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Jun 25, 2014

Thinking through governance of foreign susbsidiaries

Increasing regulations and risks provide an impetus for companies to better plan exit strategies and delegations of authority when forming foreign entities

Managing the corporate veil, which entails ensuring that an international corporation’s foreign subsidiaries don’t become indistinguishable from the parent company, is a central concern in the formation of foreign subsidiaries, including limited liability corporations and joint ventures. In setting up the governance of foreign entities, companies need to make sure the parent company won’t be on the hook for any unpaid debt should the foreign entity fail or be disbanded.  

‘One of the easiest things is keeping corporate records independent even if you’re having joint meetings’ between the parent company and a foreign subsidiary,’ Cynthia Krus, partner at Sutherland Asbill & Brennan, said during a panel discussion on subsidiary governance and risk management at the Society of Corporate Secretaries and Governance Professionals’ national conference held in Boston June 25-28.

The focus when managing a foreign subsidiary should be on process, with the company’s legal, compliance and governance teams documenting what they do and how they enforce policies that have been put in place to protect the company, said Eric van Aalst, president of Citco Corporate Services.

The  governance of foreign subsidiaries has become much more complicated amid a flurry of new regulations and increased risks in recent years. Companies are wrestling with how to comply with the Financial Conduct Authority in the UK, the Foreign Accounting Tax Compliance Act in the US, which the Internal Revenue Service is using to pursue cases of alleged tax evasion, and a new requirement that any US company with a financial interest or signature authority over a foreign account exceeding $10,000 at any point during the year must file electronically a Financial Crimes Enforcement Network (FinCEN) Form 114, also known as a Report of Foreign Bank and Financial Accounts (FBAR), with the IRS.

And with US financial sanctions being enforced against Russia in the wake of its annexation of the Ukraine's Crimea region, companies need to stay on top of new developments in Russia when negotiating credit agreements for businesses there since sanctions laws are raising serious issues for credit facilities, said Stephanie Miller, senior counsel for securities and governance at pharmaceuticals manufacturer Baxter International.

Equally critical in the planning stage of a foreign entity is to think through your exit strategy, getting input and cooperation from all relevant departments within the company, which often requires breaking down the silos that may exist between departments, said Krus. When planning joint ventures, a company needs to plan for the eventual exit of a partner and figure out who will manage the entity’s corporate records, who will serve as the corporate secretary, what the board’s composition should be and who has signatory authority for the joint venture, said Liz Campbell, a corporate governance specialist at LyondellBasell Industries, who served as moderator for the panel. She also recommended that these considerations be tied into training for directors and officers of a new foreign entity.

Krus suggested that companies build specific business demands into contracts because often a company operating an entity in a foreign country doesn’t have the benefit of case law to support those demands.

Other considerations when forming foreign entities include being aware of residence requirements for directors and officers and potentially significant immigration, tax, liability and employment issues, Miller said.

Under the Foreign Corrupt Practices Act, delegations of authority are under closer scrutiny, so companies should maintain a database of powers of attorney and track them, van Aalst suggested. ‘We have a trigger in our system to see expirations and renewals,’ Campbell added.

For companies that are short on resources and unable to afford sending a compliance or governance officer to check up on a foreign entity, Campbell recommends making better use of your internal audit team by giving them a governance/compliance checklist to go through on their on-site visits.

To be prepared for intercompany transfers, Miller said she attends her company’s global capital structure meetings in order to get insight into tax planning for such transfers ‘so I can get my staff ready or what they will need to know.’ While figuring out how to separate entities, the governance team should try to get more visibility into the complex web of intersecting relationships among entities within the company and should try to clear them up as they can become an impediment to future transactions such as mergers and acquisitions, Miller said.         

David Bogoslaw

Associate Editor and Online features producer for Corporate Secretary