corporate governance

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The Origins of the Corporate Board

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How exactly did the corporate board come to be? This is an important question to consider when thinking about how important board director positions are today. The concept of corporate governance in practice dates back as far as the 12th-16th centuries. Although many of the fundamental principles of corporate governance have endured the test of time, the dynamics of how they operate, including the responsibilities of individual roles and the distribution of power and decision-making, have continued to evolve.

The earliest roots of the corporate board can be found in Medieval Europe, where merchants and traders formed partnerships, sharing risks and profits. During this period, guilds, associations of craftsmen and merchants who practiced trade, played a significant role in the economic and social structure of the medieval village. Guilds had a sort of board that oversaw their activities and made decisions regarding things like trade regulations and apprenticeships. The individuals on this board were typically elected by guild members. This is the first concept of an early corporate board, meaning there was a group of individuals responsible for making decisions collectively and overseeing an organization’s affairs. 

More notably, the Dutch East India Company (the VOC), established in 1602, is highly regarded as one of the first multinational corporations. This company introduced a more formalized corporate governance structure. It had a board of directors and shareholders, serving as the template for modern corporate governance. More specifically, the VOC was made up of multiple private trading companies where individuals and directors acted as shareholders. Their liabilities were limited to their paid-in capital, meaning the company was essentially what is today known as a limited liability corporation. Critical elements of success for this board included the carefully balanced representation of shareholder interests and the director positions being filled by existing merchants who had authority over the investors. With these successes, we see the importance of separation of ownership and control and how a board should focus on policies that benefit the whole company.

In the 17th century, the formalization of stock exchanges was significant for defining corporate governance. Particularly, the establishment of the London Stock Exchange in 1698 greatly contributed to the development of joint-stock companies. Exchanges served as platforms to buy and sell shares of publicly traded companies, further reinforcing the need for corporate governance. This was more organized and transparent for companies who were aiming to raise capital by issuing shares to the public. Shareholders were able to vote on company affairs during general meetings, giving them a way to influence the board’s decision-making. The London Stock Exchange had requirements and regulations regarding financial disclosures and transparency of operations, which established levels of accountability in terms of corporate governance.

During the 19th century, the United States experienced a railroad boom, alongside the rapid expansion of modern corporations. The expansion of the railroad industry, during this period, led to the formation of many railroad companies and a surge in corporate activity. Therefore, corporate boards became more common, as growing companies needed increasingly complex management. The complexity and scale of railroad operations meant companies needed to improve their regulations and such. Many of these companies fell victim to financial speculation and fraud.

The Industrial Revolution marked a significant shift in business practices. This was a period that shifted manual labor-based economies to industrial and machine-driven ones. As industries expanded, the need for capital and management also increased. Capital accumulation led to the further emergence of joint-stock companies. The concept of limited liability became even more crucial to protect the financial responsibilities of investors, leading to newly developing legal structures and other management. The formation of corporations continued to expand.

Finally, in the 20th century, we witnessed the formalization of corporate governance. The term, “corporate governance,” wasn’t actually used until the 1970s and largely stayed within the United States. During this time, the role of the board became more defined, as corporations grew in influence, with an emphasis on representing shareholder interest, strategic planning, and management oversight. 

Today, corporate boards are a necessary part of corporations, playing a crucial role in decision-making and oversight. The many historical pioneers, of simpler corporate governance systems and the framework of principles they began with, are still relevant to this day. Modern responsibilities of today’s board directors have changed greatly and their complexities will continue to evolve. 

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Board Organizational Frameworks

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Developing a strong organizational framework for the board of directors is critical to ensuring that company matters are addressed by the correct committees and receive the attention necessary for solving these matters. Issues of importance should be prioritized appropriately and given ample time for review. 

Corporate Culture and Board Organization

There are many mechanisms for organizing the board, all of which lead back to the topic of corporate culture. Corporate culture begins with the board; if the board is unable to establish an understanding grasp of what motivates corporate behavior, the rest of the company will follow suit. Failing to give thoughtful attention to employee and executive interactions, behaviors, and language will undoubtedly result in a disorganized board and a company that lacks a clear focus of what defines its team members. Thus, it is important for boards to maintain an environment that fosters engagement and meaningful conversation as a backdrop against accomplishing agenda tasks. This is the first step to spreading a culture of candor and trust within the company and cannot be accomplished through one 40-minute team bonding meeting. It must be consistently worked upon and established over time through healthy discussions of sensitive topics, transparency about company goals, and acknowledgment of personal weaknesses to make room for learning growth. 

Corporate culture should also be included in a company’s formal risk assessments as it can very easily influence workforce productivity, company reputation, and law breaches. According to the 2017 Board Leadership of Corporate Culture in Europe Report, approximately 85% of the value of leading businesses come from intangible assets, such as a company’s brand, reputation, and internal relations. These intangibles are all inextricably linked to the board’s ability to set the right organizational culture and are important factors to business success. Thus, investing more time and resources into mindful culture development will bring a company greater returns. 

Tailoring the Board to Meet Company Needs

When talking about board organization, it is important to keep in mind that not every board is the same. Board work should be tailored to the specific needs and culture of the company. What makes sense in the context of one board may not work for another. While looking at best practices and board trend reports may be helpful in establishing a general framework for your own practices, it should not be viewed as the golden rulebook of board organization. Such trends come and go; a company should only adopt a policy after considering the specific benefits it will bring in their unique corporate circumstances. 

