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This blog is intended to be a governance resource and source of current governance commentary, offered by a corporate governance academic engaged in research, teaching and other ongoing academic activities. There is a very public element to the governance field, and it is hoped that this blog will contribute to the public discussion of current governance issues. It is also hoped that it will address a need in the governance field by presenting a holistic online approach to the topic. There is a rapid rate of change in the field of governance (public, private, government and not-for-profit entities) and developments in internet technology move swiftly. This governance gateway offers resources for a broad variety of stakeholders including: [...more]

SNC Lavalin and RBC in the News

Apr 4

Posted in Ethical Leadership, Citizenship and Integrity, Risk Governance and Combined Assurance | Comments Off on SNC Lavalin and RBC in the News |

If the CEO of SNC Lavalin allegedly over-rode his own CFO and breached the company’s code of ethics in authorizing $56 million of questionable payments to undisclosed agents that the federal Canadian police are now investigating, did the board of directors of SNC Lavlin have a role to play?

If the RBC (formerly Royal Bank of Canada) is alleged by a US regulator to have made “material false statements” in connection with non-arms length trades, reported in the Wall Street Journal to be “a scheme of massive proportion,” did the board of directors of RBC have a role to play?

The answer is “it depends” in these and similar cases. Speaking generally, as all allegations have yet to be proven, it is not credible to argue that boards do not have a role to play in compliance and reputational oversight. A board is the only body that has the legal authority and power to control management and designate all compliance and control systems. It alone acts or fails to act. A board is paid, handsomely paid at the senior most levels in Canada, to take all reasonable steps consistent with best practices, to ensure that it does know.

More regulation now, such as the UK Bribery Act, and the SEC Whistle-Blower Rule, are attempting to hold directors responsible and accountable for failing to direct proper anti-corruption and whistleblowing systems. The SEC rule enables employees to report wrongdoing directly to the regulator, thereby completely bypassing toxic work cultures where whistleblowing is neither independent nor anonymous. This legislation is putting the heat on boards and senior management, or at least it should be.

The Ontario Securities Commission last month released a scathing report about governance, risk management, internal control and auditing failures in companies operating in emerging markets.

In SNC Lavalin’s case, how could anomalous payments of this magnitude and internal controls be allegedly manually over-ridden, as is being reported, and would payments of this nature require explicit board or committee approval? SNC’s own internal report reveals a lack of disclosure of contracting parties and improper documentation and passwords. The board chair, Gwyn Morgan, said that the board wasn’t “able to really determine the use of those payments.” Back in 2010, federal minister Stockwell Day had signaled that certain aspects of SNC’s pricing were “absolutely unacceptable.”

The former CEO, Pierre Duhaime, is receiving almost $5 million dollars. A portion of this is stock options awarded before an independent review was completed, as is reported in the press. Basel includes (at page 38 of this report) a malus scheme whereby vesting occurs only if there is no breach of the code of conduct. Boards may wish to consider comprehensive – and independently drafted – malus or clawback clauses that include similar provisions.

It may be highly unlikely for fraud, bribery or ethical breaches to occur in a vacuum. Employees may have knowledge. The 2011 National Business Ethics Survey reveals that those who reported bad behavior they saw reached a record high of 65% and retaliation against employee whistleblowers rose sharply to more than one in five employees. The Conference Board’s Directors Notes, in “Lessons for Boards from Corporate Governance Failures” (see the PDF at page 3), reveals defects in whistleblowing systems that include lack of anonymity, lack of independence, lack of communication and training, lack of incentive, and lack of a proper investigation. These defects are exactly what the SEC rule is designed to address. As Chairwoman Schapiro has argued, “I find that many of the business ethics problems severe enough to be investigated by us are the result less of individual greed than of individuals succumbing to pressure from their peers.”

Whistle-blowing defects may be faults of a board. If a board is getting its information only from management, this is a red flag. Management may not even possess accurate knowledge, as we see in cybercrime. Independent assurance over anti-fraud and whistle-blowing procedures must occur for any prudent board. And “independence” does not mean the company auditor or legal counsel who assess their own or their firm’s work, nor any firm who does, has done, or seeks to do work for company management. Any assurance provider in this area could likely recommend action adverse to incumbent management or service providers.

Directors and boards themselves also need to step up. This includes international directors, moving board meetings to emerging markets, understanding corrupt business practices, structured deep engagement by directors, receiving third party assurance and disconfirming information (including culture surveys), and using alerts and social media.  See “What Better Directors Do,” by NACD Directorship.

Both SNC Lavalin and RBC received governance recognition and were among the top twenty-five companies in the Globe and Mail’s Board Games for 2011. SNC Lavalin was the 2007 award winner from the Canadian Coalition for Good Governance.

The question therefore, is, could occurrences such as these happen on other boards of directors? If you are a director on a board and cannot reasonably answer “no,” to this question, perhaps you should consider some of the above recommendations.

