and remuneration policies 

{COM(2010) 285 final} 
{COM(2010) 286 final} 
{SEC(2010) 669} 

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GREEN PAPER 

Corporate governance in financial institutions and remuneration policies 

(Text with EEA relevance) 

1. 

INTRODUCTION 

The scale of the financial  crisis  triggered by the bankruptcy  of Lehman Brothers  in autumn 
2008  and  linked  to  the  inappropriate  securitisation  of  US  subprime  mortgage  debt  led 
governments around the world to question the effective strength of financial institutions and 
the suitability of their regulatory and supervisory systems to deal with financial innovation in 
a  globalised  world.  The  massive  injection  of  public  funding  in  the  US  and  Europe  –  up  to 
25% of GDP – was accompanied by a strong political will to learn the lessons of the financial 
crisis in all its dimensions to prevent such a situation happening again in the future.  

In  its  Communication  of  4  March  20091,  effectively  a  programme  for  reforming  the 
regulatory and supervisory framework for financial markets based on the conclusions of the 
Larosière  report2,  the  European  Commission  announced  that  it  would  (i)  examine  corporate 
governance rules and practice within financial institutions, particularly banks, in the light of 
the  financial  crisis,  and  (ii)  where  appropriate,  make  recommendations,  or  even  propose 
regulatory measures, in order to remedy any weaknesses in the corporate governance system 
in this key sector of the economy. Strengthening corporate governance is at the heart of the 
Commission's  programme  of  financial  market  reform  and  crisis  prevention.  Sustainable 
growth cannot exist without awareness and healthy management of risks within a company. 

As  highlighted  by  the  Larosière  report,  it  is  clear  that  boards  of  directors,  like  supervisory 
authorities,  rarely  comprehended  either  the  nature  or  scale  of  the  risks  they  were  facing.  In 
many cases, the shareholders did not properly perform their role as owners of the companies. 
Although corporate governance did not directly cause the crisis, the lack of effective control 
mechanisms  contributed  significantly  to  excessive  risk-taking  on  the  part  of  financial 
institutions. This general observation is all the more worrying because corporate governance 
has been relied upon as one of the ways of regulating business life. Consequently, there is a 
need  to  address  the  fundamental  question  of  whether  the  existing  corporate  governance 
regime is deficient as far as financial institutions are concerned or whether it has rather been 
poorly implemented. 

In the financial services sector, corporate governance should take account of the interests of 
other  stakeholders  (depositors,  savers,  life  insurance  policy  holders,  etc),  as  well  as  the 
stability of the financial system, due to the systemic nature of many players. At the same time, 
it  is  important  to  avoid  any  moral  hazard  by  not  diminishing  the  responsibility  of  private 
stakeholders. It is therefore the responsibility of the board of directors, under the supervision 

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COM (2009) 114 final. 
Report of the High-Level Group on Financial Supervision in the EU published on 25 February 2009. 
Mr Jacque de Larosière was chairman of the group. 

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of  the  shareholders,  to  set  the  tone  and  in  particular  to  define  the  strategy,  risk  profile  and 
appetite for risk of the institution it is governing. 

The  options  outlined  in  this  Green  Paper  are  likely  to  accompany  and  supplement  the  legal 
provisions implemented or planned for the purpose of strengthening the financial system, in 
particular in the context of the reform of the European supervisory architecture3, the Capital 
Requirements  Directive  (the  'CRD')4,  the  Solvency  II  Directive5  for  insurance  companies, 
reform of the UCITS system and the regulation of Alternative Investment Fund Managers.  

Corporate governance requirements should also take account of a financial institution's type 
(retail bank, investment bank) and size. The principles of sound corporate governance referred 
to in this Green Paper focus primarily on large financial institutions. These principles should 
be adapted so as to be applied effectively to smaller financial institutions. 

This  Green  Paper  should  be  read  in  conjunction  with  the  Commission  Staff  Working  Paper 
(COM(2010) XYZ) 'Corporate governance in financial institutions: the lessons to be learnt 
from the current financial crisis and possible steps forward'. This document takes stock of the 
situation. 

It is also important to point out that, since its meeting in Washington on 15 November 2008, 
the  G20  has  endeavoured  to  improve,  amongst  other  things,  risk  management  and 
compensation practices within financial institutions6. 

Lastly,  the  Commission  will  soon  launch  a  broader  review  on  corporate  governance  within 
listed  companies  in  general  and,  in  particular,  on  the  place  and  role  of  shareholders,  the 
distribution of duties between shareholders and boards of directors with regard to supervising 
senior  management  teams,  the  composition  of  boards  of  directors,  and  corporate  social 
responsibility.  

2. 

THE CONCEPT OF CORPORATE GOVERNANCE AND FINANCIAL INSTITUTIONS 

The  traditional  definition  of  corporate  governance  refers  to  relations  between  a  company's 
senior  management,  its  board  of  directors,  its  shareholders  and  other  stakeholders,  such  as 
employees  and  their  representatives.  It  also  determines  the  structure  used  to  define  a 
company's objectives, as well as the means of achieving them and of monitoring the results 
obtained7. 

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See  the  Commission  proposals  creating  three  European  Supervisory  Authorities  and  a  European 
Systemic Risk Board. 
Directive 2006/48/EC  of  the  European  Parliament  and  of  the  Council  of  14 June 2006  relating  to  the 
taking  up  and  pursuit  of  the  business  of  credit  institutions  (recast),  OJ  L  177  of  30.6.2006  and 
Directive 2006/49/EC  of  the  European  Parliament  and  of  the  Council  of  14 June 2006  on  the  capital 
adequacy of investment firms and credit institutions (recast), OJ L 177 of 30.6.2006. 
Directive  2009/138/EC  of  the  European  Parliament  and  of  the  Council  of  25  November  2009  on  the 
taking-up and pursuit of the business of Insurance and Reinsurance (Solvency II) (recast) OJ L 335 of 
17.12.2009. 
It was confirmed at the Pittsburgh Summit of 24 and 25 September 2009 that compensation practices 
would have to be reformed in order to maintain financial stability. 
See,  for  example,  the  OECD's  Principles  of  Corporate  Governance,  2004,  p.  11.  The  Green  Paper 
focuses on this limited definition of corporate governance and does not deal with some other important 
aspects, such as separation of functions within a financial institution, internal controls and accounting 
independence. 

