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25 November 2014
   
 
 
 
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The revised King Code and Report on Governance for South Africa ("King III") was launched on 1 September 2009. It will come into effect and replace the existing King II Code and Report on Corporate Governance ("King II") on 1 March 2010.

By way of background, the review of King II was prompted by changes in international governance trends and the reform of South Africa's company laws with the promulgation of the new Companies Act, 2008 ("the 2008 Act") anticipated to come into effect on 1 July 2010. The review also comes at a time when companies and corporate governance are increasingly under the spotlight in light of recent corporate failures and the global economic slowdown.

Overview

As is currently the case, King III sets out a number of key governance principles which should be read together with best practice recommendations on how to carry out each principle. Going forward, a number of Practice Notes will be issued by the Institute of Directors to assist entities in implementing King III.

King III's principles and recommendations must be seen against the legislative requirements contained in the 2008 Act and the Public Finance Management Act of 1999. This is reflected in the terminology used in King III with "must" indicating a legal requirement and "should" indicating where application of King III will result in good governance.

Significantly, King III will apply to all entities incorporated in and resident in SA irrespective of their manner or form of incorporation or establishment. We expect that the application of King III will be mandatory for JSE listed companies, as is the position currently in relation to King II.

In a change of approach, King III moves from a "comply or explain" approach to an "apply or explain" approach. The "apply and explain" approach requires a greater consideration of how a principle or a recommended practice in King III could be applied. A board may conclude that applying a recommended practice is not necessarily in the best interests of the company and apply a different practice provided that it explains the practice adopted and its reasons for doing so.

We have set out below some of the highlights and main changes introduced by King III.

Some of the highlights and main changes introduced include -


• the chairman of the board should be an independent non-executive director ("NED") who is free from conflicts of interest on appointment and is not the CEO. In the event that an executive chairman is appointed or the chairman is not independent or is conflicted for any reason, the board should identify a "lead independent non-executive director" who is able to provide leadership and advice;


• the recommended roles and functions of the CEO and chairman of the board have been expanded upon;


• a retired CEO should not become chairman of the board until 3 full years have elapsed since the end of his tenure as an executive director. Thereafter, if independent, an ex-CEO may be considered for appointment as non-executive chairman;


• the majority of board members should be NEDs, of which the majority must be independent. At a minimum, two executive directors should be on the board being the CEO and the director responsible for finance;


• the criteria for the "independence" of directors have been expanded upon. These include that an NED is considered independent if he has no direct or indirect interest in the company and its group which exceeds 5% of the group's total number of issued shares, or has no direct or indirect interest in the company which is less than 5% of the group's total number of issued shares but is material to his personal wealth. In addition, the director must not receive any remuneration contingent upon the performance of the company;


• the independence and performance of a non-executive director who has been on a board for more than 9 consecutive years (i.e. three terms of three years) should be assessed by the board;


• the duties of directors to act in good faith in the best interests of the company, to exercise the required degree of care, skill and diligence and to avoid conflicts of interest are emphasised;


• an annual performance evaluation of the board, its committees and directors is recommended. This should be done by the chairman or by an independent provider;


• the company's remuneration policy should be put to a non-binding advisory vote of shareholders at the AGM. Bonuses, payments on termination and incentive arrangements for directors are dealt with in some detail in King III. In particular, it is cautioned that the chairman and NEDs should not receive share options geared to share price or other corporate performance (despite provision for this in the 2008 Act) and that balloon payments on termination should be avoided;


• details of individual directors' remuneration as well as that for the three most highly paid non-director employees should be fully disclosed;


• all companies should have standing risk, remuneration and nomination committees, unless it is legislated otherwise. Smaller companies need not have such committees provided that they ensure that these functions are addressed by the board;


• board committees (other than the risk committee) should only comprise board members and should have a majority of NEDs, of whom the majority should be independent. In line with the 2008 Act, external parties (eg paid advisers) may be present by invitation but may not vote. King III also points out that non-director committee members are subject to the same standards of conduct and liability as directors under the 2008 Act;


• King III reflects the 2008 Act's requirements that public companies and state-owned companies must appoint an audit committee comprising at least three members, all of whom must be independent NEDs, at the company's AGM. It is recommended that the boards of all other types of company should voluntarily establish an audit committee and set out its duties and composition in the company's Memorandum of Incorporation. Detailed recommendations regarding the skills, functions and responsibilities of the audit committee are included;


• a risk-based approach to the internal audit function is adopted with the emphasis being on its strategic importance to the company and its independence from management. It should have a strong working relationship with the audit committee, providing the committee with assurance as to the effectiveness of internal controls and risk management;


• a real emphasis is placed on a company being a "responsible corporate citizen" that is run ethically with effective leadership characterised by the values of responsibility, accountability, fairness and transparency;


• King III stresses the importance of building a sustainable business having regard to the economic, social and environmental impact of the company. Strategy, risk, performance and sustainability are regarded as inseparable;


• integrated reporting receives more detailed attention. A company should not only report on its financial performance but also its sustainability by disclosing the positive and negative impact that its operations have on stakeholders. It is felt that this holistic approach will better enable stakeholders to make a more informed assessment of the value of a company. Note that sustainability reporting and disclosure should be independently assured;


• there is a greater focus on risk governance and management, including a recommendation that boards develop and implement a risk management policy and plan;


• IT governance is tackled for the first time in King III and is dealt with in some detail in a stand-alone chapter. Boards should be responsible for IT governance and should appoint a "Chief Information Officer" (CIO) who is responsible for the management of IT and serves as a "bridge" between the IT function and the business;


• boards are urged to take account of legitimate stakeholder interests and expectations when making decisions in the best interests of the company. Stakeholders include any group that can affect the company's operations or be affected by such operations;


• King III acknowledges that active stakeholders, such as institutional investors, are key to ensuring good corporate governance and proposes that a code should be developed for institutional investors recommending how they should engage with companies. Going forward the King Committee will work with relevant interested parties to draw up an investor code.

Conclusion

The release of King III is welcomed and represents a significant advance in good corporate governance that looks to the future. Companies will also find King III more user-friendly, in particular the new format of the Code which briefly sets out the recommended best practices against the applicable principles, should constitute a handy quick reference guide. In addition, the Practice Notes, when released, will greatly assist with implementation and going forward, the Institute of Directors will also be developing tools to assist different types of entities identify how to apply relevant principles and recommendations.

This newsletter was released by Webber Wentzel on September 2, 2009.

Edited by: Creamer Media Reporter
 
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