Archive for the ‘Board and Committee Leadership’ Category

J.P. Morgan post-game analysis

I was interviewed by BNN where I said that what proponents for the split of CEO and Chair at JP Morgan had going against them this week was that the stock was up 50% and that the split would occur to an incumbent CEO, Jamie Dimon, as opposed to a new CEO, where the decision to split the roles by a board is easier.

Shareholders have spoken and the vote was almost a third in favor of having a separate Chair and CEO. However the risk committee directors received less than 60% support for their continued tenure on the board.

What are we to take from this, from a governance and accountability perspective?

First, the directors who received less than 60% should all be replaced. New directors should demonstrably possess solid risk and banking expertise – including a full understanding of complex derivatives – to sit on a board of this type. Management, including the Chairman, should have no say whatsoever as to who these directors are. Indeed the incumbent board should look to shareholders for suggestions.

Second, there is not a single new argument in the lead up to the chair-CEO vote that was not already mentioned in the Canadian context when Canadian banks ten years ago had combined roles, but now have separate chairs. I remember many bank chair-CEOs making impassioned arguments as to why they should keep the chair role, with the “support” of their boards. Shareholders and regulators eventually won this battle.

Share price or a threat to leave by Mr. Dimon is likely what swayed shareholders away from voting more fully for the split.

These are both troubling from a governance perspective. Directors should be free and empowered to take decisions that are best for the company and shareholders in the long term – decisions that may even result in short term share price decline. Share price also reflects multiple inputs, and it’s not certain that splitting the roles for governance purposes would affect share price irreparably.

Second, and more important, a CEO who threatens to leave is a red flag – or should be – for any board. It may signal lack of internal succession planning. No one is irreplaceable and the “leaving” card should be called by more boards – even in pay negotiations – through proper succession planning, that is to say internally ready candidates at all times.

Lastly, the decision of a separate chair vs. a lead director is vulnerable to the narrative that “it depends.” This is impenetrable and can reflect more ego, hubris and board capture. At some point, the decision on chair vs. lead director should be an objective standard, not subjective one. It is the same with standards for director independence.

There is a fundamental difference between a chair role and a lead director role. The chair role is stronger. Regulators should be more prescriptive and say the roles should be split as a matter of good governance and preventing a concentration of power absent accountability. They have done so in Canada and we have fared very well.

American Banks Should Split the Chair and CEO Roles

Jamie Dimon and Lloyd Blankfein (Chairs and CEOs of J.P. Morgan and Goldman Sachs, respectively) should be relieved of their Board Chair responsibilities.

Here is why.

Consider how two hypothetical – but typical – board meetings play out: the first with a Chair and CEO role combined in one person, with another director as a “Lead Director,” and another board meeting with Chair and CEO roles separated into two people.

In the first board meeting, when one person occupies both the Chair and CEO roles, there is a very high concentration of power. Another director independent of management acts as a “lead” director as a counterpoint. The Lead Director may sit next to the Chair and CEO in the boardroom, but the Lead Director does not chair the actual board meeting. Nor do lead directors have final say when push comes to shove over the board agenda. They also don’t control the information flow the board receives, as good chairs do.

The Lead Director has influence, but the Board Chair has actual authority. What gets discussed, when and how, is the purview of the chairperson of any board. The most important role a Board Chair has is to control the discussion and how decisions get made (or not). If the person controlling the discussion, the information and the agenda (chair) has a vested interest in the outcome (CEO), there is an inherent bias in all decisions. The board’s fundamental oversight role to control management is compromised.

When I observe second types of board meetings with non-executive, independent Chairs and separate CEOs (i.e., two separate people), the dynamics are very different. The board meeting is almost “bi-polar” in nature. There is a natural counterpoint when debate happens because the CEO is separated out of the critical proposal and approval parts of the discourse. Power is more flat. Directors feel free to speak up because the chair is one of them (independent). It is hardly surprising to see the lead director role marginalized by a strong personality who controls a board meeting. CEOs have very strong personalities. Directors are more likely to weigh in and exercise independence if they aren’t blocked by their chair.

