By Peter White – Peter.White@EthicalBoardroom.com
The board is intended to be responsible to the stakeholders of a company and govern management in shareholders’ interests. However, in many instances, the board has become more aligned with the interest of the chief executive officer (CEO), who can often also act as the chairman of the board. Corporate scandals, such as those at Enron and WorldCom have thrown a spotlight on to the role of the board of directors. Boards are increasingly coming under question both from regulators and other interested business parties. Further to this over the last five years, following the 2007 banking crisis, the scrutiny in this area has increased significantly and the activities of the board and its committees have been under more stringent focus. The composition, assessment and evaluation of a board and the board performance are key components of corporate governance. The board of directors must always act in investors’ best interests. Historically, experience has shown that a successful board is not a foregone conclusion of combining a group of successful and competent people – measures must be put in place to assess and evaluate performance so that the best interests of the company investors is kept at a top priority. Company boards, and associated committees, can benefit immensely from frequent and periodic evaluations. One particularly successful example can be using subsidiary boards as training grounds for listed company boards – developing and investing in good governance practices at subsidiary level can pay excellent returns later on. A properly conducted evaluation can bring a variety of benefits and can contribute significantly to performance improvements on all levels of the company structure – in the boardroom, within and between organisational teams and at an individual level.
The primary goal of board assessment is to enable boards to purposefully identify and surmount the barriers that impede their effectiveness in stewarding a company. Establishing an effective process for board evaluation sends a positive signal to the organisation that board members are committed to doing their best and creates a cultural attitude of improvement throughout the company.
Evaluation of the objectivity and effectiveness of a board can be highly beneficial to improving board room actions and decision making. A number of factors need to be considered and a number of policies put in place. One policy is concerned with disclosure. Companies must disclose any transactions with executives and directors in a financial note entitled “Related Transactions.” This discloses actions or relationships that cause conflicts of interest, such as doing business with a director’s company or having relatives of the CEO receiving professional fees from the company. Evaluating this type of activity periodically can mean that damaging conflicts of interest can be identified and removed. Another consideration is the size of the board. A large number of members to a board can represent a challenge in terms individual board members not being truly effective and or having meaningful individual participation. Independence is a key factor when assessing a board. Two critical board committees must be made up of independent members: the compensation committee and the audit committee. The number and independence of board members and composition should be assessed frequently – with particular attention in audit and compensation committees as these are very sensitive and risk prone areas to the company. Any problems and conflicts need to identified and mitigated before they snow ball out of control. Independence is vital. Members serving on a number of other boards may not devote adequate time to their responsibilities and this should be monitored as part of board assessment. A key attribute of an effective board is that it contains a number of independent outsiders. Having a number of outsiders as board members can be beneficial for independence and objectivity. A board with a majority of insiders can lose objectivity and this should be assessed to improve effectiveness.
A further point of assessment should be the number of boards and committees that a board member is on when judging the effectiveness of a member.
Typically, disclosures made about a company’s board of directors as indicated in the annual report can provide information and clues as to the level of quality of a company’s governance as reflected in the board composition and responsibilities. The composition and performance of a board should be assessed to prioritise their responsibilities to a company’s shareholders. A board loses credibility if its objectivity and independence are compromised and investors will be poorly served by substandard governance practices.