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Due  to  the  nature  of  their  activities  and  interdependencies  within  the  financial  system,  the 
bankruptcy of a financial institution, particularly a bank, can cause a domino effect, leading to 
the  bankruptcy  of  other  financial  institutions.  This  can  lead  to  an  immediate  contraction  of 
credit and the start of an economic crisis due to lack of financing, as the recent financial crisis 
demonstrated. This systemic risk led governments to shore up the financial sector with public 
funding.  As  a  result,  taxpayers  are  inevitably  stakeholders  in  the  running  of  financial 
institutions, with the goal of financial stability and long-term economic growth.  

Furthermore, the interests of financial institutions' creditors (depositors, life insurance policy 
holders  or  beneficiaries  of  pension  schemes  and,  to  a  certain  extent,  employees)  are 
potentially  at  odds  with  those  of  their  shareholders.  Shareholders  benefit  from  a  rise  in  the 
share price and maximisation of profits in the short term and are potentially less interested in 
too  low  a  level  of  risk.  For  their  part,  depositors  and  other  creditors  are  focused  only  on  a 
financial  institution's  ability  to  repay  their  deposits  and  other  mature  debts,  and  thus  on  its 
long-term viability. As a result, depositors can be expected to favour a very low level of risk8.  

Largely as a result of the particularities relating to the nature of their activities, most financial 
institutions are strictly regulated and supervised. For the same reasons, financial institutions' 
internal  governance  cannot  be  reduced  to  a  simple  problem  of  conflicts  of  interest  between 
shareholders  and  the  management.  Consequently,  the  rules  of  corporate  governance  within 
financial  institutions  must  be  adapted  to  take  account  of  the  specific  nature  of  these 
companies.  In  particular,  the  supervisory  authorities,  whose  mission  to  maintain  financial 
stability coincides with the interests of depositors and other creditors to control risk-taking by 
the financial sector, have an important role to play in shaping best practices for governance in 
financial institutions. 

Various  legal  instruments  and  recommendations  at  international  and  European  level 
applicable  to  financial  institutions  and  in  particular  banks,  already  take  account  of  the 
particularities of financial institutions and the role of supervisory authorities9.  

However, the existing rules and recommendations are based first and foremost on supervisory 
considerations and focus on the existence of adequate internal control, risk management, audit 
and compliance  structures  within financial  institutions. They did not prevent  excessive risk-
taking by financial institutions, as the recent financial crisis demonstrated. 

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See Peter O. Mülbert, Corporate Governance of Banks, European Business Organisation Law Review, 
12 August 2008, p.427. 
Basel Committee on Banking Supervision, Enhancing corporate governance for banking organisations, 
September 1999. Revised in February 2006; OECD, Guidelines for insurers' governance, 2005; OECD, 
Revised  guidelines  for  pension  fund  governance,  July  2002;  Directive  2004/39/EC  of  the  European 
Parliament and of the Council of 21 April 2004 on markets in financial instruments amending Council 
Directives 85/611/EEC and 93/6/EEC and Directive 2000/12/EC of the European Parliament and of the 
Council  and  repealing  Council  Directive  93/22/EEC,  OJ  L  145  of  30.4.2004;  Solvency  II  Directive; 
Capital  Requirements  Directive;  Committee  of  European  Banking  Supervisors,  Guidelines  on  the 
Application  of  the  Supervisory  Review  Process  under  Pillar  2  (CP03  revised),  25  January  2006, 
http://www.c-ebs.org/getdoc/00ec6db3-bb41-467c-acb9-8e271f617675/GL03.aspx;  CEBS  High  Level 
Principles  for  Risk  Management,  16  February  2010,  http://www.c-ebs.org/Publications/Standards-
Guidelines/CEBS-High-Level-Principles-for-Risk-Management.aspx 

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3. 

DEFICIENCIES  AND  WEAKNESSES  IN  CORPORATE  GOVERNANCE  WITHIN  FINANCIAL 
INSTITUTIONS 

The Commission considers that an effective corporate governance system, achieved through 
control mechanisms and checks, should lead to the main stakeholders in financial institutions 
(boards  of  directors,  shareholders,  senior  management,  etc.)  assuming  a  higher  degree  of 
responsibility.  Conversely,  the  financial  crisis  and  its  serious  economic  and  social 
consequences have led to a significant loss of confidence in financial institutions, particularly 
with regard to the following. 

3.1. 

The question of conflicts of interest 

The questions raised by the issue of conflicts of interest and management of such conflicts are 
nothing  new.  Indeed,  the  issue  arises  in  every  organisation  or  company.  Nonetheless,  given 
the systemic risk, the volume of transactions, the diversity of financial services provided and 
the complex structure of large financial groups, the issue is particularly pressing in the case of 
financial  institutions.  Potential  conflicts  of  interest  can  arise  in  a  variety  of  situations  (for 
example, exercising incompatible roles or activities, such as providing advice on investments 
while  managing  an  investment  fund  or  managing  for  one's  own  account,  incompatibility  of 
mandates held on behalf of different clients/financial institutions). This problem can also arise 
between a financial institution and its shareholders/investors, particularly where there is cross-
shareholding  or  business  links  between  an  institutional  investor  (for  example  through  the 
parent company) and a financial institution in which it is investing.  

At  Community  level,  the  MiFID10  is  a  step  forward  for  transparency,  devoting  a  specific 
section  to  certain  aspects  of  this  issue.  However,  the  asymmetric  information  between 
investors  and  shareholders  on  the  one  hand,  and  the  financial  institution  concerned  on  the 
other  (an  imbalance  compounded  by  the  ever-increasing  complexity  and  diversity  of  the 
services  provided  by  financial  institutions),  calls  into  question  the  effectiveness  of  market 
identification and supervision of various conflicts of interest involving financial institutions. 
Furthermore,  as  the  CEBS,  CEIOPS  and  CESR  committees  note  in  their  joint  report  on 
internal governance11, there is a lack of consistency in the content and detail of the conflict of 
interest  rules  to  which  the  various  financial  institutions  are  subject,  depending  on  whether 
they need to apply the provisions of MiFID, the CRD, the UCITS Directive12 or Solvency 2. 

3.2. 