At one point, Canadian bank boards argued – unsuccessfully – and of course their CEO and Chair incumbents were the primary proponents, that good governance could include the fundamental conflict of a combined Chair and CEO role. “Good” governance, the argument goes, could include having exclusively independent committees, an effective lead director, and an effective reporting and assurance structure. Proponents for maintaining the Chair and CEO roles also argued whether to split of not “depends on the personalities,” somehow implying an effective chair who has a good working relationship with a CEO cannot be found. The real resistance to splitting the roles were the egos and hubris of the incumbents, and a captured board beholden to them at the time.

Shareholders and regulators prevailed in Canada, the UK, Australia and New Zealand, where non-executive chairs are the norm. In the most recent set of governance reforms of 2013, for example, Canada’s financial institution regulator stated that the role of the Chair should be separate from the CEO, as this separation “is critical in maintaining the Board’s independence, as well as its ability to execute its mandate effectively.” Back in 2003, OSFI (Canada’s financial institution regulator) stated that both a non-executive chair versus a lead director could achieve board independence. The choice was up to the board, OSFI stated. Regulators have since progressed, advising that the roles can and should be split, for all federally regulated financial institutions, for the sake of good governance.

The fact of the matter is that having a non-executive chair separated from the CEO roles won’t guarantee success or prevent failure. Academics cannot prove a systemic relationship between board leadership and performance because chair effectiveness is so difficult to measure. But if the chair is effective, there is a much greater likelihood of better governance than relying on the effectiveness of a lead director. I have yet to see an effective lead director who approaches how effective a separate chair can be. A lead director role is institutionally more passive. Ask yourself if Jamie Dimon had to answer to a no-nonsense Chair who understood banking and risk whether the J.P. Morgan Chase’s risk meltdown would have occurred. (See the Senate report here.) The roles of a Lead Director and Board Chair are different. More and more American corporations are moving towards effective, non-executive chairs. Banks should not be dragging their feet.

Does Your Board Chair and Governance and Nominating Committee Need A Reset?

I am currently interviewing shareholder activists, hedge funds and private equity leaders on changes to public company boards to make them more focused on value creation and company performance. I am also interviewing leading directors and CEOs. My research reveals a disconnect between how many boards operate and how shareholder advocates believe they should operate.

For a board to operate effectively, it starts with an independent and effective Board Chair and Governance and Nominating Committee, which are the leadership and inner workings of a Board. It is here where governance accountability is established and good directors are selected, or not.

The focus since Sarbanes Oxley has been on the Audit Committee, and since Dodd-Frank on the Compensation Committee. But without an effective Board Chair and Governance and Nominating Committee, management accountability to the board, and board accountability to shareholders will be undermined.

If you want to make your Board more focused on company performance and value creation, ask yourself whether your Board Chair and Governance and Nominating Committee can answer “yes” to most of these questions, based on my interviews, in no particular order:

