Strengthening Governance in Market Infrastructure Institutions: Appointment and Cooling-Off Policies for Key Management Personnel in MIIs

Introduction

Market Infrastructure Institutions, such as the stock exchanges, clearing corporations, and depositories, are vital players in capital markets. In the guise of being profit-seeking organizations, these entities also contribute toward ensuring market integrity, compliance, and technological resilience; thus, they support goals in the public interest. For proper functioning and safety, critical managerial position holders of key management personnel must include at least some in the top structure overseeing the functions of compliance, risk, technology, and information security. SEBI recently realized the urgent need to address structural flaws and weaknesses in MIIs, including governance structures for their prioritization over concerns, at times over commercial interests in place for such companies. The consultation paper outlines the appointment process for these crucial KMPs: Chief Compliance Officer (CO), Chief Risk Officer (CRiO), Chief Technology Officer (CTO), and Chief Information Security Officer (CISO), among others. It further proposes cooling-off periods for KMPs and Directors before joining any other market infrastructure institutions.

Explanation of the Paper

Market Infrastructure Institutions (MIIs) such as stock exchanges, clearing corporations, and depositories form the backbone of India’s capital markets. They are expected to place critical functions such as compliance, risk management, technology, and information security above commercial interests. The consultation paper seeks to strengthen governance by ensuring the independence of KMPs that lead such critical verticals, including the Compliance Officer, Chief Risk Officer, Chief Technology Officer, and Chief Information Security Officer. It looks for reforms in their appointment process and suggests a cooling-off period for KMPs and directors before they join a competing MII to prevent conflicts of interest.

This paper can be broken down into two sections: A. Process for Appointment of Specific KMPs and B. Cooling-Off Period for KMPs and Directors.

A. Process for Appointment of Specific KMPs

Objective

The first proposal suggests that market infrastructure institutions be able to ensure that KMPs are qualified and independent in critical roles. Key positions, such as CO, CRiO, CTO, and CISO, are important for ensuring that MIIs can be effective in their core public mandates. This mandate entails ensuring technological resilience, market integrity, and compliance. All these are more important than short-term commercial objectives. The proposal stresses that these KMPs should be free from any commercial pressures, especially from Vertical 3, which entails business development.

Background

Market Infrastructure Institutions form part of the critical infrastructures of capital markets, where trading, clearing, settlement, and record-keeping services of securities are made available. They operate in a regulatory framework that endows them with the ability to regulate their members, namely, listed corporations and trading members. The regulations (Securities Contracts (Regulation) (Stock Exchanges and Clearing Corporations) Regulations, 2018) insist that the operations, compliance, risk management, and investor grievances (Verticals 1 and 2) be given more prominence over business development (Vertical 3). These are organizations governed by a Board in which Public Interest Directors are a majority, ensuring that public interest is given precedence.

Currently, the appointment of KMPs such as the CO, CRiO, CTO, and CISO falls under the mandate of the Nomination and Remuneration Committee of the MII. This was partly addressed by recent observations. Compensations of MD to KMPs operating head for Verticals 1 and 2 stand distinctly low. The said position demands proper stature as well as independence, wherein those operating heads are primarily required to maintain compliance standards while managing risks and developing proper technological infrastructure at market infrastructure institutions.

Proposal for Appointment Process

The proposal ensures that the appointments of KMPs in Vertical 1 and 2 are made clearly and independently. For this reason:

1. External Agency for Candidate Selection: The MII will contract an external agency that would source a list of qualified candidates suitable for appointment as CO, CRiO, CTO, and CISO. The recommendations would then be forwarded to the NRC of the MII.

2. NRC Evaluation: The NRC will assess the agency’s recommendations and make comments about the suitability and independence of candidates, which will be made to both the Governing Board of the MII and SEBI.

3. Review: SEBI will make a comment on the recommendation by the NRC. Any comments should be received in a time-bound manner. In case no comment is received within the given timeframe, it will be deemed that SEBI has no comments.

4. Final Decision by Governing Board: On receipt of comments from SEBI, if any, the Governing Board shall take the final decision on appointment.

In cases of reappointment and terminations, the NRC shall conduct an evaluation as above and submit its recommendations to the Governing Board and SEBI. Based on these recommendations, SEBI shall give its response and the Governing Board shall take the final decision.

This process assures an independent and transparent choice of KMPs in critical positions, reinforcing their ability to conduct their duties free from undue commercial influence.

B. Cooling-Off Period for KMPs and Directors

Objective

The second proposal seeks to establish a uniform regulatory treatment for KMPs and directors of Market Infrastructure Institutions, specifically regarding the cooling-off period before they can join a competing MII. The cooling-off period aims to prevent conflicts of interest and ensure that sensitive information obtained during their tenure at one MII does not unfairly benefit another competing institution.

Background

Under the current regulatory framework, there is no mandatory cooling-off period for MDs or KMPs in Market Infrastructure Institutions. However, Public Interest Directors (PIDs) are subject to a cooling-off period, as defined in Regulation 24(3) of the SECC Regulations, 2018. According to the regulation, PIDs must wait for one year after their term ends before they can join another competing MII, such as a stock exchange, clearing corporation, or depository.

While cooling-off periods are mandated for PIDs, no such provision exists for MDs or other KMPs. Market Infrastructure Institutions themselves typically include cooling-off clauses in the employment contracts of their MDs and KMPs. A previous Expert Working Group (EWG) reviewed the necessity of a cooling-off period for MDs and KMPs and decided against implementing a regulatory mandate, leaving it to the individual Market Infrastructure Institutions to decide. However, the current situation creates a regulatory gap, as PIDs have a defined cooling-off period while MDs and KMPs do not.

In order to fill this gap and ensure that regulatory treatment is consistent, it is proposed that Market Infrastructure Institutions implement a cooling-off policy that would apply uniformly to MDs, KMPs, and directors. Such a policy will be adopted by the Governing Board of each MII and would contain the minimum cooling-off period required before any KMP or director can join a competing MII.

The proposal points out the following:

1. Governing Board empowerment: The governing board of any MII will be empowered to decide on the cooling off period policy for its key managerial persons and directors so that they may join the competing MII.

2. SEBI’s role: SEBI will not prescribe a particular cooling off period for any PIDs joining another MII. The cooling off period for all key managerial persons and directors will be treated at the MII level, according to its policy.

3.Meaning of Competing MII: For the intents and purposes of this proposal, a “competing MII” shall mean transfer from one stock exchange to another, from one clearing corporation to another, or from one depository to another. This cooling-off period would prevent the KMP or director from making a quick transfer to a competitor and availing himself of proprietary information for his advantage.

Conclusion

In summary, the consultation paper presents key reforms that would consolidate the governance framework of Market Infrastructure Institutions (MIIs). Ensuring the independence and integrity of Key Management Personnel (KMPs), especially in critical roles such as the Compliance Officer, Chief Risk Officer, Chief Technology Officer, and Chief Information Security Officer, would help MIIs better implement their public interest mandates, such as market integrity, technological resilience, and regulatory compliance. Proposals regarding the appointment process would ensure transparency, prevent commercial interests from penetrating at the level of the appointments to key roles, and establish a uniform cooling-off period for KMPs and directors before moving into competing Market Infrastructure Institutions, giving protection against conflicts of interest through the handling of sensitive information. These proposals aim to enhance the long-term stability and credibility of Market Infrastructure Institutions, fostering a more robust capital market infrastructure in India.

King Stubb & Kasiva,
Advocates & Attorneys

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