The  problem  of  effective  implementation  by  financial  institutions  of  corporate 
governance principles 

The  general  consensus13  is  that  the  existing  principles  of  corporate  governance,  namely  the 
OECD  principles, 
the  Basel  Committee,  and  Community 
legislation14, already cover to a certain extent the problems highlighted by the financial crisis. 
In  spite  of  this,  the  financial  crisis  revealed  the  lack  of  genuine  effectiveness  of  corporate 

the  recommendations  of 

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Directive 2004/39/EC on markets in financial instruments, (OJ L 145 of 30.4.2004).  
'Cross-sectoral stock-take and analysis of internal governance requirements' by CESR, CEBS, CEIOPS, 
October 2009. 
Directive 2009/65/EC. 
See the OECD's public consultation 'Corporate governance and the financial crisis' of 18 March 2009 
and in particular the section entitled 'Implementation gap'.  
Directive 2006/46/EC obliges financial institutions listed on regulated markets to draw up a corporate 
governance code to which they are subject, and to indicate any parts of the code from which they have 
departed and the reasons for doing so. 

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governance  principles  in  the  financial  services  sector,  particularly  with  regard  to  banks. 
Several theories have been put forward to explain this situation: 

–  the existing principles are too broad in scope and are not sufficiently precise. As a result, 
they  gave  financial  institutions  too  much  scope  for  interpretation.  Furthermore,  they 
proved  difficult  to  put  into  practice,  in  most  cases  leading  to  a  purely  formal  application 
(i.e., a box-ticking exercise), with no real qualitative assessment. 

–  the lack of a clear allocation of roles and responsibilities with regard to implementing the 

principles, within both the financial institution and the supervisory authority. 

–  the non-binding nature of corporate enterprise principles: the fact that there was no legal 
obligation  to  comply  with  recommendations  by  international  organisations  or  the 
provisions  of  a  corporate  governance  code,  the  problem  of  the  neglect  of  corporate 
governance by supervisory authorities, the weakness of relevant checks, and the absence of 
deterrent  penalties  all  contributed  to  the  lack  of  effective  implementation  by  financial 
institutions of corporate governance principles. 

3.3. 

Boards of directors15 

The financial crisis clearly shows that financial institutions' boards of directors did not fulfil 
their  key  role  as  a  principal  decision-making  body.  Consequently,  boards  of  directors  were 
unable  to  exercise  effective  control  over  senior  management  and  to  challenge  the  measures 
and strategic guidelines that were submitted to them for approval.  

The Commission considers that their failure to identify, understand and ultimately control the 
risks  to  which  their  financial  institutions  were  exposed  is  at  the  heart  of  the  origins  of  the 
crisis. Several reasons or factors contributed to this failure: 

–  members  of  boards  of  directors,  in  particular  non-executive  directors,  devoted  neither 
sufficient resources nor time to the fulfilment of their duties. Furthermore, several studies 
have  clearly  demonstrated  that,  faced  with  a  chief  executive  officer  who  is  omnipresent 
and in some cases authoritarian, non-executive directors felt unable to raise objections to, 
or  even  question,  the  proposed  guidelines  or  conclusions  due  to  a  lack  of  technical 
expertise and/or confidence.  

–  members of boards of directors did not come from sufficiently diverse backgrounds. The 
Commission,  like  several  national  authorities,  notes  a  lack  of  diversity  and  balance  in 
terms of gender, social, cultural and educational background. 

–  boards  of  directors,  in  particular  the  chairman,  did  not  carry  out  a  serious  performance 

appraisal either of their individual members or of the board of directors as a whole. 

–  boards  of  directors  were  unable  or  unwilling  to  ensure  that  the  risk  management 

framework and risk appetite of their financial institutions were appropriate. 

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The term 'board of directors' in this Green Paper essentially refers to the supervisory role of directors in 
a  company  which,  in  a  dual  structure,  generally  falls  within  the  scope  of  the  supervisory  board.  This 
Green  Paper  does  not  prejudice  the  roles  attributed  to  different  company  bodies  under  national  legal 
systems.  

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–  boards of directors proved unable to recognise the systemic nature of certain risks and thus 
to  provide  sufficient  information  upstream  to  their  supervisory  authorities  Furthermore, 
even  where  effective  dialogue  existed,  corporate  governance  issues  were  rarely  on  the 
agenda. 

The  Commission  considers  that  these  serious  deficiencies  and  acts  of  misconduct  raise 
important  questions  about  the  quality  of  appointment  procedures.  The  basis  for  quality  in  a 
board of directors lies in its composition. 

3.4. 

Risk management 

Risk management is one of the key aspects of corporate governance, particularly in the case 
of financial institutions. Several large financial institutions no longer exist precisely because 
they neglected the basic rules of risk management and control. Financial institutions have too 
often  failed  to  take  a  holistic  approach  to  risk  management.  The  main  failures  and 
shortcomings can be summarised as follows: 

–  a lack of understanding of the risks on the part of those involved in the risk management 
chain  and  insufficient  training  for  those  employees  responsible  for  distributing  risk 
products16; 

–  a lack of authority on the part of the risk management function. Financial institutions have 
not  always  granted  their  risk  management  function  sufficient  powers  and  authority  to  be 
able to curb the activities of risk-takers and traders; 

–  lack of expertise or insufficiently wide-ranging experience in risk management. Too often, 
the expertise considered necessary for the risk management function was limited to those 
categories  of  risk  considered  priorities  and  did  not  cover  the  entire  range  of  risks  to  be 
monitored; 

–  a  lack  of  real-time  information  on  risks.  To  allow  those  involved  to  react  quickly  to 
changes in risk exposures, clear and correct information on risk should be available rapidly 
at all relevant levels of the financial institution. Unfortunately, the procedures for getting 
information to the appropriate level have not always functioned. Furthermore, it is crucial 
to  upgrade  IT  tools  for  risk  management,  including  in  highly  sophisticated  financial 
institutions, as they are still too disparate to allow risks to be consolidated rapidly, while 
data are insufficiently consistent to allow the evolution of group exposures to be followed 
up effectively in real-time. This concerns not only the most complex financial products but 
all types of risk. 

The Commission considers that the deficiencies and shortcomings highlighted above are very 
worrying.  They  appear  to  indicate  the  absence  of  a  healthy  risk  management  culture  at  all 
levels of certain financial institutions. On this last point, the directors of financial institutions 
in particular are responsible, because in order to establish a healthy risk management culture 
at all levels, it is essential that directors are themselves exemplary in this respect.  