IT Skills Needed Around the Board Table

Mar 23

Posted in IT Governance | Comments Off on IT Skills Needed Around the Board Table |

In a speech I gave this week to a large room of directors in Montreal, I asked for a show of hands as to how many directors use iPads. About 80% of the hands went up. When I asked the question a year ago, the figure was only about 20%. If you are a director who does not own an iPad, request management purchase iPads for all your directors, or better yet buy your own. Request that your board have a board portal installed. Within a year, most boards will be paperless. Good boards are now paperless. If a laggard director blocks technology or refuses to up-skill, the director should be asked to step down. Technology has gotten a lot easier to use in the last year.

Information technology literacy at the board table is rapidly becoming a must-have for boards, ranking up there with international, risk management and executive experience as necessary boardroom conditions on director skills matrixes. Termed an information technology “revolution” by some directors, technology is rapidly changing how boardrooms and companies operate and compete. IT skills are necessary not only for prudent risk mitigation, but more importantly, for strategic opportunity, innovation and the way companies communicate with a new generation of investors, consumers and employees. Virtual meetings, electronic reporting and social networks are now becoming the new communications platforms. Mailed proxy statements, in-person meetings, and even email may be a relic of the past.

If your board of directors does not have a solid understanding of IT-drivers, such as cloud computing, big data, consumerization, mobile computing, cyber-crime, e-corruption and social media, which are increasingly pervasive / possible throughout all industries and B2B and B2C companies alike, it will not have the clout with senior management to operate. It will not recognize deficiencies, weak benches, red flags, product/service distribution channels, or even basic opportunities or relationships to exploit (such as fundraising for not for profits). Management –and the competition for executive and employee talent– will perceive the board as dated. Management and investors can now go online and find out whether a director is IT literate or not.

IT literacy can no longer be learned on the job or though educational primers for older directors, as the turnover and learning curves are too great. The world is changing and the notion that a 65 or 70-year-old former executive possesses IT competency is a myth. Generational shifts and emerging demographics need to be embraced by boards, including recruiting IT subject matter experts and mentoring first time directors. Women, younger directors and other directors with IT expertise must be at the board table to have the credibility and experience with management to drive change and ensure that boardroom discussion contains multiple informed perspectives.

How does your board fare on the above? Specifically,

  • Does your board have enough strategic IT experience to advise management credibly?
  • Do you have a full understanding of IT opportunities and threats facing your company and industry?
  • Does the board have a committee that oversees IT risks, internal controls and reporting?
  • Do the company and your investor relations department use social media and other emerging technologies (such as shareholder forums) for engagement with institutional and individual investors?
  • Do directors use social media to listen and learn?
  • Are you satisfied with the quality of IT management?

These are some of the questions that need to be asked at the board table. Boards likely won’t get past the second question or the wrong answer by management if they themselves are not IT literate.

Shaping a Not-for-Profit Board of Directors

Mar 9

Posted in Not-for-Profit Board of Directors | Comments Off on Shaping a Not-for-Profit Board of Directors |

Should not-for-profit governance be short-changed because of scarce resources and directors being unpaid? Are directors’ fiduciary duties less because it is a volunteer position? Are directors less at risk?

The answer is “no” to all of the above questions. Not for profit organizations are some of the most important in our economy, including hospitals, schools, universities, charities, religious organizations, community organizations and more. Many are large, complex organizations with multiple moving parts and interdependent stakeholders. They are tough to lead and govern but must be as effectively led and governed as for-profits are. They require CEOs, directors and staff who are at the top of their game and will make the commitment necessary.

Beneficiaries such as patients, students, children, congregations, artists, the disabled, military veterans and the vulnerable all depend on a well-governed organization to survive and thrive. Without proper governance, donors are less inclined to give, directors are less inclined to serve, and the mission of the organization less likely be achieved. Not-for-profits can also be the first board a director serves on, so it’s important to learn the right habits at the outset.

I gave a speech in Dallas this week to 160 not-for-profit directors on shaping effective boards, for the University of Texas at Dallas. My slides are here (PDF) and the not-for-profit booklet that I co-authored and was published by the Canadian Institute of Chartered Accountants is here (PPT).

Here are some suggestions coming out of my speech and subsequent roundtables for improving Not-for-Profit boards, and based on my work with leading NFP boards, CEOs and directors. They can all be done with limited budgets and resources, whether you are large or small.