One example of the significance of examining company specifics is the debate over combining or separating the chairman and CEO roles. One generally accepted argument is that the role of the CEO/management is to run the business operations while the role of the board is to oversee this management, thus the leadership of the two roles must be separated to keep each other in check. Conversely, others argue that the role of the CEO and Chairman go hand in hand and can be combined to one position of oversight. This age old debate has no one-size-fits-all answer because it depends on the circumstances of the company. In the U.K., the CEO does not serve the dual role of the chairman, whereas in the U.S., over 50% of CEO’s surveyed also serve as chairman. 

A simple yet helpful device for setting the distinction between management and board decision-making is to set up periodical reviews of the specific responsibilities reserved for the board. While this is just one example of how different systems can adopt differing policies, in general, all major questions regarding board and leadership structure require careful consideration of the unique set of company needs and corporate culture that influence these decisions.

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Tips for Virtual Board Meetings

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In the midst of the current COVID-19 pandemic, virtual board meetings have proven to be an invaluable and necessary step to take in preventing the spread of disease. Virtual meetings are an effective way to convene during times of crisis and save valuable time and resources by eliminating the need to set up a physical meeting location. One of the greatest benefits of remote meetings is that they allow members of a team to communicate quickly and efficiently from the comfort of their own offices. This facilitates more frequent meetings and check-ins, added flexibility, and greater convenience in information sharing. 

Today’s modern technology has revolutionized the way virtual meetings are conducted, offering a variety of tools and software options to suit any meeting purpose. Advanced digital products are now available to provide greater security, offer cloud sharing options for file exchange, and support larger teams. Over time, video-sharing platforms have evolved to produce a streamlined process for conducting remote meetings and scheduling follow-up video chats. 

In the quest to practice social distancing and protect employees from undue health risks, it is imperative for companies to switch to remote meetings and set up the right tools for a fully integrated digital governance framework. With the right preparation and an understanding of the best practices for virtual conferencing, companies can ensure that their teams stay up to date on the latest tasks at hand and operate just as, if not more efficiently, while reducing the time and capital spent on setting up in-person meetings. 

We have gathered and summarized below the best tips for creating an optimal virtual conferencing environment. 

Setting up the Right Technology

Prior to switching to virtual meetings, the company must standardize what technologies will be used across the board. Selecting the right video conferencing portal that comes with sufficient security and private access is important in making sure that sensitive business intelligence does not get leaked to outsiders. A recommended software is Zoom because it allows users to send out private, password protected video conference links with capabilities of hosting up to 1,000 video participants and 10,000 viewers. Send out an announcement within the company that mandates everyone to download and run a test session with the chosen software to make sure everyone is able to access it before beginning any actual meetings. This also allows users sufficient time to become acquainted with the software’s features so that no time is wasted fumbling around with technology during actual conferences.

Creating an Agenda

Once the software is confirmed to be working for everyone, set up a virtual Google calendar that clearly details the time and agenda of each meeting, with the option for attendees to mark if they are able to attend. This creates transparency on who to expect at each meeting and creates ample time to reschedule if not enough people can make a certain time. In order to ensure that all board members are prepared, the board administrator must notify everyone at least three days in advance of the upcoming meeting with a reminder for speakers to send over their prepared talking points so that a transparent schedule can be outlined for the meeting. This ensures that the meeting does not run significantly overtime or get sidetracked. 

Meeting Etiquette

In order to optimize participant engagement, the video host must have a strong grasp on remote conferencing etiquette. This requires the board chair to first determine the right number of attendees to invite. A good rule of thumb is to keep the number of speakers limited to 10 so that there is less cause for talking over one another or inactively listening without contributing to the conversation. 

Next, determine what the best time to set up the meeting would be. Remember to be mindful of time zones and choose a schedule that is as convenient as possible for everyone. Sending out a Google poll with multiple meeting options can facilitate the process of picking the best time. 

Prepare your speaking points before the meeting and enter the virtual space at least 5 minutes prior to the scheduled start time. Greet participants as they join the space and introduce yourself as the meeting’s host. This will make participants more inclined to engage if they know who is running the show. Clarify any housekeeping rules before the meeting begins pertaining to the order of speakers, the basic features participants can use if they want to send a chat or pose a question, and an overview of what will be covered. 

Turn off your notifications to prevent any distractions and instruct participants to do the same. An alternative way to minimize distractions is to mute the participants’ audio and instruct them on how to unmute themselves if they have a point to make or when it is their turn to speak. This reduces the level of background noise and makes it easier to focus on the speaker. 

Meeting Follow-Up

After the meeting is over, include extra time for questions and feedback on how the meeting ran. Taking suggestions for improvement is key to making sure future meetings can run smoothly and eliminating repeat issues. Sending out a follow-up email one day after the meeting is a good way to make sure participants benefited fully from the meeting, clarify any sources of confusion, and perform post-meeting progress checks. Virtual meetings should always be recorded with the consent of its participants so that people can refer to the recording if they missed anything or were unable to attend. 

With these tips in mind, your virtual meetings will run smoothly and become a powerful tool for holistically maintaining remote productivity across all teams. By leveraging video communications, corporate boards can continue to operate efficiently from home and address key issues without interruption.

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Tips for Navigating COVID-19

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Editor’s Note: Don’t forget Board of Director’s primary responsibility is insuring the well being and longevity of the company, which means making sure the company has the resources to function, retaining customers and employees, and managing risk.