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See for example Renate Böhm and Hilla Lindhüber, Verkaufen, Druck und Provisionen - Probleme von 
Beschäftigten  im  Finanzdienstleistungsbereich  Versicherungen  Ergebnisse  einer  Arbeitsklima-Index-
Befragung, Salzburg 2008. 

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3.5. 

The role of shareholders 

The  financial  crisis  has  shown  that  confidence  in  the  model  of  the  shareholder-owner  who 
contributes  to  the  company's  long-term  viability  has  been  severely  shaken,  to  say  the  least. 
The  growing  importance  of  financial  markets  in  the  economy,  due  in  particular  to  the 
multiplication  of  sources  of  financing/capital  injections,  has  created  new  categories  of 
shareholders.  Such  shareholders  sometimes  seem  to  show  little  interest  in  the  long-term 
governance objectives of the businesses/financial institutions in which they invest and may be 
responsible  for  encouraging  excessive  risk-taking  in  view  of  their  relatively  short,  or  even 
very  short  (quarterly  or  half-yearly)  investment  horizons17.  In  this  respect,  the  sought-after 
alignment  of  directors'  interests  with  those  of  these  new  categories  of  shareholder  has 
amplified risk-taking and, in many cases, contributed to excessive remuneration for directors, 
based  on  the  short-term  share  value  of  the  company/financial  institution  as  the  only 
performance  criterion18.  Several  factors  can  help  to  explain  the  disinterest  or  passivity  of 
shareholders with regard to their financial institutions: 

–  certain  profitability  models,  based  on  possession  of  portfolios  of  different  shares,  lead  to 
the  abstraction,  or  even  disappearance,  of  the  concept  of  ownership  normally  associated 
with holding shares. 

–  the  costs  which  institutional  investors  would  face  if  they  wanted  to  actively  engage  in 
governance of the financial institution can dissuade them, particularly if their participation 
is minimal. 

–  conflicts of interest (see above).  

–  the lack of effective rights allowing shareholders to exercise control (such as, for example, 
the lack of voting rights on director remuneration in certain jurisdictions), the maintenance 
of certain obstacles  to  the exercise of  cross-border voting  rights, uncertainty over certain 
legal concepts (for example that of 'acting in concert') and financial institutions' disclosure 
to shareholders of information which is too complicated and unreadable, in particular with 
regard  to  risk,  could  all  play  a  part,  to  varying  degrees,  in  dissuading  investors  from 
playing an active role in the financial institutions in which they have invested.  

The Commission is aware that this problem does not affect only financial institutions. More 
generally, it raises questions about the effectiveness of corporate governance rules based on 
the  presumption  of  effective  control  by  shareholders.  As  a  result  of  this  situation,  the 
Commission will launch a broader review covering listed companies in general.  

3.6. 

The role of supervisory authorities 

Generally speaking, the recent financial crisis revealed the limits of the existing supervision 
system: in spite of the availability of certain tools enabling them to intervene in the internal 
governance  of  financial  institutions19,  not  all  supervisory  authorities,  either  at  national  or 

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See article by Rakesh Khurana and Andy Zelleke, Washington Post, 8 February 2009.  
See  Gaspar,  Massa,  Matos  (2005),  Shareholder  Investment  Horizon  and  the  Market  for  Corporate 
Control, Journal of Financial Economics, vol. 76. 
For example, Basel II. 

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European  level,  were  able  to  carry  out  effective  supervision  in  an  environment  of  financial 
innovation and rapid change in the business model of financial institutions20.  

Furthermore,  the  supervisory  authorities  also  failed  to  establish  best  practices  for  corporate 
governance in financial institutions. In many cases, supervisory authorities did not ensure that 
financial  institutions'  risk  management  systems  and  internal  organisation  were  adapted  to 
changes  in  their  business  model  and  financial  innovation.  Supervisory  authorities  also 
sometimes  failed  to  adequately  enforce  strict  eligibility  criteria  for  members  of  boards  of 
directors of financial institutions ('fit and proper test')21.  

Generally speaking, problems linked to the governance of supervisory authorities themselves, 
particularly  the  means  of  combating  the  risk  of  regulatory  capture  or  the  lack  of  resources, 
have  never  been  sufficiently  discussed.  Moreover,  it  is  becoming  increasingly  clear  that  the 
territorial and substantive competencies of supervisory authorities no longer correspond to the 
geographical  and  sectoral  spread  of  financial  institutions'  activities.  This  complicates  risk 
management  for  financial  institutions  and  makes  it  more  difficult  for  them  to  comply  with 
regulatory  standards,  as  well  as  presenting  a  major  challenge  for  cooperation  between 
supervisory authorities. 

3.7. 

The role of auditors 

Auditors  play  a  key  role  in  financial  institutions'  corporate  governance  systems,  as  they 
provide  assurance  to  the  market  that  the  financial  statements  prepared  by  those  financial 
institutions  present  a  true  and  fair  view.  However,  conflicts  of  interest  could  arise  as  audit 
firms  are  remunerated  by  the  same  companies  who  mandate  them  to  audit  their  financial 
accounts.  

At  present,  there  is  no  information  to  confirm  that  the  requirement,  pursuant  to  Directive 
2006/48/EC, for auditors of financial institutions to alert the competent authorities wherever 
they become aware of certain facts which are liable to have a serious effect on the financial 
situation of an institution, has been effectively enforced in practice. 

4. 

INITIAL RESPONSES 

In  the  context  of  its  Communication  of  4  March  2009  and  measures  taken  to  boost  the 
European economy, the Commission has undertaken to address issues related to remuneration. 
The Commission has launched the international debate on abusive remuneration practices and 
was  leading  the  implementation  at  European  level  of  FSB  and  G-20  principles  on  sound 
compensation  practices.  Leaving  aside  the  issue  of  whether  or  not  certain  levels  of 
remuneration are appropriate, the Commission started from two premises: 

–  since  the  end  of  the  1980s,  the  substantial  increase  in  the  variable  component  of  listed 
company directors' salaries raises questions about the methods and content of performance 
evaluations  for  company  directors.  In  this  respect,  the  Commission  made  an  initial 
response  at  the  end  of  2004  by  adopting  a  recommendation  aimed  at  strengthening 
obligations to publish director remuneration policies and individual salaries, and calling on 

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On the failings of supervisory authorities in general, see the 'de Larosière' Report, footnote 1.  
See,  for  example,  OECD,  Corporate  Governance  and  the  Financial  Crisis,  Recommendations, 
November 2009, p.27. 