  1. Formalize board roles. When I asked for a show of hands, most of the room did not do this. Have charters for the board, the committees, the Chair, the Executive Director, and committee chairs if you have committees. Samples of these are in my guidebook if you need them, and are also publicly available on the Internet. Tailor them and draft them yourself. This gets everybody on the same page and establishes standards and the right tone at the top.
  2. Your board mandate should address vision, mission, strategy and operational plans; program delivery and operations; risk identification and management; finances (budgets, investments, use of donations, etc.); government filings and reporting; values, ethics, reputation and integrity; key policies and procedures; and communication and accountability to members and stakeholders.
  3. Consider gradual terms of two years and three renewals; or three years and two renewals, contingent on performance, whenever possible, to promote renewal and diversity and allow fit and interest determination. Confirm a succession planning process.
  4. Mentor and recruit younger directors. Have them serve on a committee but not become board members until they gain a few years experience. Pay attention to needed skills that older directors may not possess such as social media and its impact on fundraising. Have a board talent pipeline.
  5. Have tight board and conflict of interest guidelines that addresses directors who are also volunteers; directors who are also stakeholders; and donors who sit on boards who need governance training.
  6. Recruit properly and limit the size of the board. Use a director skills matrix that is aligned with the strategy and mission of the organization. Limit the size of the board so it’s effective at decision-making.
  7. Adopt an evaluation process – annual and perhaps per meeting.
  8. Be explicit and up front about donation and solicitation expectations, but be flexible for different capacities. Notify the board about average gift amounts to encourage giving.
  9. Always say “thank you,” seven times. (Yes, thank a donor or volunteer or other stakeholder who gives a total of seven times.)
  10. Lastly, have fun and be passionate. NFP directors are some of the most passionate, generous and fun people in the governance space. They serve because they genuinely believe in the cause of the organization.

 

Does Canada have a White Collar Crime Problem? A Red Flag Checklist for Directors

Mar 2

Posted in Audit Committee, Integrated Reporting and Accountability | Comments Off on Does Canada have a White Collar Crime Problem? A Red Flag Checklist for Directors |

“This city, this province, this country has a reputation of being the best location to carry out white collar crime, corporate fraud, in the industrialized world.”

These public words are not from some scholarly journal but from a hard-hitting, no-nonsense corporate director, Spencer Lanthier, (PDF profile) as he received his award at the annual Institute of Corporate Directors dinner last year – a sort life-time achievement award for a select few directors. Guests at my table were shocked to hear this, as was I, so I followed up to interview Mr. Lanthier for an illuminating interview. I also went for lunch with former colleague Al Rosen who wrote the book “Swindlers,” which I am now reading and equally eye-opening.

Flash-forward to 2012 where the Nortel trial is now underway to examine what role directors or officers might have played in that alleged fraud. See a headline from last week: “Toronto lost nearly $1M to fraud in 2011, auditor-general reveals”and the twelve cases identified by the auditor general. See this excellent report (PDF), courtesy of Tim Leech in my LinkedIn group Audit Committee.

Here are some questions: Do directors on boards play a role in detecting and deterring fraud? Can they be held responsible or even liable if they do not fulfill this role properly? Increasingly the answers are “yes,” especially given UK and US legislation since the financial crisis. I remember one of my very first board meetings I observed. It was of a bank. At the break, a director got up and shook my hand. He leaned over and whispered in my ear that the number one role of a director was to watch for fraud. I never forgot this.

Here is a list of 10 red flags and suggestions I have compiled based on my work recommending governance enhancements for companies accused of fraud or other malfeasance, including very well known Canadian companies.

1. The Audit Committee must fully understand how the company’s business model, estimates and judgmental choices by management give rise to potential manipulation of financial reporting by that management. Audit Committee members should be selected and educated on this basis. Financial literacy is a low bar and is not enough. Educate yourself on how fraud happens if you are a director or audit committee member. If necessary, hire an expert to report to you individually or in closed session with the Audit Committee without any member of management present.

2. If your organization does not have an internal audit function, install one appropriate for your organization. The head of Internal Audit must report directly and confidentially to the Audit Committee and cannot be over-ridden by any company officer. If necessary, Internal Audit should report directly to the board.

3. The Audit Committee must approve the independence, budget, work-plan and succession of the head of Internal Audit. The board should direct the CEO and CFO to commit resources for further design and test of internal controls whenever necessary.

4. As a director, you are entitled to any piece of information and access to any personnel in fulfilling your duties under any circumstance. If any manager blocks you from doing your job, this is a red flag. Go on unscripted company tours unaccompanied by management to test for tone and culture whenever you can.

5. Direct management to conduct a survey on company culture, assisted by an independent firm, with results reported directly to the board. Act on the results. You may have a toxic workplace with undue influence, internal control override and bullying and not even know it.

6. The independent whistle-blowing hotline must have a protected mechanism for people to come forward. When fraud happens, fellow employees know and are your best source of defense. If employees do not have confidence they can come forward and have a proper investigation conducted, they won’t and fraud will fester. Whistleblowers can go to regulators directly (in the US) now and participate in a monetary reward. If they don’t have confidence in the hotline, they will quit, acquiesce or go directly to the regulator.

7. Direct independent advisors (consultants, and now auditors) to conduct a risk assessment of all management compensation packages to ensure compensation is not driving potential fraud, such as bonuses awarded on profit.

8. If any company officer is not 100% transparent with you, this is a red flag. You should meet in executive session without management in the room to discuss your concern, which is likely shared by other directors. If the CEO or CFO lack integrity, the tone at the top is broken and you have a serious problem. You do not need a reason to fire your CEO.

9. Your responsibility as a director is to direct if and when necessary. Legislation gives you this power but protocols enable it. If management has undue influence and keeps you at bay, your protocols are likely deficient. Boards, committees, chairs and directors all need terms of reference now. Don’t let management draft these important documents as they have an interest in not giving you the power you are entitled to by law. Draft your own protocols or have someone independent do it if you have a concern or want best practices.