  1. Has the Board set standards for a vigorous value creation process, and does its value maximization plan clearly and simply spell out key timelines, milestones, targets, and individuals accountable for each key plan component and specific results? (Is the Board’s plan as good as or better that what an activist shareholder can provide? It should be.)
  2. Does each Director have the background into the company, the business model, the industry and markets to fully understand the value drivers and associated risks? (If not, does the Chair and Board have the backbone to replace those directors?)
  3.  Leadership goes well beyond whether the Chair is independent or not. Does the Board Chair possess the following attributes: Shareholder mindset, leadership, understanding of the value creation process and the capital markets, ability to view things holistically, an ethic of accepting personal responsibility, industry experience, and no desire for CEO role? (If not, is the Governance and Nominating Committee strong enough to recommend to the Board to replace the Chair?)
  4. Do the Board and Board Chair have the will to hold management to account for results and the courage to act decisively when needed?
  5. Does the Board ensure direct links to performance and value creation and the need to hit certain targets before any executive incentive compensation kicks in?
  6. Does each Director have a meaningful portion of his or her own savings invested in the company?
  7. Has the Governance and Nominating Committee recommended to the Board adopting shareholder accountability practices and removing entrenchment devices and other restrictions?
  8. If or when needed, does the Board and each Board Committee utilize resources and advisors independent of management who represent the interests of shareholders?
  9. Does the Board Chair and Governance and Nominating Committee look to shareholders for prospective directors, rather than to management?
  10. Does the Governance and Nominating Committee ensure that all governance terms of reference been redesigned to reflect the Board’s focus on value creation and company performance? (Many times these terms of reference written by management keep the board at bay.)
  11. Does the Board Chair and other Directors engage regularly and directly with key shareholders, without the presence of management? (The vast majority of boards do not meet with shareholders.)
  12. At these Director-Shareholder meetings, are the following matters covered off: Value creation and company performance; status of governance initiatives; board and committee composition and renewal; risk governance; and the governance of executive compensation?

If you answered yes to all questions, or even almost all, you likely have a truly outstanding Board Chair and Governance and Nominating Committee. You may even wish to apply for a governance award, here.

If you cannot answer yes to the majority of these questions, you have work to do.

Join me in my next blog where I will discuss “What makes for a high-performance Director?” based on about 30 interviews with shareholder advocates, search firms and members of the NACD 100 and Top 100 CEO listings.

Potential Regulation of Proxy Advisory Firms: CSA Consultation Paper 25-401

Here is my letter to the Canadian Securities Administrators on the potential regulation of Proxy Advisors:

Should Proxy Advisory Firms Be Regulated? Yes.

I am drawing on my own research as well as materials I consulted recently in designing and delivering a new course at Harvard University, including teaching materials provided to me by Stanford University researchers (Larcker and Tayan).

The Canadian Securities Administrators has asked whether proxy advisory firms should be regulated. (Proxy advisory firms, such as Institutional Shareholder Services and Glass Lewis, which is owned by Ontario Teachers Pension Plan, provide governance assessment and recommendations to institutional shareholders on their voting at annual meetings of companies.)

In my view, proxy advisory firms should be regulated for three important reasons.

Conflicts of Interest

Proxy advisory firms also provide consulting services to companies to improve their governance score. This would be analogous to me as a teacher providing tutorial services for money for students to improve their grade. Or credit rating agencies receiving fees for other services other than an independent rating of the creditworthiness of the company. The business model for proxy advisory firms needs to change such that there is no non-rating services offered by them. Similar to auditors being restricted only to the audit (S-Ox), and compensation consultants now being restricted only to compensation assurance services to the board (Dodd-Frank), this practice needs to broaden such that any firm or individual providing independent assurance of governance (including governance advisory and search firms) should not have a consulting revenue stream, and should not provide any services to management or the company other than the assurance service provided to – or in respect of – the board or committee.

Having an alternate revenue stream to the provision of governance assurance services undermines the independence and objectivity of the assessment as the assurance provider is assessing his or her own work, or that of his or her colleagues within a firm. Moreover, a commercial conflict of this nature undermines the appearance and confidence in the marketplace that the assurance provider is not unduly influenced by proprietary or commercial interests. Having firewalls or separate business units within a firm does not address the reasonable perception of conflict, nor provide adequate safeguards given non-financial and personal/career influence.

Lack of Qualitative Assessment of Governance Quality and Predictive Validity on Shareholder Value

Second, based on my review, there is limited peer-reviewed evidence at best that proxy advisory firms measure governance quality in the main, or that which they do measure predicts shareholder value. These commercial firms possess a business model predicated on volume-based, externally measureable metrics. What is measureable, such as structural independence governance variables, such as independent chairs and directors, independent committees, share ownership, etc., do not necessarily impact board effectiveness or shareholder performance.

