New SEC rules on independent directors

In this age of corporate governance, the ability of a corporation to attract investments and generate profits is directly affected by its corporate governance practices. And while corporate governance is a concept that changes due to commercial and societal demands, there is no doubt that regulatory requirements play an important role in the evolution of governance standards.

With a view to enhancing good governance in the Philippines, the Securities and Exchange Commission on Dec. 5, 2011, issued Memorandum Circular No. 9, Series of 2011, on Term Limits for Independent Directors (SEC MC No.9).

The Circular will take effect on Jan. 12, 2012.

SEC MC No. 9 applies to all listed, public and mutual fund companies. It is geared toward enhancing the effectiveness of independent directors and envisioned to encourage the infusion of fresh ideas in the board of directors. Such a move on the part of the SEC is not surprising as these companies are entrusted with the money of the investing public.  Hence, the need to instill safeguards and checks within the governing body of these companies.

Board memberships

The first change introduced by SEC MC No. 9 is the number of board memberships for independent directors.

The circular states that there is no limit to the number of covered companies that a person may be elected as an independent director.  However, where a person is an independent director of a business conglomerate (parent company, subsidiary and affiliate), he may be elected as an independent director to only five companies of such conglomerate.

SEC MC No.9 sets the term of an independent director for five consecutive years. A tenure of at least six months is considered one year for purposes of the new rule. After this period, an independent director shall become ineligible for election as such in the same company, unless he first undergoes a “cooling off” period of two years.

During this period, such person should not engage in any activity that, under the Securities and Regulation Code and other relevant rules, disqualifies him from being elected as independent director.

The new rule is similar to Memorandum Circular No. 09-09 wherein the SEC en banc prescribed that a regular director who resigns or whose term ends on the day of the election shall only qualify for nomination and election as an independent director after a two-year cooling off period.

Perpetual ban

The rationale for the five-year term limit is that after having been an independent director for five years for the same company, it is highly possible that his objectivity and loyalty are compromised. This possibility must be avoided to ensure that the purpose behind the independent director rule is not lost.

Re-election of a person who has served as an independent director for five years is allowed after the mandatory two-year cooling-off period. Upon reelection, such person may serve as an independent director for another five consecutive years.

However, after serving for 10 years, a person is perpetually barred from serving as an independent director for such corporation, without prejudice to his being elected as such in other companies outside of the business  conglomerate.

In addition to preserving the objectivity and impartiality of independent directors, the perpetual ban aims to encourage corporations to appoint new persons to serve as independent directors, thereby allowing for the possibility of introducing new and innovative ideas for the company.

Conclusion

SEC MC No.9 is just another step taken by the SEC to nurture a culture of corporate governance in the Philippines. Of course, there are those who take issue with the new issuance. Some say it is overregulation, while others say it is a far cry from international best practices. There will also be questions that will arise in the enforcement of the new rule. But whatever our views and the questions are, it is an improvement to our current system and hopefully, it will help improve the corporate governance of our public companies.

(The author, formerly the president and CEO of the Philippine Stock Exchange, is now the co-managing partner and head of the Corporate and Special Projects Department of Accralaw. He may be contacted at [email protected].)