10. Above all, be vigilant and assertive if or when necessary. No amount of compensation can ever make you whole for the reputational damage inflicted and protracted litigation that could follow allegations of fraud or other misfeasance for a company of which you are or were a director. The number one regret directors have is not speaking or acting when they could have or should have. Don’t let this happen to you and follow the above steps.

 

The Governance of Executive Compensation: A Top 10 List for Compensation Committees

Feb 17

Posted in CEO, Organizational Performance and Compensation, Executive Compensation | Comments Off on The Governance of Executive Compensation: A Top 10 List for Compensation Committees |

The governance of executive compensation by boards continues to be in headlines. Regulation has emphasized the independence of compensation committees and consultants, similar to what Sarbanes-Oxley did for audit committees and auditors. However given the occupy movements and wealth disparity, more regulations emerge including potentially binding say on pay by shareholders and diversifying compensation committees and boards. The following are 10 areas leading compensation committees and advisors (including lawyers and compensation consultants) should look to, to get ahead of emerging regulations.

I offer several suggestions for reforming executive compensation based on current and emerging regulation and best practice, including interviews with directors, reports to regulators and work with leading compensation committees and boards. I address committee member and compensation consultant independence (Dodd-Frank), the closed shop nature of pay setting and diversity (UK), risk-adjusted compensation (Basel), clawbacks and malus (Dodd-Frank, UK, Basel), pay-for-performance (US to come, UK current), shareholder engagement and binding votes (US, UK to come), pay equity and disparity (US and UK to come), CEO succession and director pay (general and the NACD).

For those compensation committees and their advisors who wish to get ahead of the curve, here are ten suggestions, independently and constructively offered.

1.         Independent Members

Committee independence should exceed black-letter requirements, i.e., members should be reasonably seen to be independent from the outside, and assessed anonymously by fellow directors from the inside. Interlocks, prolonged tenure, personal relations, service provider associations, perks and subtle conflicts should all be addressed.

2.         Compensation Literacy and Closed Shop Pay-Setting

A skills and diversity matrix should be used for the Committee. Compensation literacy, expertise and industry knowledge should be defined and met by members. The Committee should not be homogenous. At least one member should be a woman. Non-CEOs and first time directors should also sit on the Committee.

3.         Independent Advisors & Resources

The Committee should have explicit access to unconflicted qualified advisors who work for the Committee. If an advisor’s colleague seeks to do, or has done, work for the company, that advisor should not be retained. The consulting industry has not done an adequate job of addressing conflicts and professional standards and further regulation is coming. There should be no undue funneling by management in advisor retention.

4.         Risk-Adjusted Metrics

Compensation consultants, if used, should be instructed by the Committee to incorporate explicitly risk-adjustment into proposed metrics and adjustments ex post (after the fact) prior to vesting of deferred cash and instruments. The Committee should understand how to do this, consistent with best practice. If not, it should get independent advice, per item 3.

5.         Proper Clawbacks and Malus

If these clauses cannot be drafted by the Committee itself, they should not be drafted by management or internal or external counsel (who are conflicted by being self interested or assessing their own work), but by an independent advisor (see item 3) consistent with best practice and industry standards.

6.         Pay-for-performance Linkage

Management prefer short-term, quantitative, formulaic pay plans. Regulators explicitly want compensation committees now to incorporate qualitative, longer-term metrics, pay periods and discretion. More rules are forthcoming but compensation committees need to be able to understand the business model, the key strategic drivers and get this right so pay equals performance. This has not happened in several instances. Re-cutting pay plans is emotional and adverse so compensation committees need courage and resources at least equal to that of management.

7.         Meaningful Shareholder Engagement and Binding Votes

The Committee should meet directly with key shareholders without management present on a regular basis. Binding votes on pay are forthcoming. Conflicts of interest among institutional investors and asset managers and other barriers to engagement will likely be addressed. Boards should prepare for direct shareholder engagement and voting on a broad basis using technology in the future.

8.         Pay Equity and Disparity

The use of peer groups (vs. CEO rankings) and at the 50th, 75th or 90th percentile have resulted in a perpetual compounded 17% increase in CEO pay overall. This increase results in a significant disparity not only in the C-suite (depending) but also with the average worker. When ratios emerge, committees should scrutinize and act as appropriate. This disparity is part of public and regulatory parlance now. Inaction is resulting in regulation.

9.         Succession Beyond CEO

Boards increasingly should want to see a deep talent bench for key units and functions, beyond the CEO. CEOs resist, including in their own succession but boards should persist. Succession should be part of the pay package for intransigent CEOs. Proper CEO succession mitigates excessive executive compensation payouts.

10.       Director Pay

Lastly, management has an interest in paying directors beyond what is required for a part-time job, including for non-executive chairs. Committees need to push back on exorbitant pay that can be reasonably seen to compromise their own independence. In the US, for example, the NACD had recommended a 15-16% premium for Lead Directors, specifically to guard against compromising of independence. This premium is much lower than 2X or 3X seen for non-executive chairs, and the spirit of director pay overall.