The above quantitative Stanford researchers actually go so far as to suggest “no evidence” (at page 161 of their book) for certain of these variables. Other variables offer “mixed” or “modest” evidence, while others (such as busy or interlocked boards) offer more persuasive evidence. Indeed the academic research also has not found a systemic relationship between governance rating systems (including G and I Indexes) and the predicting of long-term shareholder performance. Indexes based on entrenchment and anti-takeover provisions arguably do not measure board effectiveness.

Unfortunately, given the above lack of predictive validity, companies change certain governance practices to improve their scores when there may be limited empirical evidence that the purported practice will have impact on board effectiveness or firm performance. This pressure to change should not be the case.

What are relevant – so far as board effectiveness is concerned – are qualitative factors such as director qualifications (competencies and skills), engagement, leadership and board dynamics. These factors are more difficult, and in some cases not possible, to measure from outside a boardroom. I note the inconsistencies in proxy advisory firms’ ratings where the same company received divergent ratings from different proxy advisor firms, or companies that experienced governance failure formerly received high ratings (and in a few cases, awards from shareholder or other groups) from proxy advisory firms.

Proxy advisory firms, if they are purporting to measure governance quality, (i) should be required to assess and incorporate qualitative and firm-specific factors into their ratings and recommendations, (ii) should have the expertise and resources to do so, and (iii) should have a process for independent review, audit, contestation and arbitration if necessary. The personnel and sources consulted to produce a proxy advisory report should also be disclosed. See the paper by Leblanc et al., here and search “The Governance of Proxy Advisors.”[1]

Lack of Transparency

Third, the transparency of proxy firms should be increased. Proxy advisory firms’ rating methodologies and weightings accorded to various factors are divergent. If they were measuring governance quality with rigor, we would expect to see convergence, such is the case with credit rating agencies. Not surprisingly, individual companies may receive different ratings depending on the proxy advisory firm. This inconsistency needs to be addressed.

Governance ratings according to Stanford researchers who study them were found to have little predictive validity among the ratings of any of the three proxy advisory firms examined. The authors go on to write (Larcker and Tayan, 2011, p. 446-447), “the study found low correlation among the ratings of the three firms, low correlation between the ratings of each firm and future performance, and low correlation between the ratings of Risk Metrics/ISS and the proxy recommendations of Risk Metrics/ISS. The authors concluded that “these governance ratings have either limited or no success in predicting firm performance or other outcomes of interest to shareholders. … Our view is that  … the commercial ratings contain a large amount of measurement error. … These results suggest that boards of directors should not implement governance changes solely for the purpose of increasing their rankings.” [footnote omitted].

The use of and reliance upon ratings and proxy advisory services by institutional shareholders should also be transparent and accessible on the institutional shareholder website. (See the above paper by Leblanc et al..)


Boards of directors criticize proxy advisory firms for their ‘check the box’ and ‘one sized fits all’ approach to corporate governance; the enormous influence that they have; and their lack of transparency and accountability – in the governance field – when these firms and shareholders they serve insist on transparency and accountability from others. It seems to me that there is merit in concerns that boards have. More importantly however, the empirical evidence does not support many of the metrics being used by these firms, and ignores or diminishes others.

I hope this commentary is useful to your review.



Richard W. Leblanc, PhD

[1] Leblanc, Richard, et al., “General Commentary on European Union Corporate Governance Proposals,’” International Journal of Disclosure and Governance (2012) 9:1, 1-35, where transparency, influence, inaccuracy, consulting services, institutional investor regulation and increased competition are discussed in greater depth. See online version here:

Canadian Pacific is a Teachable Governance Moment

The fight for Canadian Pacific Railway (CP) by activist investor Pershing Square demonstrates several shortcomings in the public company governance model and what can be learned from private equity. CP and RIM are significantly underperforming Canadian companies. There are numerous others. The question is where is the board?

