Board Ethical Standards

Dr. Earl R. Smith II
Managing Partner, The Federal Circle
DrSmith@Dr-Smith.com
Dr-Smith.com

Corporate governance and the combined reputations of the members of the Board of Directors have a direct impact on the stock price of the company they govern. Individuals with unique leadership styles and varying levels of ethical standards must come together under one corporate code of ethics and conduct business in a complex and ever-changing business environment. Governance involves many different competing issues requiring assessment for importance and relevance by humans prone to serving their own self-interests. Good governance requires safeguards and redundant checks to serve the interests of the shareholder above the interests of the individuals placed in authority over corporate assets.

The question of ethical behavior is so important that I consistently recommend to clients that we conduct a full board assessment with an eye towards identifying areas in which ethical, business, regulatory and fiduciary standards may need reinforcing. The cost of these assessments is so modest that most boards have them done annually.

Good governance by a corporate board will ensure management’s compliance with the board’s stated mission and strategy. The board will effectively communicate with the shareholders of the company and take measures to act upon shareholder concerns. It is the board of director’s responsibility to assess the accuracy of corporate financial information provided to shareholders and the investment community. Independent third party auditors are a tool commonly as good governance practice by a board of directors to attest to management’s accuracy in reporting corporate finances.

The Board of Directors should be composed of a majority of independent directors in compliance with Sarbanes-Oxley. The independence of the board allows for a more free and accurate assessment of corporate management. However, the interplay of individual leadership styles and personalities must be taken into consideration when relying on the information compiled by the Board. The composition of the committees established by the board is critical to ensuring employee directors do not have undue influence on the integrity of the information flowing to the shareholders and investment community.

Professional governance will often employ performance incentives designed to link corporate management’s total compensation to achieving a board’s strategic objectives. A compensation committee assists the Board of Directors in assessing current compensation plans and recommending a plan to retain management talent and focus management efforts on the strategies outlined by the Board of Directors. The compensation committee, like the independent auditors, is a tool to ensure corporate management’s compliance with the established board of director’s strategic plan. The committee should conduct an assessment of corporate management’s effectiveness in achieving the measures established board of directors prior to awarding performance incentives to corporate management or the CEO. I have organizes these assessments for a number of clients. They are highly effective and relatively inexpensive. In fact, assessment tools are one of the best ways that a board of directors can meet its oversight obligations.

The Sarbanes-Oxley Act of 2002 set regulations in place for corporate ethics. Many boards go far beyond Sarbanes-Oxley to a corporate culture of high moral values and ethics. Rules and regulations provide a baseline of performance, but companies with established cultures of high integrity tend operate as well as or better than companies simply trying to comply with SOX regulations. Boards that establish active and aggressive Audit Committees led by knowledgeable professional directors and engaging competent advisers are much more comfortable with shareholder and institutional investor scrutiny. A culture of strong corporate ethical behavior and compliance management policies leads to strong shareholder confidence. When it comes to SOX compliance – as well as other board performance issues, I use a full board of directors assessment package. This online assessment gives the Chairman, the members and, most importantly, the shareholders a clear idea of how effective and focused the board is – and how effective each member is as well.

Since Sarbanes-Oxley, most stock exchanges have tightened listing requirements and enumerated governance models and structures. Private companies not listed on exchanges have adopted many of the same governance practices as companies complying with listing requirements and falling under the Sarbanes-Oxley regulations. Nonprofit boards often publish audited financial statements and corporate controls in an effort to ensure stakeholders of their good corporate governance practices.

No single governance structure will fit every board of directors or every company, and good governance is relative and varies by industry. Many corporations consider the Sarbanes-Oxley Act onerous, yet other boards have established cultures that far exceed mere compliance with Sarbanes-Oxley. Corporate ethics is a reflection of the ethical standards of the individuals of the leadership of the corporation. Rules and regulations can establish baselines of behavior, but the board must assess their performance and enact redundant controls to ensure compliance with the standards of the culture of the company they serve. The Board must be independent enough to act swiftly and decisively when the actions of any board member falls short of the ethical standards the board of directors have established.

Board ethics is too important that I always recommend an independent, third-party assessment – done annually – to assure that members are living up to their fiduciary obligations. Most boards see the wisdom of this and, in light of the modest cost, welcome the assessments as ‘insurance policies’ – ways to reduce their liabilities as directors.

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Related Articles:

• Good Governance – Board Member Selection Criteria

• Good Governance – Keeping Ahead of Fast Company

• Governance and Risk Management Strategic Plans

• Governance – Board Culture

• Board Diversity – A Subtle Challenge

• Components of Good Governance – Three Committees

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