2 Learning ObjectivesExamine the duties and liabilities that come with directorship.Overview of the role of the board and the requirement for independence.Review the basic operations of the board.Examine the legal responsibilities that come with directorship and consider the potential liability directors face when they fail to uphold their duties.
3 Board as the principle instrument of governance Shareholders own the company but do not run itManagers run the company but do not own itThe bridge – BoardGood board = better governance & vice versa
4 Entrepreneurial Leadership Profit, but:Regard to social responsibilityPrudenceRisk managementStrategic
5 Types of ineffective boards Rubber stampGood old boys or country clubPaper boardTrophy board
6 Powers of a board Absolute or maximum powers Whatever the company is authorized to do through its MoA (Memorandum of Association), the board can do it on behalf of the companyIn Pk (Pakistan), the board draws powers from:The company’s constitutionThe law – Companies ActResolutions passed by shareholdersPrevailing industry practices
7 Delegations of powers by the board Possible…E.g., signing of loan documents by CEO or CFOBut should come with establishment of the system to keep the things in the right way
8 Board Responsibilities A document titled “Principles of Corporate Governance”, the Organization for Economic Cooperation and Development (OECD) lays out a vision of the responsibilities of the board:The corporate governance framework should ensure the strategic guidance of the company, the effective monitoring of management by the board, and the board’s accountability to the company and the shareholders.
9 Board Responsibilities (Con’t) From this we can conclude that the board is suppose to perform two functions:AdvisoryOversightIn an advisory capacity:The board consults with management regarding the strategic and operational direction of the company.Attention is paid to decisions that balance risk and reward.Board members are (should be) selected based on the skill and expertise they offer for this purpose, including previous experience in a relevant industry or function.
10 Board Responsibilities (Con’t) In an oversight capacity:The board is expected to monitor management and ensure that it is acting diligently in the interests of shareholders.The board hires and fires the chief executive officer, measures corporate performance, evaluates management contribution to performance, and awards compensation.It also oversees legal and regulatory compliance, including the audit process, reporting requirements for publicly traded companies, and industry-specific regulations.In fulfilling these responsibilities, the board often relies on the advice of legal counsel and other paid professionals, such as external auditors, executive recruiters, compensation consultants, investment bankers, and tax advisors.Effective board members are individuals that can capably complete both advisory and oversight responsibilities.
11 Board Responsibilities (Con’t) The responsibilities of directors are separate and distinct from those of management.Directors are expected to advise on corporate strategy but do not develop the strategy.They are expected to ensure the integrity of the financial statements but do not prepare the statements themselves.The board is not an extension of management. It is a governing body elected to represent the interests of shareholders.
12 Tools available to a board Its members compositionAnd independence of the boardCommitteesExternal helpGovernment intervention
13 Responsibilities of a Board Acting in the best interest of the companyAccountability to the owners (formally and informally)Statutory dutiesKeeping recordsReporting to SECPStock exchange reports
14 Responsibilities of a Board (cont’d) Fiduciary or trusteeship dutiesBoard is the trusteeGood faithAvoid conflict of interestBorrowing powers of the boardBoard has the unlimited powers to borrow for their companiesProblem for the investors and CG proponentsSBP – all directors must extend personal guarantees for the loans
15 Board IndependenceIn order to carry out the two functions discussed earlier – independence of the board members has been suggested.Regulatory requirement also suggests that the director is free from conflict of interest, that might compromise his effortsFor example; NYSE requires that listed companies have a majority of independent directorsSimilarly the audit, compensation and monitoring and governance committees should be wholly independentPk… (ref to CG Code 2012)However, independence can be affected by several factorsAn informal study by Harvard’s professors suggest that relevant experience is more important than independence
16 Balance on the board Balance of representation Balance of talents/abilitiesBalance of powerBalance of attitudes
17 Board structures According to composition Tenure of the members Unitary or two tieredTenure of the membersCommon tenured & staggered
18 Causes of absence of balance in a board Unbalanced boardsMajority of boards are based on family/friendsIndependent directors are not independentNo talent in the boardsNot efforts to extend boards influence
19 Operations of the Board Chairman’s rolePresiding officerSets the agenda, schedule meeting, coordinating of the committees (Coms:)Very important roleTraditionally CEO used to hold chairmanshipThe dual role – its problemsNowadays, Non-Executive Directors assume this responsibilitySarbanes Oxley Act (SOX 2002) viewRejected the idea of independent directors chairmanConcept of lead director
20 Operations of the Board Board’s actions take place by either arranging meetings or written consents but in any case they are done through voting.Independent directors are also suppose to meet at least once a year to discuss the different issues pertaining to the affairs of the company though no actions take place (this is requirement under S-OX 2002)
21 Operations of the Board Boards should meet in every quarterThe meetings should be properly communicated and recorded
22 Operations of the Board Issues at the boards to be discussedAnnual plans, cash flows, strategic plansPeriodic reportsInternal audit reports, joint ventures, agreements etcAnd many others as given on pp83 and refer to the CG 2012….
