Much has been written recently on the subject of boardroom effectiveness and diversity around the world. We provide a summary of the key points and examine creative ways to improve the effectiveness of company boards.
Regulators across the world have been conducting reviews and passing additional legislation over the past few years to reduce the potential for accounting manipulation and fraudulent behaviour by financial institutions and companies. Whilst certain penalties will reduce unacceptable behaviour, the nature of business is in taking calculated risks. Therefore it is essential that good practice takes precedence over a culture of over-regulation and mere box-ticking. Companies will often find ingenious methods to circumvent rigid rules to their advantage.
Good practice therefore implies a set of prescribed principles to which companies adhere. The quality and intensity of debate at board meetings must be enhanced and this is where a diverse set of independent directors must be more prominent. They should not rely exclusively on the information provided by the company and its advisors, but must look to independent advice to enhance the quality of questioning of the executive team, particularly during a major strategic or financing event.
We no longer require a board full of “Yes men”, but a board of individuals that will take a unified decision following intense discussion and debate. Saying “No” when appropriate will be healthy and may also lead to improved decision making.
What makes a non-executive director effective?
There are three key functions of a non-executive director. Firstly, to provide guidance and strategic input to the management team using their experience and network, secondly to ensure that there are the systems in place to monitor the performance of the team and thirdly to strengthen the executive team in a timely manner.
In order to add value to the companies with which they are associated, non-executive directors must above all uphold the highest ethical standards of integrity and promote the best standards of corporate governance. They must support the executive directors in the execution of the agreed strategy of the business whilst monitoring their performance and remuneration on behalf of the outside shareholders. This is a critical role and a fine balance is required in order to maintain an open relationship between executive and non-executive directors.
Non-executive directors are typically appointed for their commercial experience in a given sector. Their main role must be to question intelligently and therefore to add substance to the boardroom debate. However, whilst being sensitive to the views of the other board members, they must challenge rigorously.
Finally, the non-executive director must gain the trust of fellow board members in order to be viewed as a key team player.
UK Corporate Governance
Since 1992 when the UK Corporate governance Code was introduced there have been several key developments to the Code. The report by the Higgs Committee in the UK on the effectiveness of non-executive directors was published was a key development in 2003-2006. Since then there have been important updates to the Code.
In order to avoid a rigid one-fits all system, Higgs proposed a “comply or explain” approach to governance. For such a system to be widely accepted in the business community, there has to be general compliance with the principles of the Corporate Governance Code and limited deviations. In particular, smaller companies with more limited resources have voiced concerns on the potential rigidity of the new proposals such as the limits on the years a non-executive director can serve one company. A box-ticking approach to corporate governance needs to be avoided, or else methods will be devised to circumvent the rules and regulations.
The appointment of a senior non-executive director with access to institutional investors has been accepted and in most cases has provided assistance to the chairman and the CEO of the Company, particularly when the Board is going through periods of stress. Providing shareholders with an additional channel of communication, especially when there are contentious issues, has been a healthy development.
The non-executive or independent directors typically constitute the majority of directors. The main issue relates to the cost and time involved in appointing the appropriate non-executives, particularly for the smaller companies. Clearly increasing the pool of quality non-executive directors with the necessary experience and training for their role is key and this should be supplemented by independent advice, particularly at times of major strategic change.
A key factor in the UK has been the separation of Chairman and Chief Executive of a Company. This has been successful in the majority of cases to create checks and balances for the Board. This is often a key difference between UK and US public companies. Diversity in the composition of a Board is a key factor in improving boardroom effectiveness by providing a variety of views and ensuring that “Group Think” is avoided. Increasing the number of women on boards has clearly added diversity as well as value.
Clearly the vast majority of companies are well managed and comply with the high standards required of the governing bodies and regulations across both sides of the Atlantic. Financial crises will continue to occur throughout the life cycle of a Company but an effective board can provide the structure to challenge the management before certain strategic decisions are taken.
A diverse group of Non-executive directors need to continue to play an influential role. They need to enhance the level of discussion and debate in the boardroom and on the board committees to pose the appropriate questions. They need to be supported by the company, but also by appropriate training and independent advice. Once this more rigorous debate has been completed, then a unified board can follow the agreed strategy. We no longer need “Yes men”, but non-executives that will be willing in certain circumstances to say “No”.
The views expressed in this newsletter are those of DC Dwek Corporate Finance Limited and are provided for information purposes only.