Why Digital Banking needs to get the governance framework right

Governance refers to the system by which an organisation is controlled and operates, and the mechanisms by which it, and its people, are held to account. Ethics, risk management, compliance and administration are all elements of governance. 

Governance is a key determinant of success in managing whether it is corporate, banks, financial institutions, risk management or in digital transformation. It is also needed to review and enhance digital governance within an organisation. 

The base of the company's growth has changed, from tangible assets to intangible assets. Many companies recognise the importance of Intellectual Capital as performance drivers. 

The implementation of digital banking has significant implications for Intellectual Capital performance as it is still in the development phase. Family ownership, foreign ownership, government ownership, and the interaction between corporate governance and ownership structure should be taken in the review to the effect on Intellectual Capital performance. 

The most advanced economic growth in the recent years is knowledge-based economics. Different study suggests that knowledge becomes an important element of economic resources and a source of competitive advantage. With the changes, the base of the companies' growth also changes; from tangible assets to intangible assets there may be argument that the emergence of a knowledge-based economy basically driven by intangible assets has increased interest in Intellectual Capital. 

Structurally, Intellectual Capital is the possession of knowledge and experience, professional knowledge and skills, good relationships, and technological capacity, which can provide a competitive advantage for the company. Thus, Intellectual Capital is the most important intangible asset for companies in creating value, replacing machinery and natural resources. 

Nowadays, many companies recognise the importance of Intellectual capital as performance drivers. Intellectual capital is important for decision making within the company and for its external interests.

Cross-border competition is forcing the banking industry to achieve sustainable financial performance. The banking industry is a knowledge-intensive industry with technological innovation and high customer interaction. 

Thus, it is important for banks to invest in the development of intellectual potential for sustainable competitive advantage. The factors affecting Intellectual Capital performance in the context of Bangladesh needed more studies to examine the effect of corporate governance and ownership structure and family ownership. 

In this digital era, the banking industry relies on digital banking in attracting customers. Therefore, digital banking has become the key to achieve competitive advantage. 

Over the past few years the growth of information and communication technology in Bangladeshi banking industry is accelerating. The banking industry implements technology to achieve competitive advantage through a larger customer base and personalised banking services for reduced operational costs. Consistent with resources-based theory, the company's resources can be a key driver in the performance and competitiveness of enterprises.

It is evident that the increase in online banking positively affects financial performance. However, a detailed study is needed to understand how much of the customers in Bangladesh prefer electronic banking transactions than traditional one. 

Corporate governance is a concept based on agency theory in the hope of being a tool to convince investors that they will get a return on their investment. Weak corporate governance can lead to an inability to create and maintain Intellectual Capital. So corporate governance has the responsibility to formulate strategic plans, engage in important decisions, monitor management and be responsible for Intellectual Capital investments. A rigorous study with samples of banks registered in Bangladesh is also  needed.

Theoretically, it is expected that the higher the family ownership, the Intellectual Capital performance will decrease. It also needs further study in respect of Bangladesh. 

Over the past few years, some banks in Bangladesh and many Asian developing countries have opened the banking system to foreign competition. Companies with foreign ownership change their strategy with new perspectives and ideas to improve company performance. 

Based on the institutional theory, with an ambiguous goal or inadequate understanding of information technology, companies will imitate foreigners or are called mimetic pressure. It is evident that in most of the cases the foreign ownership positively affects Intellectual Capital development and the foreign ownership positively affects voluntary disclosure which the investors and shareholders most desire.

The banking industry is a knowledge-intensive industry with technological innovation and high customer interaction. Photo: Bloomberg

Thus, it is needed to look at the effect of the implementation of digital banking, corporate governance, family ownership, foreign ownership, and on Intellectual Capital. At the same time, it is also needed to look at the effect of interaction between corporate governance and ownership structure on the Intellectual capital performance. So it is also needed to know the controlled variables and uncontrolled variables.

The implementation of digital banking still requires time to have a positive effect on Intellectual capital performance. This implies that corporate governance in banking would have to play an important role in improving Intellectual Capital performance. 

Building with corporate governance from the ground up of digital banking 

The pandemic has changed consumers' digital behaviour and forced customers, who once resisted online banking, to adopt digital banking apps as their new reality. 

These behavioural changes have accelerated pushing for digital-first banking while prioritising a strategy to de risk and encourage innovation. From their inception, this firmly shines a spotlight on the importance of Corporate Governance in digital banks. 