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the  Member  States  to  establish  a  vote  (mandatory  or  optional)  on  such  director 
remuneration.  For  a  variety  of  reasons  linked,  amongst  other  things,  to  the  lack  of 
shareholder  activism,  the  explosion  of  the  variable  component  and,  in  particular,  the 
multiplication  of  profit-sharing  plans  granting  shares  or  stock  options,  the  Commission 
considered  it  necessary  to  adopt  a  new  recommendation  on  30  April  200922.  The  aim  of 
this  recommendation  is  to  strengthen  governance  of  directors'  remuneration,  proposing 
several principles for director remuneration structures in order to better link remuneration 
to long-term performance. 

–  remuneration  policies  in  the  financial  sector,  based  on  short-term  profits  without  taking 
into account the corresponding risks, contributed to the financial crisis. For this reason, the 
Commission  adopted  another  recommendation  on  remuneration  in  the  financial  services 
sector  on  30  April  200923.  The  aim  was  to  align  remuneration  policies  in  the  financial 
services with healthy risk management and financial institutions' long-term viability. 

Taking stock one year after the adoption of the two abovementioned recommendations, and in 
spite  of  a  favourable  climate  for  tough  action  on  the  part  of  the  Member  States,  the 
Commission finds a mixed overall picture of the situation in the Member States24. 

Although  there  were  strong  legislative  moves  in  several  Member  States  to  achieve  greater 
transparency  in  remuneration  for  listed  company  directors  and  to  empower  shareholders  in 
this  respect,  it  was  also  noted  that  only  10  Member  States  have  applied  the  majority  of 
Commission recommendations. A large number of Member States have still not adopted the 
relevant measures. Furthermore, where the recommendation led to measures at national level, 
the  Commission  noted  great  diversity  in  the  content  and  requirements  of  these  rules, 
particularly  on  sensitive  issues  such  as  remuneration  structure  and  severance  packages.  The 
Commission is also concerned about remuneration policies in the financial services. Only 16 
Member States have applied the Commission Recommendation in full or in part while five are 
still  in  the  process  of  doing  so.  Six  Member  States  have  at  present  taken  no  action  on  this 
front  and  do  not  intend  to  do  so  in  the  near  future.  Furthermore,  the  intensity  (particularly 
requirements  relating  to  remuneration  structure)  and  scope  of  application  of  the  measures 
taken vary depending on the Member State. Thus only seven Member States have extended 
implementation of the principles of the recommendation to the entire financial sector, as the 
Commission called on them to do.  

5. 

OPTIONS FOR THE FUTURE 

The  Commission  considers  that,  while  taking  into  account  the  need  to  preserve  the 
competitiveness  of  the  European  financial  industry,  the  deficiencies  listed  in  Chapter  3  call 
for concrete solutions to improve corporate governance practices in financial institutions. This 
chapter considers a variety of ways to respond to these deficiencies and tries to strike the right 
balance between the need for improved corporate governance of financial institutions and the 
necessity of allowing these institutions to contribute to economic recovery by providing credit 
to businesses and households.  The Commission invites all interested parties to express their 

22 
23 
24 

Recommendation 2009/385/EC. 
Recommendation 2009/384/EC. 
For  a  detailed  examination  of  the  measures  taken  by  the  Member  States,  see  the  two  Commission 
reports  on 
the  Member  States  of  Recommendation  2009/384/EC  and 
Recommendation 3009/385/EC.  

the  application  by 

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views  on  the  considerations  set  out  below.  Each  of  the  options  explored  could  lead  to  the 
development of measures on corporate governance in financial institutions. The added value 
of such measures should nevertheless be assessed in the context of impact analyses carried out 
in accordance with the Commission's guidelines on the subject25. 

More  particularly,  the  Commission  is  currently  exploring  different  ways  of  improving  the 
functioning,  composition  and  skills  of  boards  of  directors,  strengthening  risk  management-
related  functions,  expanding  the  role  of  external  auditors  and  strengthening  the  role  of 
supervisory  authorities  in  the  governance  of  financial  institutions.  The  place  and  role  of 
shareholders is also considered.  

The main challenge in seeking to improve existing corporate governance practices will be to 
ensure real change in the behaviour of the relevant actors. This cannot be achieved through 
new regulatory and non-regulatory requirements alone. It must also be backed up by effective 
financial supervision. 

The  various  solutions  presented  below  provide  a  platform  for  general  improvement  of 
corporate  governance  in  financial  institutions.  Their  concrete  application  should  be 
proportionate and could vary according to the legal form, size, nature and complexity of the 
financial institution concerned and the various existing legal and economic models.  

5.1. 

Boards of directors 

Based on the shortcomings highlighted by the recent crisis, it appears necessary for boards of 
directors to ensure the right balance between independence and skills is struck. Recruitment 
policies  which  precisely  identify  the  skill  needs  of  the  board  of  directors  and  which  aim  to 
guarantee  the  objectivity  and  independence  of  members'  judgment  could  help  increase  the 
board of directors' ability to effectively monitor management.  

In order to safeguard the objectivity and independence of judgment of members of the board 
of  directors,  it  seems  necessary  to  strengthen  measures  intended  to  prevent  conflicts  of 
interest both within the board of directors but also within the financial institution in general, 
in particular by putting in place clear policies for managing conflicts of interest.  

In  view  of  the  crucial  role  that  the  chairman  plays  in  organising  the  work  of  the  board,  it 
would be useful to clearly define his/her skills, role and responsibilities. 

It would also be useful to review the diversity of the composition of boards of directors. In 
addition  to  the  need  for  specific  individual  qualities  (independence,  skill,  experience,  etc), 
greater diversity (women, directors with different cultural and educational backgrounds, etc) 
can contribute to the quality of the board's work.  

In  view  of  the  increasing  complexity  of  the  structure  and  activities  of  financial  institutions, 
ways  to  improve  the  efficiency  of  the  board  of  directors'  work  should  be  investigated.  In 
particular, limiting the number of boards on which a director may sit should be considered to 
enable them to devote sufficient time to performance of their duties.  

