CORPORATE GOVERNANCE Whose Job Is It Anyway? – Blurring the line between boards and executives

An international survey by corporate consultancy McKinsey suggests that restrictive legislation like America’s Sarbanes-Oxley Act notwithstanding, directors are itching to move on from the mundane world of compliance and control to be more aggressively involved in “setting strategy, assessing risks, developing leaders, and monitoring the long-term health of their companies”.
The Sarbanes-Oxley Act, together with tougher legislation and tighter reporting controls enacted in many countries since the Enron and other accounting scandals, has lifted reporting and financial control standards. The new thinking revealed in the survey has “far reaching implications for governance”, according to McKinsey consultant and survey authors Robert Felton and Pamela Keenan Fritz.
If directors want to achieve the level of involvement they say they want, they must “use their time in [board] meetings more effectively and develop new understanding of their roles and responsibilities”, otherwise they will give managers the impression they are moving in on their patch.
And this new approach to governance could signal changes in the composition and culture of boards and different board agendas.
The survey, conducted in late 2004 and early this year, was sent to 4200 public company directors worldwide. The 1016 directors who responded were “evenly spread” among different countries at different levels of economic development. The results were, according to the authors, “remarkably consistent by both region and country size”.
Directors want to be more actively involved in three areas:
* Company health (ability to survive and develop long-term and short-term financial performance).
* Organisational strategy and risk assessment.
* Developing leadership.
While directors focus mainly on financial matters, reflecting short-term corporate performance, they want to dig deeper into issues that “shed light on” their organisation’s longer-term health. About 70 percent of the directors want to know more about customers, competitors, suppliers, the likes and dislikes of consumers, market share, brand strength, product satisfaction and so on.
And about half of them want to know more about the state of people in the enterprise, including whether they have the skills and capabilities needed to deliver an effective business strategy.
Directors don’t, however, want to cut time they spend on their current activities, with the exception of auditing, compliance and the compensation of top management, that is. About 20 percent of them feel they already spend too much time on these issues.
The report’s authors suggest directors should monitor broader range of indicators than current financials if they want to understand what determines the long-term health of company. Key indicators include market and organisational performance and network positioning. And managing risk, including credit, market, regulatory, organisation and operational risk, is also important. “Without this knowledge directors will have only partial understanding” of their enterprise.
And directors universally expressed lack of confidence in management’s ability to properly implement strategy and manage risk. This is one of three conclusions the authors draw from the fact that more than 75 percent of directors want to spend more time on strategy and risk. The refocusing of director attention from compliance to performance also seems to reflect their lack of knowledge about existing and future strategies and “desire to assume more active overall role” in the organisation.
A surprisingly high 25 percent of directors have, at best, “a limited understanding” of their business’ current strategy. More than half said they had “limited” or “no clear sense” of their companies’ prospects five to 10 years out. And just as many suggested they have “little or no understanding” of the five to 10 key initiatives their companies need to “secure” their long-term future.
Directors’ lack of confidence in management is reflected in the small number (eight percent) who believe management “fully understand” key initiatives required to deliver strategies for the future. “If directors want to become more involved in developing strategy and assessing risk, they will have to start by working with management to grasp the current strategic position more clearly,” say Felton and Fritz.
“In turn, management should draw up and propose number of different long-term strategies which boards should test and challenge before choosing, with management, the most appropriate ones.”
The authors also believe boards work best when they devote their limited time to just five or so key strategic initiatives. Management, by contrast, “must deal with all aspects of the strategic plan”.
Most directors, about 78 percent, want to spend more time on leadership issues including developing employee talent and skills. “That interest isn’t limited to hiring and developing the CEO,” say the survey authors. “It extends to the top management team and even to the broader company.”
Directors are, it seems, taking lead in CEO succession initiatives. solid 41 percent of respondents said they and their board colleagues led their most recent CEO search process. This responsibility is particularly important given that other research shows that 71 percent of all US CEOs leave their posts involuntarily. There is no comparable local data on CEO exit routes.
Board involvement in the CEO recruitment process does not, of course, guarantee success. Nearly quarter of the directors in the survey said their most recent CEO succession appointments had failed.
What about management mentoring and CEO evaluation processes? The survey found that director involvement in coaching and evaluation is relatively rare. More than 50 percent of boards have little or no formal process for evaluating CEO performance, despite the huge responsibility entrusted to CEOs. And when they do evaluate the focus is predominantly on achieving short-term business goals.
Directors are, however, keen to change this mindset. They seem to understand that they should evaluate the CEO’s ability to promote the company’s long-term health, not just recent results.
Selection of the CEO is not the board’s only human resources task, however. The McKinsey survey showed that more than 60 percent of directors are eager to spend more time developing and evaluating employee skills and capabilities generally. The authors think boards should take more interest in attracting and developing organisational talent. “Boards should recognise and discuss any new strategy’s ramifications for talent and skill,” they say. “Directors can provide longer-term perspective that challenges management to think about the sustainability of the company’s recruitment programme.”
According to Felton and Fritz the survey shows that boards everywhere want to engage more actively with management teams. “Such relationship can be fruitful, but,” they concede, “it will also be more complex than the present one. Making it work will require effort from both sides.”