Promoting Good

Internal Governance
Tips for Sovereign Actors

Sovereigns Series: Worlds in Motion

Introduction
Sovereign actors, such as sovereign wealth funds (“SWFs”) and
national development banks (“NDBs”), are an increasing presence
in the global financial landscape. These actors are responsible for
managing a significant amount of assets and making investment
and lending decisions using money generated and/or received
by governments. It is therefore essential for sovereigns to be the
model of good governance and sound investment strategy.

What constitutes good governance for sovereign actors will

depend on a number of factors, including any regulations in
the countries in which they operate, the investment policy and
risk profile. There is no “one-size-fits-all” approach to good
governance - it is a journey of continuous improvement to meet
and shape the context in which the SWF or NDB operates, as well
as the associated opportunities and responsibilities that are placed
upon it, both internally and externally.

External governance is important to ensuring that the SWFs

and NDBs are making sound investment and lending decisions,
and preserving (or improving) the value of the assets. However,
while not as visible, internal governance is just as important to
ensuring the sovereign can manage their investment risk, attract
appropriate funding partnerships and respond to increasing
public scrutiny. When internal governance fails, the results can
be catastrophic and very public, and will likely have significant
financial and reputational consequences.

In this article, we explore what constitutes good internal

governance for sovereign actors (with a focus on SWFs and
NDBs). We also look at the key areas of risk, particularly given
the urgency of some investments and lending arising out of
the pandemic, and best practices for having proper internal
governance in place as an integral part of managing risk.

Promoting Good Internal Governance – Tips for Sovereign Actors 2

What constitutes “good governance” for sovereign actors?
Sovereign actors need to abide by the laws and regulations Corporate Governance Development
of the land in which they are operating or investing. There
Framework
are some jurisdictions which provide guidance on what steps
are required to ensure good governance. To complement this,  The Corporate Governance Development Framework
sovereign actors have been proactive in putting together (“Framework”) was the result of extensive
frameworks to improve and ensure good governance. Such collaboration amongst members of the Development
examples include for SWFs the Santiago Principles and for Finance Institutions’ Corporate Governance Working
NDBs, the Corporate Governance Development Framework: Group, which consists of representatives of several
international finance institutions.2 The signatories of
the Framework are working together to improve the
Santiago Principles
governance of the companies they work with.
 The International Working Group of SWFs (the precursor
 The Framework includes requirements to: (i) ensure
to the International Forum of Sovereign Wealth Funds) in
internal responsibility by identifying and assigning
discussion with other international financial institutions
an internal function that is responsible for the
created the Santiago Principles, a series of generally
implementation of the Framework; and (ii) provide
accepted principles and practices (“GAPP”) designed to
or procure training to build capacity and knowledge
establish objectives and best practices for SWFs.1 One of
transfer to staff for the implementation and further
their four stated objectives is to ensure that SWFs have in
development of the Framework.
place a transparent and sound governance structure that
provides adequate operational controls, risk management  The Framework espouses a methodology which requires
and accountability. the company’s internal control system, internal audit
 Principle 22 of GAPP states that the SWF should have a function, risk management system (including an
environmental and social management system), and
framework that identifies, assesses, and manages the
compliance function to be sufficient to ensure sound
risks of its operations. These include two subprinciples:
stewardship of the company’s assets, effectiveness of
 The risk management framework should include operations, accuracy in reporting, and compliance with
reliable information and timely reporting policies, procedures, laws, and regulations.3
systems, which should enable the adequate
The Santiago Principles and the Framework are not
monitoring and management of relevant risks
mandatory. It is for the relevant SWF and NDB to
within acceptable parameters and levels, control
confirm that they will endorse and follow these
and incentive mechanisms, codes of conduct,
principles. However, the recent exponential growth in
business continuity planning, and an independent
environmental, social and governance (“ESG”) value and
audit function.
recognition has brought increased pressure on financial
 The general approach to the SWF’s risk management institutions from regulators, investors, employees and
framework should be publicly disclosed. consumers, to adopt and enforce proper governance.
Now, a failure in proper governance can have a material
impact on the sovereign actor’s reputation as well as its
bottom line.

1 https://www.ifswf.org/sites/default/files/santiagoprinciples_0_0.pdf
2 https://cgdevelopmentframework.com
3 https://www.ifc.org/wps/wcm/connect/topics_ext_content/ifc_external_corporate_site/ifc+cg/investment+services/corporate+governance+methodology

Promoting Good Internal Governance – Tips for Sovereign Actors 3

What does good internal governance look like in practice?
The above principles highlight the need for proper controls It is clear that a strong ethical culture and adequate
and processes, but they do not provide a guidebook for controls and processes are at the heart of good governance.
what this looks like in practice. Again, there is no “one- Effective internal governance can be broadly distilled
size-fits-all” list of requirements to ensure good internal into five essential elements: leadership, risk assessment,
governance – it will be up to the SWF or NDB to design standards and controls, training and communication, and
and implement. monitoring and response.