It would also seem necessary to formalise the procedure for evaluating the board of directors' 
performance,  in  particular  by  defining  the  role  of  external  evaluators  and  supplying 

25 

SEC(2009) 92. 

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supervisory authorities and/or shareholders with the results of the evaluation so that they can 
judge the capabilities and effectiveness of the board of directors. 

It seems that the duties and responsibilities of the board of directors, particularly with regard 
to  the  board's  role  in  risk  supervision,  also  need  to  be  strengthened.  It  would  be  useful  to 
consider  creating  a  specialised  risk  supervision  committee  within  the  board  of  directors. 
Publishing  the  board  of  directors'  approval  of  the  risk  strategy  and  profile  in  a  public 
document  (risk  control  declaration)  could  also  contribute  to  good  management  and 
supervision of risks within financial institutions.  

Generally speaking, it seems necessary for members of the board of directors to be familiar 
with the structure of their financial institution and ensure that organisational complexity does 
not prevent effective control of the institution's activity in its entirety. 

It  also  seems  necessary  to  clarify  the  respective  roles  and  responsibilities  of  the  various 
players in decision-making within the financial institution, particularly members of the board 
of  directors  and  the  senior  management.  In  particular,  the  board  of  directors  should  ensure 
that clear responsibility structures are put in place covering the entire organisation, including 
subsidiaries, branches and other related entities. 

Increased  cooperation  between  the  board  of  directors  and  the  supervisory  authorities  would 
also  seem  desirable.  In  particular,  a  requirement  that  the  board  of  directors  alert  the 
supervisory  authorities  to  any  substantial/systemic  risks  that  they  are  aware  of  could  be 
considered. 

The Commission is also considering whether, in addition to shareholders' interests, which are 
essential  in  the  traditional  view  of  corporate  governance,  financial  institutions  also  need  to 
take better account of other stakeholders' interests. In particular, the creation of a specific duty 
for the board of directors to take account of the interests of depositors and other creditors in 
their decision-making ('duty of care') could help encourage the board of directors to adopt less 
risky  strategies  and  improve  the  quality  of  the  financial  institution's  long-term  risk 
management.  The  creation  of  such  a  duty  would  nonetheless  require  careful  examination  of 
the  existing  legal  regimes  in  the  different  Member  States.  Depending  on  the  results  of  this 
examination, the Commission will then have to determine whether action at European level is 
needed to help strengthen financial stability across the European Union as a whole. 

General question 1: Interested parties are invited to express whether they are in favour 
of the proposed solutions concerning the composition, role and functioning of the board 
of directors, and to indicate any other measures they believe would be necessary. 

1. 

Specific questions: 

1.1. 

1.2. 

1.3. 

Should the number of boards on which a director may sit be limited (for example, no 
more than three at once)? 

Should  combining  the  functions  of  chairman  of  the  board  of  directors  and  chief 
executive officer be prohibited in financial institutions? 

Should recruitment policies specify the duties and profile of directors, including the 
chairman, ensure that directors have adequate skills, and ensure that the composition 
of the board of directors is suitably diverse? If so, how? 

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1.4. 

1.5. 

1.6. 

1.7. 

Do you agree that including more women and individuals with different backgrounds 
in the board of directors could improve the functioning and efficiency of boards of 
directors? 

Should a compulsory evaluation of the functioning of the board of directors, carried 
out by an external evaluator, be put in place? Should the result of this evaluation be 
made available to supervisory authorities and shareholders?  

Should it be compulsory to set up a risk committee within the board of directors and 
establish rules regarding the composition and functioning of this committee? 

Should it be compulsory for one or more members of the audit committee to be part 
of the risk committee and vice versa? 

1.8. 

Should the chairman of the risk committee report to the general meeting? 

1.9.  What  should  be  the  role  of  the  board  of  directors  in  a  financial  institution's  risk 

profile and strategy?  

1.10. 

Should a risk control declaration be put in place and published? 

1.11. 

1.12. 

1.13. 

Should  an  approval  procedure  be  established  for  the  board  of  directors  to  approve 
new financial products?  

Should  an  obligation  be  established  for  the  board  of  directors  to  inform  the 
supervisory authorities of any material risks they are aware of?  

Should a specific duty be established for the board of directors to take into account 
the  interests  of  depositors  and  other  stakeholders  during  the  decision-making 
procedure ('duty of care')? 

5.2. 

Risk-related functions 

One of the main observations in the wake of the recent financial crisis was the failure of risk 
management functions, due in particular to the lack of authority of these functions and a poor 
system for risk-related communication and information.  

It  therefore  seems  necessary  to  strengthen  the  independence  and  authority  of  the  risk 
management function, particularly by enhancing the status of the chief risk officer (CRO). In 
particular, it seems desirable that the chief risk officer should have at least equal status to the 
chief financial officer within the internal organisation of a financial institution, and that they 
should  be  able  to  directly  report  any  risk-related  problem  to  the  board  of  directors. 
Establishing close relations between the chief risk officer and the board of directors (and its 
risk committee) could also help to strengthen the role of the chief risk officer.  

It also seems desirable to improve the risk management function's communication system, in 
particular by introducing a procedure for referring any conflicts and problems encountered to 
the hierarchy for resolution. The board of directors should establish the frequency and content 
of the risk reports to be submitted to it regularly. Updating the IT infrastructure should also be 
a priority in order to substantially develop financial institutions' risk management capabilities 
and allow risk information to be circulated in good time. 

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Generally speaking, implementation of a policy to increase awareness of risk problems ('risk 
culture') for the benefit of all staff, including members of the board of directors, should be a 
requirement. In particular, it seems advisable to carry out an evaluation of the underlying risks 
before setting up any new financial products, market sectors or areas of activity.  

Finally,  it  seems  appropriate  for  senior  management  to  approve  an  evaluation  report  on  the 
adequacy  and  functioning  of  the  internal  control  system,  in  order  to  ensure  that  internal 
control systems within a financial institution are effective, including with regard to risk. 

General question 2: Interested parties are invited to express whether they are in favour 
of the proposed solutions regarding the risk management function, and to indicate any 
other measures they believe would be necessary.  

Specific questions: 

2.1. 

2.2. 

2.3. 

2.4. 

2.5. 

How  can  the  status  of  the  chief  risk  officer  be  enhanced?  Should  the  status  of  the 
chief risk officer be at least equivalent to that of the chief financial officer? 