The current corporate governance model is largely focused on compliance, not on value-creation. Most regulations short shrift the board’s strategic and value creation role. Canadian guidelines address strategic planning in one sentence, at 3.4 (b). The NYSE rules do not contain the word “strategy.” Educational programs are overwhelmed by auditors, lawyers and pay consultants. Boards have become bureaucratic traffic cops and the trend is continuing after 2008. How would codes and educational programs look if they were drafted and taught by long-term active investors?

Regulators in large measure are to blame. They overemphasize structural board independence at the expense of industry knowledge and shareholder mindset. The separation of chair and CEO and having a plethora of independent directors accomplishes little unless there is a clear understanding of roles. Most chair and director position descriptions are little more than high-level one or two page compliance documents written by lawyers designed to keep directors at bay. Directors are selected for independence and profile because that’s what the regulators want. Yet scholars know research does not support independent directors and the creation of shareholder value. What is missing? What can we learn from activist investors and private equity?

Here are some facts about CP according to Pershing Square’s materials and presentation:

  • All directors own < 1% of stock and it was given to them, not bought;
  • Four COOs and three CFOs have been replaced in the last five years;
  • CP has consistently underperformed across industry peers, yet the CEO met 17 of 18 objectives set by the board;
  • The cost of management as a percentage has doubled;
  • There has been a moving of targets by the board, and these targets have been meaningfully lower than CN’s;
  • There has been a lack of rail experience on the board, shareholder representation or equity ownership; [CP did not have any railroad expertise to drive the value creation process on the board (other than the CEO) until Bill Ackman first launched his activist efforts]
  • If one director had $100M of his or her own wealth invested, the CEO would be replaced, Pershing Square said;

Deep dives such as the above by sophisticated activists such as Den Loeb and Bill Ackman need to be undertaken by boards themselves. This dive need not be overly complex. Look at Ironfire Capital’s analysis of the New York Times. How many boards have the skills to do this, I wonder? The approach Bill Ackman brings is not exclusive in its applicability to under-performers. The fundamental question is how many companies are under-performing relative to their potential, just not to the extreme extent of CP? And does this speak to a more robust corporate governance model on a wider scale?

We can learn from private equity and the nature of board engagement and shareholder value creation. According to experienced chair and activist investor, Henry Wolfe, “Numerous studies have been done of the performance and value creation results of private equity portfolio companies compared to their public company peers. At least in all that I have seen, the studies clearly demonstrate that private equity companies significantly outperform.” Wolfe goes on to say, “The implications of these comparative results for public companies is or at least should be staggering to those who serve on or advise public company boards. Adding fuel to this point Ernst & Young and other studies, including by McKinsey, found that the primary driving force for this out-performance was the PE Corporate Governance Model.” See the following link to an Egon Zehnder Private Capital Thought Leadership article regarding the work they did to learn more about a McKinsey study on Private Equity.

Michael Jensen at Harvard from his panel role in the 2007 Morgan Stanley Roundtable on Private Equity and its Import for Public Companies, said “In fact, my sense is that the due diligence process that the buyout firms go through in vetting and pricing a deal causes those principals and their managers to learn more about the business than has ever been known since it was a public company.”

This should not be the case if the public governance model worked. A key disconnect is director-shareholder accountability, which is not the case in private equity.

The nexus between public company boards and shareholders who own the company is limited at best, and this affects motivation and accountability. Boards continue to entrench themselves through staggered elections, at the expense of shareholder value. Most boards do not actually engage with shareholders directly other than at a perfunctory annual meeting. Shareholders cannot even propose directors in the proxy circular. A recent proposal by a group of Canadian investors is recommending (see the “Roxborough Initiative”) not only that shareholders select but also that shareholders – not management – compensate directors. This would address incentives and accountability. Director performance reviews should also be shared with shareholders and shareholders should have a say on board chairs. We are a long way from this type of meaningful board-shareholder accountability.