Ten years after the enactment of Sarbanes-Oxley (S-Ox) following Enron and WorldCom, S-Ox’s legacy has been the independence and proper reporting to and oversight by audit committees. However one American governance commentator remarked that “S-Ox is kindergarten compared to this,” “this” meaning the sheer volume of corporate governance change as a result of the financial crisis. When we look back at the legacy of the corporate governance reforms following the financial crisis, they will be in three main areas: compensation, risk and shareholder rights. We are probably not even through half of the changes, nor have compensation committees adjusted to them.

 

Facebook gets an “F” for governance and an “F” for diversity

Feb 10

Posted in Significant Shareholders | Comments Off on Facebook gets an “F” for governance and an “F” for diversity |

“It’s [insert significant shareholder’s name]’s way or the highway” is a common refrain I hear from directors on control block boards.

Facebook’s governance has been described by Businessweek as resembling a “dictatorship” and by a Wall Street Journal blog as “Governance = Zuckerberg.”

Under the public offering, 27-year-old Mark Zuckerberg owns almost 60% of supervoting shares, is Chair and CEO, can name a successor CEO, and has complete control over the nomination process for directors.

The governance debate over control block companies is not new. News Corp, Research in Motion, Hollinger, Magna and others are noteworthy for running into governance problems as a result of a high degree of control in one person or group of persons.

When I observe control block boards in action, the dynamic is very different from a widely held board. Directors tell me that they really owe their position to the control person. And they act in this fashion. The shortest meeting I observed was 10 minutes long. The founder said, “Gentlemen [and there were no women in the boardroom, similar to Facebook], this is what I propose to do. Any questions? [There were none, from very high profile directors sitting at the table.] Good, then. Let’s go for lunch.”

Governance is all about checks and balances. From the controlling shareholder point of view, this is his company, his board and his directors. This is fine, but dangerous for minority shareholders and in the long term if or when things start to go wrong.

The answer is not “if investors don’t like it, then they don’t have to invest.” If or when founders go to public capital markets for money, their accountability changes. If founders don’t like this, then they don’t have to go to the capital markets is the counterpoint.

I have argued (see “Richard Leblanc’s paper”) for example that minority shareholders (the other 40% of Facebook for example) should have seats at the board table and be there to oversee related party transactions and protect all shareholders including minority ones. They should also be independent from the founder.

Nevertheless, people do things simply because they can. Legal counsel has drafted the S-1 filing giving Zuckerberg as much control as possible. This is entirely legal.

What is also legal is the diversity of Facebook’s board. California State Teachers’ Retirement System sent Zuckerberg a letter earlier this week urging him to appoint women to the Facebook board and enlarge it in line with its market capitalization. There is ample evidence that diverse groups mitigate groupthink and strengthen decision-making. Facebook COO Sheryl Sandberg has been a proponent of greater board diversity, arguing the figures for women on boards are currently stuck at 15% and have been this way for the last 10 years. See a compelling video here.

But why would Zuckerberg do this? The Securities and Exchange Commission does not even define diversity. As a result, companies can define diversity downward to include diversity of “perspective,” “experience” or other factors, when they are an all male board.

It is particularly surprising that this board is not diverse, when its customer base contains people from just about all regions of the world.

The reason it is not diverse is presumably it reflects Zuckerberg’s intent.

When it comes to governance and diversity, the business reason for addressing the shortcomings above is quite simple. A good board earns its keep when it prevents the CEO from making that one big mistake. It takes enormous confidence to put people on the board with whom you disagree but whose opinion you respect, if only to keep you from making that mistake.

Zuckerberg is a genius in the world of programming and social media, but people make mistakes, are not infallible, nor irreplaceable nor live forever. It is these things that governance addresses, or is supposed to.

10 Questions to Determine Whether Your Board Has the Right Dynamics and Behaviors

Jan 27

Posted in Meetings and Decision-Making, Performance and Evaluation | Comments Off on 10 Questions to Determine Whether Your Board Has the Right Dynamics and Behaviors |

What fascinates me is what goes on inside boardrooms. Boards can have the structures, the boxes ticked, and the protocols and policies on paper, but if they are not lead properly, if they don’t behave as a team, and if they don’t have proper oversight over the CEO, they won’t be as effective as they can otherwise be.

It’s hard to determine these factors from outside the boardroom. Indeed, a reason researchers can’t find a clear causal relationship between boards and performance – even though directors tell me emphatically that boards do matter – is because what happens inside closed doors is largely invisible to outsiders. But board dynamics – including leadership, teamwork and behavior – matter greatly even if they can’t be measured from the outside.

I am interviewing several leading directors and chairs to obtain their views on boardroom dynamics. I am also observing boards in action. The data from my research is fascinating. Here are ten focal points I am focusing on. They are modified and phrased in questions I use. They represent only a fraction of what I am looking at; however, they are also ‘favorites’ of boards I assess that are leading edge.

10 Board Dynamics Questions

1.     Our Board Chair conducts an effective decision-making process (i.e., ensures that, for crucial decisions, alternatives are generated, a thorough discussion and analysis ensues, relevant perspectives are brought to bear, the best decision is made, and the decision is supported).