The COVID-19 outbreak is a human tragedy that has affected detrimental impacts on families, consumers, businesses and the global economy. Navigating this novel incident is a tricky situation that companies and boards must prepare for. The effects of this pandemic have reached a never before seen global scale, with long-term consequences that are far-reaching and complex. So far, the coronavirus has disrupted worldwide trade, caused the stock market to plummet, and brought about country-wide lockdowns, canceled major events, and restricted travel. It continues to be the center of public policy discourse and is rapidly spreading, forecasting unpredictable changes in the future. 

As of now, over 175 countries have reported COVID-19 cases, with the U.S. alone reaching over 1 million cases this past week. During this time of crisis, board members must work together and assume their leadership roles to establish trust and guidance moving forward, taking care of employees and consumers alike. Companies must keep a vigilant eye on their region’s public policies to determine the best course of action and predict the contours of the pandemic in the following months. 

The key areas of concern companies should concentrate on are supporting employees and protecting them from a work-at-home basis, monitoring the pandemic’s spread, safeguarding consumers by enforcing social distancing, and planning for the next phase of disease spread. 

Key Areas of Concern

1. Supporting Employees

During this difficult time, many employees have found themselves out of work and unable to financially support their families. It is important for boards and management teams to be sympathetic of their struggle and provide reassurance about where different positions within the company stand. Enacting a work-from-home mandate is the first step to preventing further disease spread while maintaining workflow. To improve the efficiency of remote work, companies must create a transparent remote environment equipped with the essential communication, networking, and cloud sharing tools to operate as a cohesive unit and drive productivity. Sick-leave, scheduling, progress tracking and other work norm policies must also be amended to ensure health and safety at the forefront.

2. Monitor the Pandemic’s Spread

Boards must remain informed on key indicators of where and how the virus is evolving to conduct accurate scenario planning. Understanding how the pandemic might develop is essential to developing a fast response plan and emergency measures to take that prioritize protecting lives while minimizing financial losses. Board members must think critically about actions to take for cyber breaches, recalibrated consumer spending, economic recovery, and rapid day-by-day adaptations to change. Companies should have various plans in place that account for long-term remote operations and be aware of potential permanent changes to economic spending and market demand shifts that will persist even after the outbreak has relented. 

3. Safeguarding Consumers

Companies must play their role in curbing the pandemic by enforcing social distancing for their consumers. With many operations shut down during the lockdown, companies should brainstorm alternative ways to service their customers and ensure the safety of their goods. Communication and information sharing is key to establishing transparency with consumers about what services can be accessed, changes in refund policies, and what to expect moving forward. Board members play a critical role in this process by ensuring clear lines of communication between directors, management, employees and consumers. This enables unity and ensures collaboration on a single agenda. 

4. Planning for the Next Phase

As the pandemic continues to unfold, it is unclear when the state of the world’s health will return to normal. With this in mind, boards and executives must lead with resolve, resilience, and reimagination. Planning for the next step may be difficult when the atmosphere is heavy with uncertainty, so companies must remain open-minded and unopposed to drastic reinventions and institutional changes. Predicting market changes, reconsidering fixed versus variable costs, shutting down unneeded operations and opening new avenues of opportunity ultimately define business success and create a new compass for how to better deliver to customers. 

During this time, the most important priority for all parties is staying informed on the latest outbreak updates, being proactive, and maintaining protective health measures. As with any crisis, the coronavirus pandemic presents companies with the opportunity to emerge stronger and more resilient in the coming months should board members and executives collaborate with these following tips in mind.

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Scandal Outbreak Leads to Corporate Boardroom Reforms

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The fundamental pillars of corporate governance revolve around independent, non-biased decision making that serve the best interest of the company, though early boards lacked the legal and structural framework to uphold these principles. As numerous scandals led to rising public scrutiny, the role of the the board evolved to encompass a separation of director interests from those of upper management to prevent the reoccurrence of corporate collapses at firms such as Enron Corp., WorldCom Inc., and Global Crossing Ltd.

Post WWII Developments

The economic boom following World War II allowed corporate power to flourish, making the role of governance boards increasingly important. During this period of market growth, corporate managers were leading the reigns while board directors and investors were expected to follow. With corporate powers mushrooming out of proportion, the board of directors served more of a symbolic role than actual oversight which led to an era of scandals and financial fraud, one of the most notable being the wreck of Penn Central. 

Penn Central’s collapse in the 1960s was caused by its board’s misinformation, poor monitoring of capital and its further debt propagation of $100 million in dividend approvals. The story caused a widespread backlash against inside directors and fueled the shift in board structure from the advisory to oversight model. As more firms such as LTV, Ampex and Memorex came under fire for fraud and mismanagement, recognition grew for the significance of independent directors. Reform was on the horizon.

Things began to change in the 1970s when the Securities and Exchange Commission (SEC) introduced new regulations that cracked down on the structure of boards. In 1976, the SEC pushed the New York Stock Exchange (NYSE) to require audit committees be composed of independent directors with access to accurate accounting information and outside auditors should they see fit. Other legislative reform proposals placed emphasis on shareholder representation and the distinction between management and oversight members. This era of corporate governance reforms had the collective effect of reconceptualizing the board’s purpose and composition in favor of actively informed, nonpartisan decision-making.