Digital banks need to get the governance framework right from the start. A strong governance team will build the right foundation for establishing a digital bank that ensures key regulatory obligations and risk management frameworks are fully understood and robust set-ups are in place. 

Risk management, cyber security and compliance will be a major focus, levelling the playing field between potential digital banks and the incumbents. Analytics in risk management will be essential in the data-driven environment, and inevitably cyber security will be a critical risk area in digital banks because of the rise in the rate of cybercrimes in the banking sector.

From a risk management perspective, risk management has evolved over the years and many are leveraging the latest technology to protect their data and customer base while reducing friction. Digital banks must adopt zero-trust infrastructure and ensure multi-level security procedures are in place. Managing risk on the second line across InfoSec and cyber security will have even greater importance.

From a compliance perspective, finding the balance between regulations and technological innovations will be vital in sustaining growth in the industry. The key regulatory pillars and obligations in establishing a digital bank would be no different from that of a traditional bank. 

Functions like ethics, conduct, product compliance, AML, transaction monitoring and fraud risk/operations management are the essentials. Digital banks need to adapt to the evolving landscape and adopt modern electronic Know Your Customer (eKYC), anti-money laundering (AML) and identity verification technologies. The adoption of such solutions will not only allow them to respond to the new risks arising from digital solutions, such as online identity fraud and account takeovers but will also allow them to meet customers' demands for a seamless onboarding experience. 

Additionally, the need to adopt smart and efficient eKYC solutions is even more critical for Digital Banks which operate solely digitally. As well as it is needed to focus on the value proposition and business model, in particular, post-Covid-19 impacting the macroeconomics and business conditions.

It is needed to tighten regulatory requirements with a severe impact of non-compliance, which puts the work of the control functions in the spotlight. Conservative mindsets are slowing down the digital transformation and the enhancement of the digital capabilities at a point where time-to-market is crucial. 

Additionally, enhanced offering with new client touch points makes cyber-attacks more attractive and puts a risk challenge to the planned expansion of digital capabilities and their reach. Traditional project delivery models are not addressing these new challenges adequately. A new governance model, partly adopted by the industry leaders, on how to manage compliance and risk aspects on the digital transformation journey so far needed to frame up. 

Tightening regulatory requirements with severe impact of non-compliance analysis, enhanced offering with additional client touch points makes cyber-attacks more attractive, traditional project delivery is not addressing the new challenges adequately, the traditional engagement model visualisation is needed to be reviewed further. 

While this change in mindset is, in general, a positive development since it shows that engagement with legal, compliance and risk has finally should be given the more importance it deserves, so far it is not well supported by existing team structures and governances. 

As of the winning model, a dedicated SME team combining legal, regulatory and risk knowledge with digital domain expertise Agile project execution leading to multiple and shorter deliveries and timelines require fast clarification with legal, compliance and risk.  To achieve this, project teams must be well prepared, only presenting relevant aspects with the right level of detail. 

Subsequently, the control functions should quickly understand the capability or issue discussed and maps it against the relevant laws, regulations, or internal policies and guidelines in order to give guidance.

We have also experienced the downsides of the traditional model where silos of pure legal or compliance expertise on the one hand and pure digital domain expertise on the other hand make solution finding and decision making a tedious, long-winded process which sometimes has to be undertaken multiple times, given the high talent churn rate in the industry. It is fortunate that the regulators of Bangladesh concerned are very optimistic to the compliance concerned and expertise also has been developing knowledge and experiencing too. 

To the digital transformation journey now is time to speak and to review whether the digital transformation governance or whether it is needed how to bridge the gap between legal, compliance, risk and digital transformation domain. So far it is needed deep expertise in defining and implementing digital transformation strategies with international standard in the local institutions of Bangladesh.

Corporate governance in future might encourage wild speculation in this period of great, some would say, epochal change. Some might see the demise of the corporation; others, the emergence of new organisations with intelligent robots playing the role of boards. And so on and so forth. 

One sees that the changes in corporate governance have been relatively limited. Only in the banking sector have there been any truly significant changes. These were not the result of a huge technological disruption but of a crisis: the most common reason to change corporate governance expectations, regulation and practice. 

One should therefore expect limited change. But change there will be, and it will be mainly driven by four key drivers: diversity, disclosure, data and Development Financial Institutions (DFIs).

Md Kafi Khan is the company secretary of City Bank Limited

Disclaimer: The views and opinions expressed in this article are those of the authors and do not necessarily reflect the opinions and views of The Business Standard.