Here, I am trying to understand how effective the Chair is, particularly in chairing meetings and shaping key decisions. This is a key weakness of ineffective chairs.

2.     Our CEO welcomes the Board’s constructive input into our Organisation’s strategy (i.e., by being sufficiently candid, open and responsive; and encourages the same from direct reports).

Here, I look at the behaviour of the CEO. CEOs can easily hold back, block, or try to “manage” a board.

3.     Our Non-executive Chair (or a leading or senior independent Director) has a constructive working relationship with the CEO (i.e., mentoring, supportive and collaborative, open yet independent, candid and professional).

Here, I look at the nature of the relationship between the Chair and CEO. I interview both, as well as other directors, trying to get a sense of whether the Chair provides a strong counterpoint or is managed by the CEO.

4.     Boardroom discussions are constructive (i.e., Directors disagree without being disagreeable, assumptions are constructively challenged, views are skillfully explored, differences of opinion are appropriately acknowledged and resolved, and consent is forged).

Here, I look at how debate and decisions get made within the boardroom, in real time.

5.     Our Management (including the CEO) do not inappropriately influence meetings (e.g., by filtering or managing the flow of information to predetermine an outcome, not providing independent data, not facilitating access to independent advisors, etc).

Here, I look at “undue influence” or the attempt to shape or funnel information, agendas or outcomes. If this happens, the board will miss something.

6.     Our Board displays at all times a culture of diversity of views and open dissent (i.e., Members sufficiently challenge one another, differences of opinion are fully aired and accepted gracefully, no topics are “off-limits” for discussion, and Members feel free to speak out openly and honestly without fear of criticism, even when voicing a minority position or asking a probing question).

Here, I look at “constructive dissent” and how (or whether) it happens within the boardroom, including whether “groupthink” happens.

7.     Each regular reporting member of Management has a constructive relationship (i.e., characterized by respect, responsiveness, openness, transparency, candour, professionalism and accountability) with the Board and each Committee of which I am a Member.

Here, I look at the interface between committees and reporting management and whether there is blockage or dysfunction. Committees are where the work gets done. If something gets missed, it often happens here.

8.    The Board reacts in an appropriate fashion towards reporting Management (i.e., predictably, constructively, confidentially and deliberatively) in order to build trust on Management’s part to come forward with their real concerns in a candid manner.

Here, I look at the board’s behavior in shaping trust and candor with management. Trust is a two-way street and how the board behaves also matters. If the board dominates, leaks or is unpredictable, management simply closes up. Then, something can get missed or the board does not add full strategic value as management is holding back.

9.     Our discussions (Boardroom and at each Committee of which I am a Member) significantly improve the quality of Management decisions (e.g., by engaging of Management in thorough and constructive sessions that stimulate, guide and enhance Management’s thinking and performance, impact outcomes and add value).

Here, I look at whether the board adds strategic value. A “360 degree” assessment that incorporates management’s views can bring a reality check to a board that thinks they add value when they may not.

10.    We (Board and Committees) are not overly reliant on (or influenced by) a particular individual (e.g., with the most relevant skills and experience or tenure, or in a particular role or reporting relationship) given the work that we undertake.

Here I look for pockets of undue influence. It could be a shareholder, a director or a manager that can influence debates and outcomes, acting out of self interest.

What do you think? Can your board answer an emphatic “yes” to all 10 questions above? (Most boards cannot.)

Whether a board is effective or not, for the most part, comes down to factors inside the boardroom. The above factors are uncomfortable to ask, and data is limited, but they matter. Board dynamics is known mostly by directors themselves. The regulations and guidelines focusing on having a majority of independent directors, a certain size, a separate chair, etc., are important but are inadequate to ensure effectiveness and ultimately performance of the company. For boards to succeed, and for shareholders and other stakeholders to receive returns, more of the above factors should be focused on.

First Among Equals: The Art of Chairing a Board

Jan 17

Posted in Board and Committee Leadership | Comments Off on First Among Equals: The Art of Chairing a Board |

The former Prime Minister whispered in my ear before the board meeting of the bank, “Watch the way I chair this meeting, Richard.” Seeing a meeting chaired almost perfectly is a rarity so I paid attention and was not disappointed. Contrast this to another bank board meeting, where the CEO pounded the table, berating the chair in front of directors, and the chair said very little during the meeting. Both chairs are non-executive, supposedly independent, yet these meetings played out very differently.

I have observed, interviewed and assessed chairs operating in many industries, both inside and outside of Canada, including agriculture, airline, automobile, banking, credit union, crown, forestry, health care, insurance, mining, oil and gas, not-for-profit, pharmaceutical, steel and technology sectors.

Don’t assume all chairs are equal or a chair is effective given an external profile. Chair performance varies widely. Ask directors.

What separates the good from bad chairs?

How do you really know if a chair is effective, from outside the boardroom? Here are some tips.