The Rise of Institutional Shareholders

Moving into the 80s, corporate governance focus shifts back to shareholder’s rights and deregulation that corresponded with a political rightward shift. Lawmakers and corporate advocates let corporate governance reside to align itself with the market mechanisms. During this decade, “The Deal Decade,” institutional investors bought more shares and held more than 40% of the U.S. equity markets, giving them more control to exercise hostile takeovers. The cycle of mergers and acquisitions that ensued were mainly motivated by quick returns.

Fearing takeovers, executives and legal courts turned to the idea of independent directors to decide on hostile bids and compare them against the value of the company. In a series of cases, the Delaware Supreme Court gave boards permission to adopt a “poison pill,” a corporate finance technique designed to drive away hostile bidders by imposing them with high costs. Placing the responsibility on independent directors re-enforced the oversight and judgement role of directory boards. 

The value of independence continued to grow at the turn of the century, as reflected by continued tightening of standards for disqualifying relationships of directors, reinforced legal frameworks for fiduciary duty violations and equity linked compensation rewarding vigilance. Beyond this, internal structure developments led to the formation of nominating committees to shift the power of director selection away from CEOs. In 1996, the federal government further established the board independence standard through Section 162(m) of the Internal Revenue Code which appended a set of eligibility criteria that prohibited former officers of a corporation or anyone who has received compensation, either directly or indirectly, from said corporation to act as directors. These IRS regulations divorced economic interest from corporate governance and became important guiding points for future evaluations of board independence.

Post 2000 Board Refocus

As the economy continued to grow in the early 2000s, the lack of robust legal standards, and growing market conditions ripened the scene for numerous cases of fraud, such as systematic financial mis-reportings and deceitful accounting practices. One of the most severe and prevalent forms of profiteering was stock option backdating. Following a 1972 revision (APB 25) to accounting standards, companies were able to report executive incomes in the form of “at-the-money” stock options as business expenses for the purpose of increasing executive compensation while misinforming shareholders. Many companies then discovered that by backdating stock option grants, they were able to generate additional income that was both tax-deductible and held an underlying lower stock price. This resulted in widespread earning overstatements and record falsifications.

Enron Scandal Leads to Sarbanes Oxley

Enron Corporation, a major energy, utilities and natural gas company, was exposed in major case of institutionalized accounting fraud that generated a vicious cycle of insider trading and money laundering among its executives. In 2001, Enron filed for bankruptcy and emerged from it in November of 2004, reorganizing under the name Enron Creditors Recovery Corp. and continuing its streak of fiduciary failure, high risk accounting and “off-the-books” activities — all of which was facilitated by their lack of independent auditors and board members. Enron’s board was comprised of members who held financial ties with the company and inappropriate conflicts of interest that fueled the wildfire of diverting funds, overstating profits, and growing debts. 

In the wake of major scandals from Enron to Worldcom, the federal government cracked down on lax corporate laws which led to Congressional hearings that focused on the responsibility of board directors in such matters. Following the hearings, the Sarbanes-Oxley (SOX) Act of 2002 was quickly developed and passed which mandated, among other things, independent board audit committees, the creation of the Public Company Accounting Oversight Board (PCAOB) to regulate auditing processes, internal control tests, and required that CEOs and CFOs to attest to their financial statements. The principal goal of SOX was upholding financial integrity, though it accomplished sweeping accounting reforms beyond this by reestablishing the expected roles of corporate boards.

SOX continues to have a profound impact on capital markets and boardrooms today. By enforcing independent audit committees, it strengthens the board’s role in overseeing management’s accounting practices to separate conflicting interests and ensure that no misreportings slip through to the public. In addition, SOX imposes harsher punishments for securities fraud by sentencing up to 25 years in prison if top management knowingly signs off on falsified reports. The company also loses credibility and investor confidence when they publish the required accounting restatement stating management’s misconduct. Finally, SOX strengthens disclosure between companies and the public by closing the loopholes for off-the-books activities. 

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What is the Role of a Board of Directors?

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In simple terms, boards are the governing bodies of corporations elected to make major decisions concerning financing, mergers and acquisitions, selling the company, nominating the CEO, and when or if they should release an IPO to take the company public. 

The board serves the corporation as its agent and makes decisions in an unbiased service of the company and its shareholders’ best interests. An important distinction to note between board members and management teams is that it is not the board’s responsibility to run the company. Their responsibility falls more under oversight and ensuring that the right people are running the company. Boards that get too involved risk undermining the management team and fail adherence to the crucial board principle of acting with independence. 

The sum of these responsibilities is a board’s fiduciary duty, meaning they must place the company’s best interest before their own. This sounds simple in theory, but in practice, many boards run into trouble when faced with difficult decisions that go against their personal interests. Therefore, it is poor practice for board members to have strong financial ties with the company that will inhibit them from acting ethically. 

High performing boards will maintain an active spirit of debate. Because every matter of strategic importance needs the board’s approval, good directors must always be on their toes and highly involved in deliberating the best course of action. Additionally, good board members must listen carefully to and respect opposing opinions. Only then can a consensus be reached efficiently and smoothly. 

The leader of the board, the chairman, must ensure that everyone remains in check and leads the decision-making process. The chairman should not be affiliated with the CEO and should weigh the CEO’s opinion of no greater importance than the board directors. A strong chairman will drive its board to ask the necessary hard questions, challenge the status quo, and continuously evolve to develop highly informed, up-to-date perspectives.