23 Operations of the Board Directors spend around 20 Hrs/Month on board mattersTypical meeting of the directors range from 2-6 Hr and moreBoard and its committeesFull boardStanding or ad hoc committeesAssigned directors on qualifications and experienceAudit, compensation, governance, nominating committeesEssentially composed of independent directors under SOX 2002
24 Cadbury Code Regular and frequent meetings Effective control over the companyImportant decisions should not be taken by executives, but referred to Board.Definition of which decisions should be referred to Board.Good board room practices.
25 Good Boardroom Practice Background information must be provided to the directors.All directors must get the same information and same time to study it.Directors should be able to participate.Certain matters, even if delegate-able should not be delegated to the executive.
26 Good Boardroom Practice Formalization of meetings’ conduct – avoid unwritten practices.Formal induction of new directorsPost-facto approvals should be discouraged.Proper use of board committees.
27 Directors DurationTraditionally, directors are elected annually to one year terms.In some companies, directors are elected to two- or three-year terms, with a subset of directors standing for reelection each year.Companies that follow this protocol are referred to as having staggered (or classified) boards.Under a typical staggered board, directors are elected to three- year terms, with one-third of the board standing for reelection every three years.As a result, it is not possible for the board to be ousted in a single year; two election cycles are needed for a majority of the board to turn over.
28 Directors Duration (Cont’d) In recent years, however, the trend has reversed. Companies have come under fire from shareholder activists and proxy advisory firms who believe that staggered board elections insulate directors from shareholder influence.Institutional investors, particularly public pension plans, often have policies of opposing staggered boards.Some public companies have responded to shareholder pressure by de-staggering their boards.In 2009, about 50 percent of publicly traded companies had staggered boards, down from 63 percent in 2002.
29 Directors ElectionsIn most companies, the board of directors is elected by shareholders on a one-share, one-vote basis.For example, if there are nine seats on a board, a shareholder with 100 shares can cast 100 votes for each of the nine people nominated. Shareholders who do not want to vote for one or all of the nominees can withhold votes for selected individuals.Directors win an election by obtaining a plurality of votes, meaning that the directors who receive the most votes win, regardless of whether they receive a majority of votes.Alternative options are: dual class voting; majority voting & cumulative votingIn an uncontested election, a director is elected as long as he or she receives at least one vote.
30 Removal of DirectorsOnce elected, directors generally serve their full term—one year for annually elected boards and three years for staggered boards.Shareholders may be able to prevent directors from being re- elected at the next election by withholding votes. Their ability to do so, however, depends on the voting procedures in place.They can also replace directors at the next election if a competing slate of nominees is put up for election.Finally, unless a company’s certificate of incorporation provides otherwise, shareholders may vote to “remove” a director between meetings.That said, shareholder power to remove a director is generally limited.
31 Legal Obligations of Directors Fiduciary responsibilitiesto act in the interest of the companyMeans that director is expected to act in the interest of shareholdersA duty of careA duty of loyaltyA duty of candorLegal responsibilities as defined by the regulators/government
33 Results of a survey Issues discussed by the directors include: Profitability and shareholders valueFuture growthRisk managementDevelopment of human capitalCultural developmentExecutive compensationRegulatory complianceStrategic planningCompetitionSuccession planning