It is time to push the envelope and rethink the current model of corporate governance, in terms of how directors are selected, directors’ fundamental understanding of the business and the value creation process, the role of the non-executive chair, and director accountability to shareholders.


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

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.

Executive Compensation is “Corrosive” and “Undermines Trust”: Connecting the Occupy Movements

I remember when US pay czar Ken Feinberg told a group of academics gathered at Wharton business school for a corporate governance conference to discuss the aftermath of the Global Financial Crisis that he was looking for independent compensation consultants and, to quote Mr. Feinberg, “there are no independent compensation consultants.” So he turned to academics. He wanted to study the claim by consultants that executives need to be paid extraordinarily high compensation or else they would migrate to other companies and jurisdictions, which – as it turned out – did not happen, Feinberg said, or is a “myth” as was stated in the UK this week. Addressing conflicts of interest by compensation consultants is only one of twelve reforms being urged by the “Final report of the High Pay Commission” in a scathing report released this week in the UK.

Reforms to the way executive compensation is set in the UK are forthcoming that may include significant and unprecedented changes – well beyond the structural Dodd-Frank reforms in the US. Changes that may be termed “radical” by some include: binding and forward-looking voting on compensation by all shareholders; having women and worker representation on compensation committees of boards; regulating remuneration consultants; regulating the disclosure, unnecessarily complexity and format of “fair pay” compensation; and having board of director positions advertised and applied for publicly.

A central theme throughout the compensation debate has been that boards and compensation committees – particularly in the US and UK but also elsewhere – have been incapable or unwilling to address the uncontrolled disparity between pay of CEOs compared to that of other senior management and, in particular, the pay of average workers, even throughout the financial crisis. The market is not really “free,” proponents maintain, but is in reality a “closed shop” (words of the Chairwoman Hargreaves of the High Pay Commission) (video). That is to say that pay is set by a small, heterogeneous, interlocked and self-selected group of management and directors. University of Delaware professor Charles Elson and his graduate student, Craig Ferrere, have documented an annual, compounded structural 17% increase in CEO pay over decades as a result of the way CEOs are paid at or above median and the marketing of peer group data by consultants. In some cases, exit pay packages for CEOs have been the hundreds of millions of dollars. The public outrage seemingly falls on some or many (but by no means all) tone-deaf boards and senior management teams.

All reforms are now on the table and the UK Prime Minister and Business Secretary Vince Cable have weighed in, including Mr. Cable expressing sympathy with the “Occupy” movement and calling the current system “dysfunctional” and a failure of corporate governance.

What the Occupy movements have done, it can be argued, is focus the discourse on the consequences of wealth disparity. Ted Talk by British researcher Richard Wilkinson, for example, talks about the harm to society that results from economic inequality, notably the gaps within (not between) societies, which include harms such as life expectancy, literacy, infant mortality, crime, teenage births, obesity and mental illness. (Credit goes to former York University student, Cliff Davidson, for showing me this link.) The link between wealth disparity and social harm is an “extraordinarily close correlation,” Professor Wilkinson states.

What the UK experience also shows is that regulators are prepared to step in and bridge gaps if industry proves incapable or unable to do so itself. In a speech I gave a year ago, I recommended that North American compensation consultants devise a code of conduct for consultants – independently developed and enforced – that includes consequences for breach, similar to regimes that lawyers and accountants have, or governments eventually would do so for them. John Tory was in the audience and endorsed my notion of industry leadership before government regulation. Regulation tends to have unintended consequences, and industry leadership is far superior to the former. Industry leadership unfortunately is not happening and is unlikely given vested interests. We have seen the consequences of inaction in the UK.

Defective Penn State Governance: What Corporations Can Teach Universities

“As the graduate assistant put the sneakers in the locker, he looked into the shower. He saw a naked boy, Victim 2, whose age he estimated to be ten years old, with his hands up against the wall, being subjected to anal intercourse by a naked Sandusky. … The graduate assistant left immediately, distraught.”