How can the communication system between the risk management function and the 
board of directors be improved? Should a procedure for referring conflicts/problems 
to the hierarchy for resolution be set up?  

Should  the  chief  risk  officer  be  able  to  report  directly  to  the  board  of  directors, 
including the risk committee? 

Should  IT  tools  be  upgraded  in  order  to  improve  the  quality  and  speed  at  which 
information concerning significant risks is transmitted to the board of directors? 

Should executives be required to approve a report on the adequacy of internal control 
systems? 

5.3. 

External auditors 

In order to respond to the problems highlighted in Chapter 3, it seems necessary to examine 
ways of extending the reporting scheme by which external auditors alert the board of directors 
and supervisory authorities of any substantial risks they discover in the performance of their 
duties ('duty of alert').  

Generally  speaking,  it  seems  desirable  to  strengthen  cooperation  between  external  auditors 
and  the  supervisory  authorities  in  order  to  benefit  from  auditors'  knowledge  not  only  of 
individual financial institutions but also of the financial sector as a whole, while taking into 
account constraints relating to professional secrecy.  

Finally, it is worth reviewing the role that external auditors should play more generally with 
regard to risk-related information in financial institutions. In particular, it could be envisaged 
for  the  external  auditor  to  validate  a  greater  range  of  information  which  is  relevant  to 
shareholders  than  it  does  at  present  in  order  to  improve  investor  confidence  in  this  type  of 
information, thereby encouraging the proper functioning of the markets. 

General question 3: Interested parties are invited to express whether they are in favour 
of  the  proposed  solutions  concerning  the  role  of  external  auditors,  and  to  indicate  any 
other measures they believe would be necessary.  

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Specific questions: 

3.1. 

3.2. 

Should  cooperation  between  external  auditors  and  supervisory  authorities  be 
deepened? If so, how? 

Should  their  duty  of  information  towards  the  board  of  directors  and/or  supervisory 
authorities on possible serious matters discovered in the performance of their duties 
be increased? 

3.3. 

Should external auditors' control be extended to risk-related financial information?  

5.4. 

Supervisory authorities 

In  order  to  respond  to  the  shortcomings  in  financial  institutions'  corporate  governance 
highlighted  by  the  recent  crisis,  it  seems  necessary  to  redefine  and  strengthen  the  role  of 
supervisory  authorities  in  the  internal  governance  of  financial  institutions.  There  is  a  need, 
however, to ensure a clear delimitation of roles and responsibilities between the supervisors 
and the governing bodies of financial institutions. 

In  particular,  it  might  be  possible  to  envisage  creating  a  duty  for  supervisory  authorities  to 
check  the  correct  functioning  and  effectiveness  of  the  board  of  directors,  and  to  regularly 
inspect  the  risk  management  function  to  ensure  its  effectiveness.  It  would  be  useful  for  the 
supervisory authorities to inform the board of directors of any shortcomings they discover so 
that the financial institution can correct them in good time. 

It also seems necessary for the supervisory authorities to extend the eligibility criteria ('fit and 
proper  test')  for  future  directors  to  cover  technical  and  professional  skills,  including  those 
relating  to  risk,  as  well  as  candidates'  individual  qualities,  in  order  to  ensure  better 
independence of judgment of future members of the board of directors.  

Finally, cooperation between supervisory authorities on corporate governance of cross-border 
financial  institutions  should  be  strengthened,  particularly  within  colleges  of  supervisors  but 
also in the context of future European supervisory authorities. 

General question 4: Interested parties are invited to express whether they are in favour 
of the proposed solutions concerning the role of supervisory authorities, and to indicate 
any other measures they believe would be necessary.  

Specific questions: 

4.1 

4.2. 

4.3. 

Should  the  role  of  supervisory  authorities  in  the  internal  governance  of  financial 
institutions be redefined and strengthened?  

Should  supervisory  authorities  be  given  the  power  and  duty  to  check  the  correct 
functioning  of  the  board  of  directors  and  the  risk  management  function?  How  can 
this be put into practice?  

Should the eligibility criteria ('fit and proper test') be extended to cover the technical 
and professional skills, as well as the individual qualities, of future directors? How 
can this be achieved in practice?  

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5.5. 

Shareholders 

The problems related to the particular role of shareholders in financial institutions have been 
partly discussed above. Shareholders' lack of interest in corporate governance raises questions 
in general about the effectiveness of corporate governance rules based on the presumption of 
effective  control  by  shareholders  for  all  listed  companies.  Similarly,  engaging  shareholders 
presents a real challenge for financial institutions.  

In  order  to  motivate  shareholders  to  engage  in  a  dialogue  with  the  financial  institution  and 
monitor senior management's decision-making, as well as to consider the long-term viability 
of the financial institution, the Commission intends to carry out a review centred around the 
following topics:  

–  strengthening shareholder cooperation through the creation of discussion platforms; 

–  disclosure by institutional investors of their voting practices at shareholders' meetings; 

–  institutional investors adherence to 'stewardship codes' of best practice; 

–  identification and disclosure of potential conflicts of interest by institutional investors; 

–  disclosure by institutional investors of the remuneration policy for intermediaries26; 

–  providing shareholders with better information on risk. 

General question 5: Interested parties are invited to express their view on whether they 
consider  that  shareholder  control  of  financial  institutions  is  still  realistic.  If  so,  how  in 
their opinion would it be possible to improve shareholder engagement in practice?  

Specific questions: 

5.1. 

5.2. 

Should  disclosure  of  institutional  investors'  voting  practices  and  policies  be 
compulsory? How often? 

Should institutional investors be obliged to adhere to a code of best practice (national 
or  international)  such  as,  for  example,  the  code  of  the  International  Corporate 
Governance Network (ICGN)? This code requires 

signatories  to  develop  and  publish  their  investment  and  voting  policies,  to  take 
measures to avoid conflicts of interest and to use their voting rights in a responsible 
way. 

5.3. 

Should the identification of shareholders be facilitated in order to encourage dialogue 
between companies and their shareholders and reduce the risk of abuse connected to 
'empty voting'27? 

26 
27 

Particularly the managers of asset management companies. 
Vote  by  a  shareholder  with  no  corresponding  financial  interest  in  the  company  for  which  they  are 
voting,  with  potentially  negative  consequences  for  the  integrity  of  the  corporate  governance  of  listed 
companies and the markets on which their shares are traded. 