Independence: Is the chair really independent? Watch for the CEO trying to capture the chair through perks, office support, vacations, jobs for family members, donations to charities, social relations – anything below the radar screen and hard to detect. In the words of one director during an assessment, “The Chair is owned by the CEO.” He was right. Chairs are very candid with me on how influence happens.

Chair Criteria: Integrity, agendas, coaching and development, commitment, information flow, financial literacy, fit with the CEO (including chemistry but also being tough-minded, rigorous and disciplined), holding people accountable, chairing of meetings, consensus-building, and building of healthy dynamics are all attributes and skills of successful chairs.

Chair Performance: I have observed and have data confirming chairs or lead directors that are ineffective and beholden to management or a significant shareholder despite what external disclosures are. Be skeptical.

Chair Selection: The chair should be selected from and by independent directors. Each director should offer confidential views and a formal vote should be taken. A committee should have chair succession planning in its mandate. All directors who participate in chair recommendation to the board should be uninterested in the role. The CEO should have no influence whatsoever, although he or she should be appropriately consulted given the importance of Chair-CEO fit.

Chair Tenure: Have a three-year appointment, with the option of one further term only if there is clear consensus no one else is better.

Chair Compensation: Watch for the quantum of total compensation, as it gives rise to reasonable perception of independence. A board chair is a part-time position and should be paid as such. I remember when a CEO said to me in the board meeting that he needed to get paid a lot so he wouldn’t “get nervous” and the lead director – also paid a lot – chuckled and agreed.

Chair Evaluation: Chairs should be assessed by each director and reporting management annually. Debriefing should occur between the board chair and the governance/nominating committee chair. Each director should be able to make use of this person/position if he or she has any performance-related concerns with the Chair.

Focusing the Board on Value: Last, but not least, the most important role of the Chair is to ensure the maximization of company performance and shareholder value. Research in Motion and other companies take note. When there is a value deficit, independent Chairs must have the courage to act. The Chair must have value creation skills, experience, leadership and a proper mindset that is focused like a laser on this end and the board’s responsibility to maximize performance and value. Absent the right individual in the role, other qualifications are moot. Substance over form should prevail.

The above points apply equally to Lead Directors in the American context, but because Lead Directors don’t chair full board meetings, it is critical that the attributes and selection of the person – particularly independence, influence and impact – be carefully thought through.

Next to the selection of CEO, the selection of board chair is probably the most important decision a board makes. If a board is ineffective, it is likely the chair is also ineffective and should be replaced. The chair has the single greatest impact on board effectiveness.

Why boards of directors lack courage

Jan 10

Posted in Board and Committee Leadership, Direction, Strategy and Planning, Meetings and Decision-Making | Comments Off on Why boards of directors lack courage |

Last night on the national news, embattled imaging-seller Kodak was compared to Research in Motion by a commentator comparing both companies’ inability to exploit advantages that they originally created. Regarding Kodak, one younger woman who was interviewed remarked, “What is film?”

A few weeks ago, I took a friend into a Black’s Photography store to have a digital picture taken for a LinkedIn profile picture. I asked the employee if he could take several digital pictures and email them to us so we could select one. The person had not even heard of social media, let alone LinkedIn, and said that the store could only take passport photos in hard copy form. Then we drove up the street to another picture store. This time we were told that there is a $300 “sitting fee” to have a picture taken. I took my friend’s picture myself with my digital camera and we downloaded the picture into LinkedIn in less than 15 minutes. I replaced my blackberry phone with an iPhone about three years ago. I doubt these photography stores – and maybe even RIM – will exist in their present form in the next few years.

Kodak is on the brink of bankruptcy. Three of its directors resigned this week. In a Harvard Business Review blog, an adjunct professor Simon Wong wrote a post questioning whether independent directors should flee their companies in times of trouble. Wong argued that it’s problematic for such directors to leave when they are “most needed.” Professor Michael Useem from Wharton maintained that leadership means you “stay the course.”

I would argue the opposite. The very people who caused the problem are unlikely the ones to solve it. These directors are probably “least needed.”

The question is not whether failed directors should stay on boards, but why they were not replaced sooner. Directors should be much easier to hire and fire by shareholders. Today, it’s virtually impossible to do either easily. These two things need to change for corporate governance to improve.

Kodak’s business model should have changed two years ago and maybe if shareholders could replace the directors more easily who were incapable of changing the management and business model, this actually would have been better.

Shareholders should not have to fight long, expensive public relations or proxy battles or arm-twist behind closed doors to effect change because they have no legal channel to do otherwise. Right now in Canada, shareholders cannot even vote “against” a director (they must either vote “for” or “withhold”), and a director can be elected to a board with a single vote “for” under existing legislation. This also needs to change to give power to shareholders to nominate and replace board members of the companies they own.

Currently, troubled boards drag their feet, are silent, write letters, conduct studies, avoid meetings, and refrain from making the tough changes necessary. They do so simply because they can. We see examples of this almost on a weekly basis. Why is this so? Self-interest and lack of courage.

The self-interest is obvious. Directors are conflicted as they are assessing their own performance and would rather not advocate their own replacement. Change will unlikely come from within.