The trending evolution as of late has been a sweeping move to incorporate more diversity members and women on boards. A more diverse board reflects an independent board selection process and predicts a greater ability of the board to make unbiased decisions that have been considered from all angles. 

Diversity standards typically mean having at least one person of color, one woman, and one independent director on the board, though recent growing pressures to increase diversity have caused some companies to raise the standard to at least two people of color and women. The current top-three public companies ranked by board diversity are leading this movement with numbers as high as 60% female directors in Stitch Fix, 50% ethnic-minority directors in Hewlett-Packard, and 92% independent directors in Verizon. Further proof of the diversity movement is seen through Goldman Sachs CEO David Solomon’s statement that the bank will no longer take companies with all-male, all-white boards public. 

It will be interesting to see how these shifting board dynamics play out, but in the meantime, we can rest assured that the overarching roles of boards are not changing anytime soon. 

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Overview of Board Committees

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In the ever-changing digital age, board committee structures must constantly evolve to keep up with changes in capital markets and trade policy. Board members face new challenges everyday regarding the complexities of corporate values, strategy and risk management. 

A recent Harvard Law School study tracked board structures since 2013 to examine how S&P 500 companies are using board committee structure to address oversight needs. They found that although boards have been growing to encompass additional committees, the underlying framework has remained largely the same and rely on three key committees– audit, compensation, and nominating and governance– that are required by the stock exchanges. Bank holding companies (BHCs) are required to have one additional risk committee to review their global risk-management framework. Beyond this basic structure, most institutions have one additional standing committee to oversee finances or executive order.

During 2013-18, the portion of companies with at least one additional committee grew marginally from 74% to 76%, and the average number of additional committees remained largely consistent.

Harvard Law School Forum on Corporate Governance

Top Additional Committees

Findings on the top additional committees in 2012-18 are as follows.

Executive Committee: Exercises authority of the board when the board is not in session, except in cases where action of the entire board is required by charter, bylaws or applicable law. (36% of S&P 500

Finance Committee: Oversees capital allocation, financial policies, strategies, capital structure, and annual operating and capital budget. The finance committee may also oversee investments, dividend policy, credit and other market risks, share repurchases, and mergers and acquisitions. (36% of S&P 500)

Compliance Committee: Oversees programs and performance related to legal and regulatory risks, as well as implementation and maintenance of the company’s code of conduct and related matters. The compliance committee may have special focus on compliance in a specific area, e.g., environmental, health, safety and technology. (16% of S&P 500)

Risk Committee: Recommends the articulation and establishment of the company’s overall risk tolerance and oversees enterprise-wide risk management to identify, assess and address major risks facing the company, which may include credit, operational, regulatory, interest, liquidity, investment, funding, market, strategic, reputational, emerging or other risks. The risk committee reviews and discusses management’s assessment of the company’s enterprise-wide risk profile. (11% of S&P 500)

Technology Committee: Oversees and assesses the company’s technology profile and related strategies and makes recommendations regarding the execution of technology enablement formulated by management. Technology committee members address opportunities and risks regarding technological strategies, including aspects of cybersecurity. (7% of S&P 500)

Public Policy and Regulatory Affairs Committee: Reviews significant legislative and regulatory initiatives by state, federal, or foreign government authorities, as well as other public issues likely to affect the company and its shareholders. They oversee the development of company policies in response to these developments and may have a related compliance function. (7% of S&P 500)

Corporate Responsibility and Sustainability Committee: Reviews policies and practices related to specific public issues of concern to shareholders, the company, its employees, and the general public. They maintain oversight of corporate responsibility, environmental sustainability, diversity and inclusiveness, and reputational risk. (6% of S&P 500)

Finding the right committees for your specific company depends on the company’s unique needs and must address the company’s major concerns in a forward-thinking manner that will motivate new strategic thinking. However, some common trends that span across all industries is a focus on technology and sustainability as we move into the new decade. Keeping these trends in mind when considering the most effective committee structures will be a smart move for companies who want to succeed in today’s hyper competitive, highly disruptive markets.

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Board Structure Strategy

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The board of directors is appointed by a company’s shareholders with the expectation that directors will govern according to the shareholders’ and company’s best interest. Their purpose is to discuss strategies and make key decisions on financial affairs that will lead the company towards long-term prosperity and sustainability, while protecting the interests of all shareholders and stakeholders. Ranging from corporate governance, to corporate ethics, to corporate social responsibility, board directors are expected to have individual areas of expertise and impart their knowledge during debates to collaborate with other directors on defining the best course of action. To execute this duty, boards are split into committees that each oversee a specific area of the company’s performance. The structure of these committees depends on the type of company it is and the company’s goals.

Best Practices for Board Structure

Typically, board terms are staggered to prevent hostile takeovers. The candidates are elected during a corporation’s annual general meeting by current board directors and shareholders, and should possess some level of managerial experience. Though today, many companies are changing their criteria for board candidates and reducing the amount of managerial or board experience required, instead focusing on the unique area of expertise a candidate can bring to the table that the company is lacking in. For example, a company may decide to appoint a former IT specialist or software engineer with no prior board experience if the company is trying to strengthen their technological strategies.

Having a certain quota of independent directors is also important regardless of the company type or direction because it minimizes bias and external pressures in the boardroom. The Securities and Exchange Commission (SEC) requires that public companies have a majority of their board be independent directors. The reason independent directors are preferred is because they are more likely to provide an objective opinion on what is best for the company and less prone to hop on bandwagon opinions that mostly serve upper management. Independent directors must also possess a strong level of business expertise in order to accurately translate their opinions into financial decisions and approve transparent financial statements. 

