Strategy

5 Rules of Thumb for Subsidiary Governance: A Q&A With Deloitte's Dan Konigsburg


A lack of attention to subsidiary governance can mean big problems for parent companies.

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Expansion to a new country, risk protection, and large transactions are among the many reasons companies establish subsidiaries. But in today’s economic climate and as business rules become more complex, companies must take a closer look at their subsidiary governance or risk costly financial and reputational damage. FEI Daily spoke with Dan Konigsburg, managing director of Deloitte Global’s Center for Corporate Governance on the topic.

FEI Daily: What are the challenges for parent organizations when it comes to their subsidiaries?

Dan Konigsburg: Let’s start with complexity and transparency. For an extreme example: you may have a number of banks with hundreds of subsidiaries. If you’re a board member of a parent company or a CFO of a parent company, how do you know that your business controls are adequate throughout all of them?

Coming from a risk perspective, there are questions about how to properly cascade risk appetite and mitigation risks throughout the organization. That’s always a challenge.

Questions arise when you are not the only owner. It’s not always true that if you have a subsidiary that you own it or control it 100%. Most of the time there are other players. In some cases you may not have control at all.

FEI Daily: Why do organizations and boards need to focus on subsidiary governance?

 

Konigsburg: There are certainly legal concerns and if you look at the vast number of corporate governance problems over last decade, a good number originated at the subsidiary. From a risk perspective, from a retribution perspective, if you’re a director at the parent company, this concerns you. Things are not always transparent to the top-level parent company. There’s not a consensus on what to do. Everyone talks about corporate governance and people assume that it’s all one thing. The reality is that things are more complex than that. There’s no one-size-fits-all and not one single solution I’d recommend for everyone.

 

When it comes to subsidiary governance, cultural differences sometimes create a disconnect, particularly if the parent company is overseas. For example, one company we worked with in Asia, a company involved in transportation and logistics, was owned by an American parent company who didn’t have full insight or control into the company. For a long while the subsidiary would send the parent company minutes from their board meetings. And then all of a sudden those meeting minutes stopped coming. It turned out that an important piece of equipment caught fire and the subsidiary organization was so embarrassed by the situation – so concerned about losing ‘face,’ a key concept in Asia - that they stopped sending the minutes to their parent altogether.

FEI Daily: How should a parent company board balance their responsibility to the parent organization and the subsidiary? What about the subsidiary board?

Konigsburg: If you’re sitting on the parent board your responsibility is to that parent company. However, the subsidiary, to the extent that they’re controlled and consolidated, are a part of that, so balancing your relationship could mean several things. It could be mean being aware of the risks that are going on with the subsidiary, making sure that risks and details and strategy are bubbling up – going upwards but then also pushing it down. I think that one would be, in some cases, saying “How do we get the strategy that we’ve agreed on to be properly implemented further down?” With the understanding that it may not always be appropriate. Again, it’s not a one-size-fits-all sort of thing. Having that flexibility in thinking is important. Half the challenge is the transparency and actually getting the information to know what’s going on.

If you’re a director at a subsidiary, your fiduciary duty is not to the parent. And there can be conflicts. We hope that everything is aligned with the parents, and most of the time you don’t have to worry about strategies or risks that are different for the subsidiary, as opposed to the parent. Where they do differ, we recommend they raise that as soon as possible to the parent board and talk about it. That’s where a common director can help. You can’t do that if you have hundreds of subsidiaries, so the trick is to prioritize.

FEI Daily: How can boards prioritize their subsidiaries?

Konigsburg : There are a couple rules of thumb. First of all, if you have a subsidiary, is it 20 percent or more of your assets? You also might have a smaller subsidiary that is much more complex. Another is risk, it might be smaller but it is dealing in a type of business that is risky. Geography is another rule of thumb. If you’re operating in Moscow then perhaps that might require more attention than if you have something going on in France or Stockholm. The local reputation for ethics comes into play. The other rule of thumb is your own preference for tight control or loose control. Some companies are just much more consolidated. People may think they have one kind of preference, but can be far more top-down than they think. Where things can go off the rails is where there’s that disconnect between what you think you have in terms of controls and the reality.

FEI Daily: What are the steps organizations should be taking to better align the governance of parents and their subsidiaries?

Konigsburg : First and foremost, at the parent company board level, make it part of the board agenda. You’d be shocked how rarely that ever happens. Secondly: prioritize.  Which of the subsidiaries requires more attention? Use whatever rule of thumb you feel comfortable with.

Thirdly, consider appointing a chief governance officer. The board might ask for a single person in charge. A problem we see is companies that have opened subsidiaries over the years for transactions or mergers and then forget that they’re there and they’re never closed down. It was a subsidiary that was created for a purpose and that purpose is now no longer needed. So, having a chief governance officer looking over these things is not just good governance, it’s potentially money-saving too. Finally, consider having common directors and set expectations for how to do that.