Regarding lack of courage, experienced non-executive chair and activist investor, Henry D. Wolfe, a member of the LinkedIn Group, Boards and Advisors, when speaking of directorial courage from an investor’s perspective, wrote yesterday:

“From an investor’s perspective, if I am aware that directors in a company in which I have a position are acting cowardly because they fear the ramifications, then I would be inclined to take action to replace those directors with individuals who will not shirk from taking the action necessary, including speaking their mind, to aggressively pursue the maximization of the funds that I have invested.”

Why do boards lack courage, or the willingness to act during non-performance and significant declines in shareholder value? Three reasons: they are not truly independent (I have written about director independence earlier); they lack the recent and relevant industry experience to know what to do; and they lack leadership. They therefore become captured by management, defaulting to process and denial rather than making tough choices in the interests of shareholders.

Corporate governance is a rather genteel sport at present. Many directors of companies have not led or significantly influenced the very industries as executives on whose corporate boards they sit. Be it technology, transportation, mining or financial services, if you scrutinize failed or underperforming boards or companies – really scrutinize – this serious shortcoming – the lack of industry experience and leadership – will become obvious. Many more directors need to have been the primary person responsible for driving superior performance and redefining competitive dynamics within the industry for corporate boards to be effective. These directors should be sourced globally. Local accountants, lawyers, business school deans, consultants, politicians, and even CEOs of unrelated industries are nice but they should be the minority. A majority of these latter individuals is not the recipe for an effective board. Sadly, many corporate boards look like this, are dated, and are in dire need of renewal and diversification.

Lastly, and most importantly, boards need to be independently led, in substance and form. First and foremost, the nonexecutive chair should have a deep and full understanding of value creation for shareholders and a mindset for the longer term; be disciplined and focused on strategy development and execution; and be able to lead and inspire – really lead – independent directors and maximize their engagement, performance and focus on the most critical objectives. Any board that is ineffective likely has an ineffective chair.

Then, and only then – when a board is independent, composed of industry leaders, and effectively led – will it rise up and have the will to act. The fact this has not happened yet in many troubled companies means change must occur by shareholders rather than from within. Regulators would be well served to enable corporate governance changes to be facilitated by investors.

Compensation Consultants Need to Professionalize

Dec 16

Posted in CEO, Organizational Performance and Compensation, Performance and Evaluation | Comments Off on Compensation Consultants Need to Professionalize |

Charlie Munger, Vice-Chairman of Warren Buffett’s Berkshire Hathaway, once said “As for corporate consultants who advise [boards of directors] on salary, all I can say is that prostitution would be a step up for them.”

Compensation consultants are widely regarded as not being independent and beholden to management for the bulk of their professional services. Therein lies the problem.

Boards need professional advisors who are accountable to boards and not management. They need auditors, lawyers, compensation consultants and search firms. However, these advisors have varying degrees of professionalism and oversight of conflicts of interest. Lawyers and accountants, for example, have very detailed rules of professional conduct. So do management consultants. See here, here and here. North American compensation consultants do not appear to have an industry code of conduct or performance standards.

Enron and WorldCom – and its legislative aftermath known as “Sarbanes Oxley” – fundamentally changed the relationship between auditors and audit committees. Auditors are now accountable directly to audit committees, not management or the CFO, to recommend to shareholders approval of financial statements of the company. Auditors may not engage in what is known as “non-audit” services to management, without permission, as doing so compromises integrity of the audit and accountability by the auditor to the audit committee.

The global financial crisis – and its legislative aftermath known as “Dodd Frank” – is similarly changing the relationship between compensation consultants and compensation committees. Consultants are now accountable directly to compensation committees, not the CEO, to recommend to shareholders the approval of executive compensation. Similarly, compensation consultants should not engage in “non-compensation” services to management, without permission, as doing so compromises their accountability to the compensation committee. But many consultants do. Their firms perform services for both management and the board, and doing so compromises the ability to do the best job for both.

Lawyers and accountants cannot act for two parties whose interests have the capacity to become adverse. A husband and a wife in a divorce; a vendor and a purchaser in a sale; and yes a CEO and a board in pay negotiations – all have potentially adverse interests, particularly if the professional is doing his or her job properly.

Respecting confidentiality, managing conflicts of interests, and the ability to advocate for one’s client, are the hallmarks of a profession.

Compensation committees and boards should insist on an industry-wide rigorous code of conduct for compensation consultants ~ that is independently drafted and enforced; that is publicly accessible; and to which all compensation consultants who advise these compensation committees subscribe.

The “Code of Conduct for Compensation Consultants” should be detailed, as are codes for lawyers and auditors. It should address specifically the following areas: the organization of a professional practice; relations with other firms and members; duties and obligations to your client; conflicts of interest; confidentiality (including privacy walls); competency and quality assurance; fees and retainers; monitoring and discipline; and, most importantly, objectivity, independence and integrity.

Compensation consulting firms and the industry as a whole have a choice – indeed they have a leadership and business development opportunity. They can professionalize themselves, collectively, collegially and independently, or governments eventually may do it for them. They may not like the unintended consequences of the latter.

 

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