Corporate Governance for Banks in Southeast Europe: Policy - IFC

elated-party transactions, because historically the number of companies that fail as a result of related
transactions is high. Another measure is the extent to which nonexecutives on the board are independent.
Further measures are the quality of management, their track record, and the regularity and quality of the
financial reports (are they audited, who are the auditors, quality of internal control, systems, transparency,
and management stability, and so on).
In SEE, qualitative factors do come into play when assessing loan applications. Some of these factors are
clearly governance-related, such as the capacity of the borrower to produce credible financial information.
However, the evaluation of governance is not usually subject to formalized approaches, at least not in locally
owned banks.
Beyond the necessary analytical tools, encouraging better practices among borrowers ultimately requires
direct contact with the client. One approach observed in SEE is to invite managers and shareholders of
clients to seminars. These seminars serve to sensitize participants to governance problems and educate them
about governance. The message from such meetings is that governance forms an integral part of borrower
evaluation and has an influence on the client’s creditworthiness and ultimately on loan pricing and conditions.
For clients undergoing restructuring, banks can introduce conditions concerning client governance, to be
assured that the restructuring process will be approved.
An example of client education comes from Croatia, where banks and the banking association have provided
workshops for small and medium enterprises. The target of Croatian workshops is not corporate governance
per se but more general information on how to approach banks and how to make it easier to obtain a loan.
The objective is to help potential clients understand why the bank is asking them for information. Corporate
governance issues are only touched upon but could become a more significant part of such efforts.
Recommendations:
Borrower governance: The governance of corporate borrowers should be taken into account in lending
decisions as a way to reward borrowers that have better governance practices in place. Formal methodologies
should be devised to take governance practices into account. Banks should encourage borrowers to raise the
level of their governance in line with best practice. Such encouragement should serve to enhance banks’ level
of comfort with borrowers and should have an effect on credit pricing decisions. There may also be a role for
banking associations in educating the business community about governance.
Assessment methodologies: In matters of governance, the credit function should address problems
of if, what, and how: “if” corporate governance is a real concern that should be taken into account;
“what” aspects of borrowers’ corporate governance should be scrutinized; and “how” procedures and
methodologies should be applied and what data should be gathered. Credit analysis requires the assessment
of both qualitative and quantitative factors for the purposes of loan classification, provisioning, and most
importantly the credit decision proper. 82
Banking supervisors: Supervisors should encourage banks to assess and monitor the quality of the
corporate governance of their clients as a critical part of their ongoing credit risk management.
Conflicts of interest: Banks’ interests do not necessarily converge with those of other stakeholders. To avoid
conflicts of interest and to contribute effectively to the enhancement of borrower governance, banks should
be transparent regarding the governance-related requirements they may impose on their borrowers.
82 Methodologies, including scorecards that benchmark companies against local governance codes, are discussed on IFC’s website: www.ifc.org and
www.gcgf.org.
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Policy Brief
Corporate Governance for Banks in Southeast Europe