November 2019

To understand the important job that board directors uphold, we must first take a look into the complex origins of how governance boards came to be. While the foundational pillars of governance have remained constant, the dynamics of how they operate have since evolved to encompass broader roles. We will examine the historical emergence of boards to gain an understanding of the framework of modern governance, providing a necessary foundation for directors today.

The role of boards of directors is and always has been to protect and enhance the well-being of its corporation. The overarching definition of governance can be stated as a system to control the decision making processes surrounding resource allocation and risk tolerance. Different governance structures have emerged and evolved to perform this definition, but ubiquitous commonalities between these structures remains — the presence of intermediaries operating control between multiple owners, periodic reports of fiscal status to owners and an elected authority to appoint the leader.

The first demands for such a structure can be dated back to the early 17th century, when the Dutch battled for control of trade in the East Indies. With the launch of the Dutch East India Company (Verinidge Oostindige Compagne or VOC for short) in 1602, the Dutch were the first to introduce a stock market to Amsterdam, transforming its regional market towns into a dominant financial center. The VOC was an aggregation of private trading companies into a single entity, where the economic participants and managing directors acted as shareholders whose liabilities were limited to the paid-in capital, or what is today known as a limited liability corporation (LLC).

The Dutch Become the Predecessors of Corporate Governance

Alongside being the world’s first LLC, the VOC set the precedent for many other business practices such as establishing the world’s first stock exchange (the Amsterdam Stock Exchange) and releasing the first initial public offering (IPO). These progressive changes to corporate trade and allocated wealth created demands for new management strategies, leading to the early semblances of a governance board.

Governance of the VOC was organized into six chambers based on various ports. Seventeen delegates were selected from the managing shareholders to represent each chamber, with the last seat in rotation. They convened to administer executive decisions such as defining general policy, delegating operations, etc. 

The key feature of success in this early board was the carefully balanced representation of shareholder interests — an effective assurance that policies benefit the overall company. Another important feature of this board was that its directors did not originate from its passive shareholders, rather it was managed by the preexisting individual merchants that collectively held legislative and adjudicative power above the investors. This separation of ownership and control is a fundamental property that must be held in order to advance a company’s well-being, and we will see this as a common source of pitfall in boards moving forward.

Early Corporate United States

Shifting our focus to colonial America, as it strived towards an independent nation, they needed to learn how to operate as a confederation of states and redefine the roles of government. Examining the first 150 years of American history in the context of socioeconomic organization reveals the early origins of corporate America and how modern board practices came to be.

At the time the Declaration of Independence was written, large corporations were frowned upon for their unpredictable influences on the economy; hence only special corporations were allowed rights to formation under government authorization or a royal charter. However, the shifting power structures in post-revolutionary America incited national debate over private vs. federal control of corporations. In 1811, New York laid the groundwork for an incorporation law that established a simple procedure to register a corporation sans legislative permission and allowed investors limited liability. The incorporation law created a set of legal guidelines for corporations, including provisioning control to a board of directors and maintaining maximum capital under $100k. These policies reflect the formation of the modern board, as well as the ongoing dichotomy between corporate and political power.