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5.4.  Which  other  measures  could  encourage  shareholders  to  engage  in  financial 

institutions' corporate governance?  

5.6. 

Effective implementation of corporate governance principles 

In addition to the role of supervisory authorities in implementing good corporate governance 
practices  within  financial  institutions  as  discussed  above,  it  is  worth  considering  senior 
management's  legal  accountability  for  the  correct  implementation  of  these  principles. 
Effective  and  efficient  sanctions  may  be  needed  in  order  to  change  the  behaviour  of  the 
relevant actors. However, the Commission is of the view that any increase in managers' civil 
or  criminal  accountability  should  be  examined  carefully.  An  in-depth  study  on  this  subject 
should  be  carried  out  beforehand,  recognising  Member  States'  competence  on  matters  of 
criminal law. 

General  question  6:  Interested  parties  are  invited  to  express  their  opinion  on  which 
methods  would  be  effective  in  strengthening  implementation  of  corporate  governance 
principles?  

Specific questions: 

6.1. 

Is it necessary to increase the accountability of members of the board of directors? 

6.2. 

Should the civil and criminal liability of directors be reinforced, bearing in mind that 
the rules governing criminal proceedings are not harmonised at European level? 

5.7. 

Remuneration 

The Commission has already adopted several recommendations on this subject28. Legislative 
proposals for credit institutions and investment firms are also currently being discussed in the 
context  of  the  modification  of  the  CRD29  as  well  as  for  Alternative  Investment  Fund 
Managers.  The  Commission  considers  that,  to  prevent  distortions  of  competition  between 
financial institutions in different sectors, other similar legislative measures will have to follow 
for the other financial services sectors, in particular UCITS and insurance companies. 

As regards the remuneration of directors of listed companies, the Commission report on the 
implementation  by  Member  States  of  measures  to  promote  the  application  of  existing 
recommendations shows that this application is neither uniform nor satisfactory. Although a 
specific recommendation on remuneration exists for financial services, the recommendations 
on  directors'  remuneration  also  apply  to  directors  of  listed  financial  institutions  and  contain 
additional  rules,  particularly  with  regard  to  transparency  of  remuneration  for  directors.  For 
this  reason,  the  Commission  gives  consideration  in  this  Green  Paper  to  the  need  for  and 
content of relevant legislative measures. 

28 
29 

See Recommendation 2009/384/EC and Recommendation 2009/385/EC. 
See  the  proposal  for  a  Directive  of  the  European  Parliament  and  of  the  Council  amending  Directives 
2006/48/EC  and  2006/49/EC  as  regards  capital  requirements  for  the  trading  book  and  for  re-
securitisations, and the supervisory review of remuneration policies – COM/2009/0362 final. 

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General  question  7:  Interested  parties  are  invited  to  express  their  views  on  how  to 
enhance the consistency and effectiveness of EU action on remuneration for directors of 
listed companies. 

Specific questions: 

7.1.  What could be the content and form, binding or non-binding, of possible additional 

measures at EU level on remuneration for directors of listed companies? 

7.2. 

Do  you  consider  that  problems  related  to  directors'  stock  options  should  be 
addressed?  If  so,  how?  Is  it  necessary  to  regulate  at  Community  level,  or  even 
prohibit the granting of stock options? 

7.3.  Whilst respecting Member States' competence where relevant, do you think that the 
favourable tax treatment of stock options and other similar remuneration existing in 
certain Member States helps encourage excessive risk-taking? If so, should this issue 
be discussed at EU level? 

7.4. 

Do  you  think  that  the  role  of  shareholders,  and  also  that  of  employees  and  their 
representatives, should be strengthened in establishing remuneration policy? 

7.5.  What  is  your  opinion  of  severance  packages  (so-called  'golden  parachutes')?  Is  it 
necessary  to  regulate  at  Community  level,  or  even  prohibit  the  granting  of  such 
packages?  If  so,  how?  Should  they  be  awarded  only  to  remunerate  effective 
performance of directors? 

General  question  7a:  Interested  parties  are  also  invited  to  express  their  views  on 
whether additional measures are needed with regard to the structure and governance of 
remuneration policies in the financial services. If so, what could be the content of these 
measures? 

Specific questions: 

7.6. 

Do  you  think  that  the  variable  component  of  remuneration  in  financial  institutions 
which have received public funding should be reduced or suspended? 

5.8. 

Conflicts of interest 

The  weight  and  role  of  the  financial  sector  in  the  economy  and  considerations  relating  to 
financial stability require that conflicts of interest should be at least partly regulated by very 
clear rules rooted in law and by attributing a clearly defined role to the supervisory authorities 
in monitoring their correct application. 

General question 8: Interested parties are invited to express whether they agree with the 
Commission's observation that, in spite of current requirements for transparency with 
regard to conflicts of interest, surveillance of conflicts of interest by the markets alone is 
not always possible or effective. 

Specific questions: 

8.1.  What could be the content of possible additional measures at  EU level  to reinforce 

the combating and prevention of conflicts of interest in the financial services sector? 

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8.2. 

Do you agree with the view that, while taking into account the different existing legal 
and  economic  models,  it  is  necessary  to  harmonise  the  content  and  detail  of 
Community  rules  on  conflicts  of  interest  to  ensure  that  the  various  financial 
institutions are subject to similar rules, in accordance with which they must apply the 
provisions of MiFID, the CRD, the UCITS Directive or Solvency 2?  

6. 

NEXT STEPS 

Member States, the European Parliament, the European Economic and Social Committee and 
other  interested  parties  are  invited  to  submit  their  views  on  the  suggestions  set  out  in  this 
Green  Paper  with  a  view  to  establishing  a  broad  consensus  on  any  measures  that  could  be 
envisaged. Contributions should be sent to the following address to reach the Commission by 
1st  September  2010  at  the  latest:  markt-cg-fin-inst@ec.europa.eu.  In  the  follow-up  to  this 
Green Paper and on the basis of the responses received, the Commission will take a decision 
on the next steps. Any future legislative or non-legislative proposal will be accompanied by 
an extensive impact assessment. 

Contributions  will  be  published  on  the  internet.  It  is  important  to  read  the  specific  privacy 
statement  attached  to  this  Green  Paper  for  information  on  how  your  personal  data  and 
contribution will be dealt with. 

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