I apologize to all readers for quoting this alleged abhorrently heinous criminal conduct from the Grand Jury report to what is reputed to be several young boys.

Universities are historic institutions, steeped in tradition. Many however have sorely outdated governance practices. Penn State is a good example. What can we learn?

Penn State prides itself on not changing the size or composition of its board since 1951. What this means is that the entire organization is not keeping up with the times.

Thirty-two directors is not a board: it is a theatre. A board this large means management dominates and decisions are made in advance rather than at the table.

The board of trustees should immediately disestablish the Executive Committee chaired by the President. An executive committee means a “real” board where management controls rather than the board and its committees.

The board size should be reduced to half: sixteen directors maximum and preferably fewer. Multi national corporations have fewer directors.

The university president, or any other member of management, should have no influence whatsoever into director selection.

Penn State does not even have an audit or risk committee. What good board does not have an audit committee? The audit/risk committee should oversee conduct and compliance reporting. Where is this obligation overseen by a committee of the Penn State board, I wonder? No committee charters are available, which is another red flag.

A nominating and governance committee should also be established. So should a human resource committee. It is remarkable that audit, nominating or HR committees do not exist and this again suggests undue influence by management who does not want this oversight.

Penn State’s governance statements are verbose, pompous, self serving and ineffective, as are those of many colleges and universities, deliberately so and written by management who write for a living. Key governance documents are missing, such as the competencies and skills of each director linked to their responsibilities; the code of conduct; compliance procedures for the code; whistle-blowing provisions; a position description for the president; and position descriptions for the board and committee chairs.

These are now requirements for publicly listed companies all over the world and leading not-for-profit institutions. Is Penn State or are other universities immune from such best practices?

If these governance and ethics oversight practices exist, they should be documented and accessible on Penn State’s website. That they are not leads me to believe they are ineffective or non-existent. (Note: the Penn State website appears to have changed slightly as of Sunday, November 13, 2011, to include backgrounds of 32 (was 35) directors.)

Next, more to the alleged sexual assaults on campus property by football coach Sandusky.

There needs to be greater rotation and succession planning at many universities and Penn State is no exception. The same director, employee, coach, dean, or otherwise at the helm for 20-30+ years – regardless of performance or money or donations being attracted – is wrong governance. Joseph Paterno was coach for 45 years and is 85 years old.

Inadequate succession planning like this would never fly in public companies, where CEO tenure is 4-5 years and good board tenure is 9. People don’t have time to get comfortable and start capturing people but need to do their job. On boards, retirement age is 72+ and good tenure is 9. In professional service firms, it is even earlier, from late 50s to early 60s to make way for the next generation of leaders.

No one is irreplaceable or larger than an institution. Incumbents create power and fiefdoms, currying favors – such as free sports tickets and equipment to young boys (as was alleged) – or protecting colleagues (also being alleged) – where they become so dominant they cannot be resisted, within pockets of toxic culture and risk – with management and even boards of trustees acquiescing instead of governing.

All allegations have yet to be proven, but if true this is likely what happened here: People become afraid to speak. If they speak, they will suffer enormous reprisals, even loss of their jobs or banishment. The board is at fault if this is the case as a result of a flawed structure (see above) and decisions it took or did not take.

At least half of the Penn State board should be businesspeople with clout. The board should have the same transparent recruitment that companies how have, with directors who are independent, have run businesses and can tell colleges who are behind the times, or who resist reform, that this is what has to happen. Having alumni, the governor, or even agricultural societies (likely a historical artifact) appoint or elect directors does not necessarily result in competent directors being at the table or staffing key committees. There needs to be a greater link – clear and transparent – between directors, their skills, and what is required to govern. The days of ceremonial appointments should be over. Clearly they are not.

Next, all colleges should have whistle-blowing procedures at the same level or above as companies are now obliged to do. This puts the heat under management to have proper procedures, as employees can go directly to an external ombudsperson or the regulator to get protection.

