Corporate Board Dangers

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

I have done a lot of work with boards of directors and frequently encounter boards that are simply not living up to their fiduciary obligations to the shareholders. In some cases, there has simply been no alternative but to replace all or most of the sitting directors. The liabilities to a corporation – and the directors – of an ineffective board are simply too great in this post Sarbanes-Oxley era.

One responsibility of a corporate board of directors is to keep the CEO focused on the task of executing the company’s strategic plan, operational priorities, compliance management, and meeting regulation standards. The board also has the responsibility for reviewing corporate financial statements, ensuring that the CEO is working to enhance shareholder value. If the CEO falls short of the goals established, the board has the responsibility of holding the CEO and the corporate management team accountable for failing to adequately execute the strategic plan.

The governance of a corporation is a difficult task even when a board is operating at peak performance. However, many boards do not operate at peak performance for various reasons including:

• Insider board members
• Dominant CEO
• Poor corporate structure
• Poorly functioning Audit committee
• Poorly functioning Succession committee

The job of corporate director comes with few benefits. Compensation ranges from $50,000 to $100,000 per year and involves at least ten to twelve days of intense meetings per year. However, during those ten to twelve days of meetings boards of directors govern the affairs of the company to the advantage of the stockholders. Unfortunately, boards of directors are usually self-perpetuating. Board failure is usually due to the composition of the board. Generally, this arises because sitting members and management are more interested in selecting supporters than in assessing the needs of the corporation and selecting new directors to assist in professional governance. Too many insiders over compensate directors and under compensate shareholders.

A strong CEO can easily dominate a weak board. A strong CEO with a dominant leadership style will often surround himself with supporters on the board of directors. With this type CEO acting as an adviser, search for new directors will often be limited to candidates suggested by the CEO. Directors are afforded limited opportunities for personal growth. Critical issues will receive limited analysis and superficial assessment. Strategic planning will simply be a rubber stamp of the direction the CEO intends to take the company, and management assessment will consist of the CEO presenting the board with his assessment of his management team. The Compensation committee generally approves the incentive plan payout with little regard given to actual performance or results. Shamefully, this is the standard governance model for far too many large corporations operating in America today.

The modern American corporation has the standard governance structure arrangement of a board, headed by a Chairman. The management is generally headed by a CEO or President. Often times the CEO is also the Chairman of the board of directors. It the CEO is also the Chairman, this type of governance model often does not provide the kinds of checks and balance on power that are a critical part of the structure.

Effective checks and balances must include a committee structure that establishes committees with charters. The committees act as adviser, but with the power to hire outside auditors and review the work of the outside auditors. The committee’s charter should guarantee the resources available to carry out the charter of the committee.

Two critical committees that must function at a high level include the Audit committee and the Succession committee. Both committees must consist of independent directors. Both committee charters should include the budget to hire outside advisory firms as needed. Corporate ethics guide members of these two committees to operate as advisory boards but also to operate independently of the board in addressing issues of management compliance and searching for new corporate directors.

Good governance begins with proper board composition. Periodic leadership avoids the corrosive effects of dominant CEO’s, weak boards and poorly functioning committees. With these checks and balances in place, the dangers associated with poorly composed and functioning boards are avoided.

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Related Articles:

• Directors and Officers Insurance

• Practical Governance Practices

• Officer and Director Vetting

• Errors and Omissions Insurance – Necessary Protection of Officers and Directors

• Determining Board Compensation Structure

• Good Governance – Strategic Positioning for Strategic Planning

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