What makes a board of directors truly effective?
Good governance practices suggest that the board of a company should be organized in such a way that the company can carry out the strategies set out by the board in order to meet the objectives without the board getting too involved in the company’s day-to-day activities.
To do this, the board needs to establish the structure that is appropriate to the company it serves.
For publicly listed companies at least, the Securities and Exchange Commission (SEC) Code of Corporate Governance requires that certain board committees be set up to enable the board to effectively carry out its functions as an independent and working body.
These include an independent audit committee, a nomination committee and a compensation committee.
The code also laid down the mandated duties and responsibilities of directors and key officers, which include the CEO of a company.
Although the code is not a one-size-fits-all approach, non-public companies can also benefit in terms of better corporate governance by adopting the provisions of the SEC code.
Setting up a truly independent and working board is fraught with many challenges.
For example, a small company may not need to set up separate committees. Perhaps having an executive committee will suffice in terms of monitoring its activities.
At the other end of the spectrum is a large company with many types of businesses or with several operating subsidiaries.
In this instance, it may be wise to set up committees or even subcommittees and assign at least one board member to take charge and have a handle on the company’s operations.
Whatever the structure, however, the specific duties and responsibilities of board committee members should be clear to each of them.
To do this, it may be necessary to promulgate separate board committee charters that would lay down the rules of engagement and the reporting lines.
In our firm, for instance, we have set up an executive committee within our board of partners.
The executive committee is composed of the managing partner and the heads of the service divisions, including risk management and technical support.
The executive committee’s mandate combines the responsibilities of the audit, compensation and nomination committees of a public company.
It may be the ideal set-up at the moment considering the small size and operating structure of our firm.
Perhaps, to improve the governance structure, a separate audit committee could be set up in the future.
Another challenge that many boards face today is the absence of truly independent board directors.
Ideally, an independent board director bases his decisions on what is beneficial to the company, and not on who appointed him or her to the board.
However, in my opinion and based solely on my observations, some of the independent directors of today in certain public companies are appointed mainly because of their connections and business relationships with the controlling stakeholders.
Hence, loyalty and the protection of the benefactor’s interests become the guidepost for the board director when making decisions, even if such interests run counter to the company’s well-being.
For example, large corporations controlled by certain individuals or families would have a common set of independent directors sitting in all affiliates and subsidiaries.
One would expect these independent directors to cater to the wishes of the controlling party that appointed them if there are contentious issues to be settled.
How can this challenge be addressed? Perhaps regulators can tighten up the rules.
It may be as simple as requiring independent directors to undergo extensive independence training on a regular basis or perhaps organizing a regulated pool of accredited independent directors who are compliant with mandated independence requirements.
Lastly, a truly effective board needs to have a system or mechanism to measure its performance.
I observed that some boards already have measures in place to appraise their performance.
It could be as simple as self-assessments in the form of questionnaires, or sometimes 360-degree assessments by key stakeholders.
For example, in a non-profit organization where I serve as board trustee, committee members are required to make a self-assessment and submit the ratings to the board committee chair in charge.
The critical issue here is if the results of the assessments are used subsequently as inputs to maximize board effectiveness.
This, I believe, is where the gap exists.
To close the gap, it may be necessary to come up with an equitable system of rewards and punishments (i.e., granting incentives or taking away benefits) as a response to a board director’s performance.
(The author is the head of Punongbayan & Araullo’s Advisory Services Division. P&A is one of the country’s largest audit, tax and business advisory firms. Send comments or questions to [email protected].)