A code of conduct should be developed by all colleges and universities, as is the case for any leading organization. It should be signed off on by each and every trustee, employee and key supplier and be a condition of serving and employment, including for the president. Code compliance should be part of the president’s contract. Everyone has to sign that they do not know of any wrongdoing, directly or indirectly, anywhere on campus, every year. The sign-off statement should include obligations on how to report, protection mechanisms, and assurances of a proper independent investigation.

All code compliance should be reported directly to the audit committee of the Penn State board (note: non-existent at Penn State), and independently assured. The code must include conflicts of interest statements, treatment of assets, fair dealing and harassment. Training and education should also occur, for each employee. The code should be paramount and override defensive union agreements or guises of academic freedom.

Lastly, Penn State’s internal audit charter – if it exits – should be available on its website. The design and effectiveness of internal controls, including approvals, access to restricted rooms, campus security and lighting, keys, locks, areas of vulnerability, and potential for override – most of which were likely deficient in this case – should be reported directly to and overseen by the audit committee.  The audit committee should be able to insist upon independent assurance for any risk, based on the audit report. Good audit committees know and do all this. They direct the president, CFO and finance and risk personnel to comply with best practices.

Why would Penn State management do all this, under this resistance? Simple. The board tells them to. Or they get fired. This is why a strong board is so essential. The tone at the top starts – and stops – with the board. Sandusky is not a rogue any more than a rogue trader is at a bank. He is operating within a defective system, put in place by defective management and overseen by a defective board.

Conclusion: Reform to collegiate governance

Educational institutions are complex organizations, with interdependent stakeholders and many moving parts. They are sometimes more complex to run than a large company. In the vast majority of cases, they are staffed by committed and well-meaning people. They are however, hard to manage and especially difficult to govern, given defensive unions, historic tradition and tenured, specialized academics and staff. They are however taxpayer-funded entities from which leadership and accountability are expected. Indeed, they are supposed to set the example and practice what they teach.

It is very important that governance standards and practices be current and not myopic, and this is why colleges need strong, proper, effective independent boards to counteract resistance, have the clout to direct management and staff, and impose proper governance, risk management and internal controls are is being done for public companies.

Here, Penn State, and perhaps many other universities have much to learn.

The Boardroom of the Future: Changes that will reshape corporate governance

A global “mega-cap” company recently asked me to submit a briefing on how a boardroom of the future will look. This is an abridged summary of my report.

Democratization of governance

Your shareholders will nominate and elect your directors by electronic voting directly on your website. They will base their vote on the accomplishments of each director and track record of acting in the best interests of shareholders and the company overall.

Electronic registries and meetings will be the primary basis upon which shareholders select directors to your board. Director competencies will be fully disclosed.

Diversification of boardrooms

Your board will be 40% to 50% women and have far fewer CEOs on it in the next five to seven years. Your directors will be independent experts within their relevant strategic domains, will be quick studies, and will have access to the best learning of the company. They will request an Office of the Board be established. Board tenure will not exceed 9 years.

Corporate reporting

Reporting to shareholders will be fully integrated and online. Non-financial risks and internal controls will be independently assured. All reporting will be accessible, complete, accurate and independently validated.


Your board will be paperless and directors will have access to any piece of information they need to oversee and advise management. Technology will be used to attract and communicate with international directors. Risk appetite frameworks, established by the board, will translate into clear incentives and constraints using integrated firm-wide information systems.

Executive compensation

Executive compensation will be established by shareholder-directors. Professional standards will be imposed on any consultants retained by these directors. All compensation will be fully risk-adjusted and linked to performance. Current models and methods will change significantly.

Office of the Board

An Office of the Board will be established. It will house independent staff and resources available and accountable to the board and paid by the company.

Regulation of corporate governance

The unprecedented intrusion into the governance of companies will continue until most or all of the above reforms are implemented.


The above changes are significant and will fundamentally change the way directors are selected and how boards control management.

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