While board members are expected to bring at least one area of outside expertise to the table, nowadays, the most successful boards are composed of directors who are experts in multiple topics. It is currently well-encouraged for company boards to recruit recent college graduates with a major in business and minors in related fields such as cybersecurity, data science, or marketing management. This ensures that the board is composed of the most up-to-date, well-rounded intelligence. 

Another key topic to board composition is diversity. There has recently been increasing pressure for companies to appoint more women and people of color to their boards to reflect a more independent board selection process. The reasoning behind this is that companies with a predominantly white, male board most likely possesses some level of bias in their selection process and is not guaranteed to deliver a diversified range of opinions that serve public interest. The more diverse the board, the more diverse its range of robust expertise and perspectives. 

Finally, boardroom best practices recommend establishing term limits to consistently refresh and evolve board composition. In the past, board members could expect an automatic reappointment at the end of their terms. This is no longer the case because it leads to boardroom stagnancy and a recycling of the same perspectives. With today’s fastly evolving technological and corporate landscape, board directors are expected to serve a maximum of 12 years in tenure. This standard is meant to open up more vacancies for new, forward-thinking members. 

With these practices in mind, nominating committees have much to consider in electing the most qualified, highest performing board. The key takeaway to remember is that no matter the service a company provides or the industry it belongs to, all companies need a highly independent, diversified board with expert knowledge in a wide range of fields in order to successfully oversee management and lead the company to success.

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Tone at the Top: Why Board Member Values Matter

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No matter how many policies and guidelines a corporation issues regarding standards of behavior, the lessons that matter are not expressed through writing. Tone at the top tier management level is all about trust, and trust is earned through actions. People on all rungs of the corporate ladder notice on a daily basis the attitude of their leaders and talk about it at the water cooler. If leaders do not act in a trustworthy and ethical manner that upholds consistent company values, its effects will be amplified throughout the organization. This can generate a detrimental cascade of morale loss and productivity plummets whose effects extend beyond the company to its shareholders, ultimately hurting one of every firm’s most important intangible assets— public goodwill.

It won’t be long before these effects are reflected financially as earnings per share begin to drop and the company’s reputation falls apart. Not to mention, the loyal employees of the company will also lose respect for its management, causing efficiency to decline and structural organization to weaken. Employees value the sense of pride and integrity that comes with working for a company, beyond simply turning a profit. When choosing where to work, employees look for companies exhibiting strong, cohesive values that resonate with the public. 

Hence, establishing and exercising core values in the boardroom early on is imperative to ensuring a company’s credibility and unity.

Strategies Proven to Improve “Tone at the Top”

  1. Establish clear values and expected standards of behavior. The CEO and upper management should design and publish operating principles that reflect the company’s principles as well as provide stringent operational and ethical expectations for its workforce.
  2. Strive for consistency between standards and actions. When dealing with corruption cases, companies must issue a swift response and honor its guidelines. It is important for board members to focus on enforcing company principles rather than depart from them during high pressure situations to mitigate the damage of such cases. Failing to comply with company standards or trying to slide the problem under the rug will result in a larger scandal down the road and risk a major breach of corporate trust. 
  3. Stay vigilant for internal dissatisfaction. Monitoring corporate buzz and internal affairs will afford a richer understanding of company culture from the perspective of different stakeholders. This gives management a better idea of what’s working and what isn’t in striving to achieve greater employee satisfaction levels and productivity.
  4. Reward principled performance. Successful companies develop a framework for recognizing and rewarding ethical performance, especially in ambiguous or difficult circumstances. Spotlighting and rewarding good behavior throughout the company, regardless of status, will incentivize others to follow that same model.
  5. Manage upward paths carefully. Management should be careful not to promote anyone with blemishes on their ethics or compliance track record. Negligent promotions feed the belief that poor compliance records are overlooked and acceptable, leading to future nonconformism should ethical issues re-arise.
  6. Genuine networking to spread company ideology. Businesses are all about connections, so it is well-recommended for the CEO and board to establish connections with key stakeholders both within and outside of the organization. Leaders must openly communicate their values on an ongoing and transparent basis, using different platforms and dissemination systems. 
  7. Communicate with top management. While the behavior of all members of an organization carries a weight, remember that the CEO’s behavior is the most publicized when it comes to telling the company story and holding responsibility for a company’s growth or mishaps. Behind the scenes, boards hold a direct responsibility in overseeing and understanding how management’s actions are perceived by the public. Establishing collaborative communication between the two parties will keep company performance in check and boost the company’s public standing.

Key Takeaways

Setting the right company tone is pivotal to ensuring company success and reputability. Communicating the right values to both internal and external players will facilitate healthy corporate relations with investors, employees, suppliers, regulators, and other constituents. Many corporate failures can be linked to CEOs and governance boards who have neglected to develop a cohesive company culture grounded in integrity, leaving room for scandals to arise. Sometimes, all it takes is a single rumor of impropriety and inefficient conflict management to turn a company’s reputation on its head. Ultimately, the moral fiber of an enterprise rests upon the collective effort of its board members and management to monitor these rumors, deliver judicious consequences, and enforce strict company regulations.