Successful governance must consist not only of well-articulated internal policies and
procedures, but must also be built on a solid foundation of ethics endorsed by the board.
Leadership There must be investment and accountability – the people responsible for ensuring
internal governance must be provided adequate authority and resources, and have the
ear of those ultimately responsible for corporate conduct, including the board.

An awareness of the nature and extent of risks associated with who, where and how
the SWF and NDB does business is a critical first step in implementing adequate internal
Risk assessment governance. Enforcement authorities now expect parties to have formal processes for
assessing the risks to which they are exposed. Without such a process it is difficult to
credibly claim to have a robust and risk-based program.

Authorities are looking for clear evidence that an organization's governance is more than
Standard & words on paper. Parties should not only have detailed written policies, but also clear
Controls procedures and protocols for ensuring those policies are implemented.

Authorities place a great deal of emphasis on ensuring that training programs are
reaching key employees and will look closely at who the entity trains, how the training
Training & was conducted and how often training occurs. The way in which the party communicates
Communications the importance of good governance, and its expectations both internally and externally,
will also be an important consideration.

Three essential activities – monitoring, auditing and responding – are how enforcement
authorities expect parties to maintain continuous oversight of their internal governance
Monitoring, programs. In addition to establishing a monitoring system to identify problems and address
Auditing & them promptly, it is also critical that managers in each country of operation report on
Response governance issues, establish protocols and conduct credible investigations with appropriate
disciplinary consequences for infractions.

Promoting Good Internal Governance – Tips for Sovereign Actors 4

Key areas of focus for SWFs and NDBs
Implementing a good governance program will require an  Review the existing set of policies and procedures,

assessment of the specific risks and profile of the relevant particularly in relation to corporate governance,
sovereign actor. Although each one of the above elements anti-corruption and money laundering. The program
will need to be addressed, there are certain areas which should adequately cover the risks faced by the SWF
should be of particular focus for SWFs and NDBs. or NDB, and should include a robust procedure (e.g.,
effective whistleblowing program and internal reporting
mechanism) for escalating issues to top or senior level
Good governance starts with the tone
management. We have seen ineffective whistleblowing
from the top programs in many jurisdictions where local language is
Unfortunately, governance failures often stem from a poor a must or where reports are directed to someone within
“tone at the top” or lack of attention and resources from the whistle-blower’s reporting line or to legal counsel. If
management. Top-level management should be heavily the whistle-blower is concerned with retaliation, or does
involved in espousing, implementing and enforcing good not feel comfortable reporting, it is unlikely that the
internal governance, and the ultimate responsibility for whistle-blower will make the report.
effective governance should lie with them. For example, the  Address any gaps in the program. The current
Framework requires an internal function to be responsible
environment may give rise to additional anti-corruption
for the implementation of the Framework. Having an
or money laundering risks that need to be addressed.
adequately resourced function is important, but that
For example, are the due diligence / background check
function needs to report to and be supported by senior
procedures effective to deal with risks associated
management.
with engaging new or unfamiliar third parties or in
high-risk jurisdictions (e.g., KYC procedures, managing
SWFs and NDBs must implement interactions between agents and third parties)? Our
effective standards and controls experience in assessing these procedures is that many
are scoped incorrectly or the red flags are not followed
Most funds and institutions will have in place written up with appropriate action.
policies and procedures, to address certain high-risk areas
such as bribery and corruption, money laundering and
other financial misconduct. However, written policies and
Make sure to monitor and investigate
procedures without proper controls will be ineffective for compliance
implementing good internal governance.
Investigations are an essential tool to ensure that a party is
 Review high-risk transactions and irregularities. “walking the talk” in relation to its governance procedures.
There are certain areas that carry a higher degree It is not enough to introduce controls and processes and
of risk when dealing with financial investments or expect they will be adhered to, or to just fix the problem
lending. Financial institutions in particular need to without first investigating what actually happened, how the
be aware of these areas and take steps to actively misconduct occurred, who was involved and how can it be
monitor them, and a requirement for audit appears prevented in the future. Regulators, financiers, stakeholders,
in both the Framework and the Santiago Principles. employees and investors all expect the entity – its board
In order to ensure this function works, SWFs and and management – to conduct an independent and robust
NDBs should implement governance procedures investigation and undertake appropriate remediation. A
which hold responsible personnel accountable to number of multilateral development banks have jointly
review transactions and records in a manner that is endorsed common principles and guidelines for investigating
commensurate to the risk. potential issues, highlighting the importance of independent
and effective investigations to good and ethical governance.

Promoting Good Internal Governance – Tips for Sovereign Actors 5

Contacts

Hong Kong London

Mini vandePol Joanna Ludlam

Partner Partner
+852 2846 2562 +44 20 7919 1822
[email protected] [email protected]

Christine Cuthbert Yindi Gesinde

Special Counsel Partner
+852 2846 1814 +44 20 7919 1057
[email protected] [email protected]

New York China

William Devaney Vivian Wu
Partner Partner
+1 212 626 4337 +86 10 6535 3860
[email protected] [email protected]

Promoting Good Internal Governance – Tips for Sovereign Actors 6

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