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The Importance of Audit Committees

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Public companies are required to have audit committees to perform annual audits of their financial reporting and disclose certain financial information. This requirement was established by the Security and Exchange Commission (SEC) in 2002 after the passage of the Sarbanes-Oxley Act (SOX), which formally defines the roles of the audit committee as overseeing financial reporting accuracy, hiring independent external auditors to examine financial statements, and reviewing the company’s internal accounting controls.  Having accurate and honest financial reporting that abides by the standards set forth by the U.S. Generally Accepted Accounting Principles (U.S. GAAP) is important for conveying company performance to internal investors and external shareholders. In the past two decades, the roles of the audit committee have significantly expanded to encompass a greater risk management responsibility due to the emergence of new technological forms of risks (i.e. cyber risks, cloud safety, etc.) 

Challenges Facing Audit Committees

With the ever changing landscape of technology, there has been a growing range of risks that the audit committee must oversee. Risk management is an imperative part of the audit committee’s job that has grown increasingly complex due to new components, such as cyber risk, Environmental, Social and Governance (ESG), and corporate culture. This rapidly evolving agenda of audit committees has led many firms to begin considering forming new committees to conquer and divide the responsibilities. 

Of these roles, cybersecurity has been a hotly contended subject. Cybersecurity is a relatively new area of risk management that forms an important component of strengthening a company’s technological profile, efficiency, and data systems. While this area has been traditionally under the jurisdiction of audit committees, many firms have formed their own full-level “cyber risk” committees to oversee it. In today’s digital landscape, with many companies migrating their data and communication channels to cloud-based solutions, cyber risk becomes one of the greatest risks enterprises face, and audit committees manage an up-to-date eye on it by either focusing their resources to develop sound cybersecurity frameworks or assigning the role to a new committee. 

Maintaining Independence

Audit committees also face the challenge of providing unbiased analysis of financial reports independent of their affiliations with or knowledge of the company. The SEC requires that audit committees be composed of independent directors in order to objectively manage a company’s accounting practices. Just like how having an independent board is important to overseeing the company’s welfare and balancing all party’s interests, maintaining an independent audit committee is especially important because it concerns providing an honest, accurate, and legally abiding accounting process and directly deals with profit misreporting or manipulations. 

For this reason, the SOX requires public companies to hire external auditors for an added layer of security. Independent auditors are certified public accountants hired to provide an objective, third party assessment of a company’s financial reports and audit process. If they determine that a company complies with GAAP, then they will issue the company a standard audit report. Otherwise, they will order management to revise their statements and recommend changes to optimize the company’s system of internal controls.

How to Improve Audit Committees

  1. Maintain and Refresh Committee Expertise. Since the roles of the audit committee are constantly expanding and evolving, companies must keep a vigilant eye on their audit committee’s governance and composition to ensure that they consistently include members of all areas of expertise. They must consistently reevaluate the company’s needs to assess new risks and expertise areas to recruit in. 
  2. Strengthen Cybersecurity within the Committee. Audit committees handle the company’s most sensitive information and are the most susceptible to data breaches. Educating audit committee members on basic data protection practices and establishing ground rules for communications, such as never using a personal email or texts, will reduce the risk of information leaks and hacks. 
  3. Understanding Regulations. Members of the audit committee should all be familiar with SOX. In 2003, the SEC adopted a new standard that mandates national securities exchanges to disallow listings from companies that do not meet the audit committee requirements of SOX. Since the audit committee’s key roles are all regulated by SOX, boards should understand these requirements in and out to ensure that their performance is in compliance.
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Representing Shareholders Best Practices

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Corporate governance is an important topic of interest to many investors because it represents a key metric for a company’s future sustainability and success. Both shareholders and stakeholders alike are keen to notice strong governance and a comprehensive board strategy, leading corporate governance to become a paramount determinant of corporate reputation. 

Best Practices for Improving Shareholder Relations

Establishing a strong foundation of governance principles the board should operate by is the first step to establishing a good reputation with the public. Strong values are intrinsic to forming trust with a company’s shareholders and can lead to a higher valuation of the company. Setting the right values and tone also ensures transparency and provides guidelines that hold the company accountable for any potential abuses of power or fraud. Creating a sense of corporate liability within the board is a key component of board culture and effective leadership, which prevent scandal outbreaks such as Enron’s downfall. 

When shareholders see that a company has a clearly structured framework of guiding principles and values, they are more willing to invest in the company. This is important for raising a company’s Earnings Per Share (EPS). Thus, company’s should keep their investors’ values in mind when forming such a framework. A robust and flexible set of shareholder rights must be established at the forefront to protect their stake in corporate ownership. Investors want to know that their investments are being protected against security and system risks. 

Once the basis of corporate guidelines is formed, boards must remain vigilant of the changing consumer landscape, digital trends, and market demands to be able to consistently update and improve upon their principles. Modern governance must evolve and adapt to technological advancements, current events, and information spread. Maintaining a fresh perspective on current affairs is necessary for understanding shareholder interests. 

How Much Control Should Shareholders Maintain?

The post Sarbanes-Oxley corporate climate defines a clear distinction between ownership and control. Security laws of the 1940s set up checks and balances to ensure that management operates in the best interest of all parties. The shareholders have ownership of the company, management controls the operations, and the board of directors are responsible for overseeing the operations and representing shareholder interests. 

Board directors are responsible for making nonpartisan judgement based on the company’s established principles to reign back management’s decision-making power. They act as agents of the shareholders and must have a strong understanding of policies that create long-term shareholder value. Shareholders typically have limited power to influence how a company is run; but if company performance drops, shareholders exercise their right as the owners to ask questions, examine board practices, and elect a new board should the existing one fail to meet their fiduciary duties. 

Board members are elected by shareholders based on the expectation that they will equally represent all shareholders, regardless of their ownership stake. During the annual meeting, all shareholders should have their opinions voiced by the board in terms of company values, goals, and vision. Board members must abide by a code of conduct which mandates there be no conflicts of interest between ownership and management. Should such conflicts arise, boards must ensure that management sets aside their personal gains for the interests of the company. 

These practices ensure that a company is operating with integrity, honesty, and corporate responsibility. Board members must maintain a transparent relationship with shareholders and be prepared to answer their questions to demonstrate that their investments are safe. 

CEO Search

Choosing the Right CEO

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One of the integral responsibilities of the board of directors is choosing the right CEO for the company. Directors must carefully weigh and discuss this decision, keeping in mind the company’s performance needs and actively planning for succession. The integrity of the CEO is essential to a strong company relationship and enabling the board to meet its expectations. The board of directors and the CEO work closely together in monitoring and managing the company; thus, boards must wisely choose a CEO who exhibits the same company founding principles and with whom they can work well with. If done successfully, this can lead to a wonderful symbiotic relationship of strength and leadership. However, if done poorly, the lacking communication and trust between a CEO and the board can present the downfall of a company.

Qualities to look for in a good CEO

A strong and capable CEO is one who is committed to the long-term value growth and success of his/her company, as well as someone who is receptive to the robust oversight of the board and willing to collaborate in effective teamwork. A well rounded set of analytical skills, social awareness, and communication skills is a key criteria to selecting qualified candidates. Beyond this, the board must have a well understanding of the company’s development needs and future direction in order to identify executives who will be able to fulfill their role amid these complex and ambiguous dynamics. Being able to forecast the challenges that potential CEOs may face is a helpful component in recognizing areas for improvement early on and establishing benchmark goals. Addressing these future challenges head on will provide boards and executives ample time to assess the readiness of each candidate, develop workshops, and establish mentor relationships to guide the company towards future success. 

In addition to setting company-tailored criteria for CEOs, boards should maintain awareness to external benchmarks for executive success. Understanding how other company’s executives are performing is a good way to assess the relative strength of internal candidates. According to The Conference Board, between 2013 and 2016, the proportion of “internally” appointed S&P 500 CEOs grew from 76% to 86%. It is clear that boards are increasingly placing an emphasis on internal promotions, so it is well advised for boards to have an accurate and up-to-date overview of where their internal candidates stand against proven executives outside of the organization.

Finally, the board should include the incumbent CEO’s opinion during this consequential decision making process. Talking to the CEO about their experience in the role, what challenges they faced, and what areas they see for improvement moving forward is a good method for addressing future criteria needs. The incumbent CEO plays the important role of grooming succession-prepared executives at the senior management level and will thus likely have suggestions for who they think is a good fit.

Long-term succession planning

It is never too early to start thinking ahead about what the next CEO’s profile should look like. With the ever changing market and social landscape, an organization’s needs are also constantly evolving. Wise boards will try to foresee these changes and predict what the next step in company leadership is. What will the future of the company look like? What leadership skills and personality traits will be advantageous to navigating that future? How will or should company culture change? What kind of leader is able to promote that change?

Discussing these possibilities and building a consensus on a general criteria for the next CEO is an important step that facilitates a smooth transition process. Having a broad leadership profile in mind will help boards to develop needed leadership qualities among internal candidates and keep an eye out for executives whose strengths match these needs. Furthermore, it will prevent companies from falling into the trap of selecting repetitious candidates reminiscent of the incumbent CEO. 

If concerns about the current CEO’s conduct, ability, or actions arise, they should be brought up and discussed immediately to determine if an early succession is required. Thus, having a sense of strong backup candidates is a smart way to stay prepared for any leadership scandals, emergency vacancies, or interim management. This ensures that issues with the CEO’s performance are caught early on and do not manifest in the company’s performance. 

Getting to know the management team

Developing a forward-looking approach to seeking executive talent involves getting to know the senior management team. Directors and managers are both well-served by maintaining a mutual relationship of trust and understanding. Directors are endowed with a clear insight into what it takes to conduct key business decisions, and managers benefit from the ready ability to draw upon the independent judgement of directors. 

Getting to know management comes in various forms, from conducting executive meetings to annual talent reviews to regular outside engagement. Staying involved with management on a continual basis will enable board directors to observe patterns of performance, identify the strengths and weaknesses of executives, and develop a more tailored approach to succession planning. It also gives boards the opportunity to expose senior management to opportunities that encourage entrepreneurship, leadership, and intelligent risk-taking in order to establish preparation for a healthy “succession culture.”

An assessment of the best succession planning processes noted that the top companies all exhibited several key commonalities:

  1. Continual discourse between board members and the CEO to discuss the future outlook of the company and the needed skills of likely successors
  2. Frequent exposure of senior levels to the board and fitting outside board service opportunities
  3. A simultaneous top-down and bottom-up approach in which all levels of the organization are equipped with the right tools and training for advancement while maintaining an eye out for successors

As long as boards fulfill their objective oversight duty, the board and management teams should operate hand in hand and build upon each other’s roles to create a robust succession framework that fosters the company’s long-term success.

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