The real challenge of corporate governance: reinvent the board of directors!

Mar 01, 2004 Leadership, The East African

The EastAfrican announces a new management series by Sunny Bindra focusing on the key strategic issues facing senior executives in the region today. We start with the first part of a challenging look at a hallowed institution: the board of directors.

The corporate board is on fire. Across the world, boards are under unprecedented pressure. Directors of listed companies are wilting under the glare of the spotlight of unrelenting public scrutiny. And many business thinkers now believe that this will be the decade in which we dramatically redesign the entire concept of the board of directors.

That is entirely as it should be. The venerable institution called the board of directors has, in essence, remained unchanged for many decades. During this period, the business world has undergone dramatic upheavals. Information and communications technology has transformed the way business is done the world over. Globalisation has provided a quantum leap in the scale of operations of many corporations – whilst simultaneously opening them up to ferocious competition. Customers have used this new freeing of markets and the remarkable array of consumer technology now available to them to tremendous effect: to demand – and get – unprecedented choice and value for money.

In response to this wave of unparalleled change, businesses have had to uproot their deepest structures. Organisational design has moved away from functional ‘silos’ to customer-facing processes. Companies have learned to define their ‘core competencies’ and narrow the scope of operations to doing that which they do unambiguously well – and outsourcing the rest. Information technology has penetrated every facet of the modern corporation. Reward and incentive systems have been transformed as the importance of attracting and retaining the best human talent is recognised in company after company.

Yet the governance mechanism sitting right at the top of the corporation – the board of directors – has managed, by and large, to emerge unscathed from this turmoil. The structure is unchanged: a chairman and a dozen or so directors, some of whom are executives and others outsiders. Board composition is pretty much standard: retired (and tired) CEOs, politicians and professionals, mostly male. And board processes – how the board’s work is done – are largely as they were: quarterly meetings, following a rigid agenda; information provided by management in standard, predictable formats; a stage-managed annual general meeting where shareholders are wined and dined and thrown dividends.

Is it really any surprise that this institution is in crisis? Where management teams have had to learn to be agile and nimble, boards have managed to remain slow and unwieldy. Where managers are being forced to rethink the fundamentals of their businesses every two years or so, board directors remain steeped in tradition and the business lore of yesteryear. Where managers rely on information that changes daily on the computer screens at their desks, directors receive carefully vetted, sturdily bound board papers that they have neither the time nor the inclination to peruse in any depth.

This was a fire waiting to be lit. And once the first spark came, the flames exploded and spread right across the globe. We have seen a seemingly endless train of corporate scandals: from Enron, Tyco and WorldCom in the USA, to Marconi and Parmalat in Europe, and to the woes of HIH Insurance, Australia’s biggest insurer. Every time, the same message is rammed home: traditionally constituted boards of directors can do very little to prevent massive failures in management and ethics from taking place beneath their very feet.

As billions of dollars of shareholders’ funds and employees’ dues have gone up in smoke, the reaction worldwide has undoubtedly been swift and emphatic. Presidents of nations have intervened, and committees and task forces have been convened. Grey heads have been asked to look at the failure in governance and recommend a way forward. And an apparently inexhaustible procession of codes of practice has emerged. Many years of weighty discussions and many acres of rainforest later, a consensus appears to be emerging with regard to ‘best practice’ in corporate governance.

These things are good: a majority of ‘independent’ directors and an ever-tighter definition of ‘independence’; a separation of the roles of the CEO and chairman of the board; three core committees (audit, compensation and governance), all consisting of independent directors; board approval of company strategy; formal board evaluation of CEO performance; and, of course, handsome remuneration for directors for engaging in these arduous activities.

These things are bad: an overly powerful CEO who has other directors in his thrall; non-executive directors with powerful incentives to influence board decisions in their own financial interest; large boards with unnecessary directors entrenched by history; boards that talk too much; boards that talk too little.

So, out of the ferment of recent years, a consensus of sorts is forming. At its core are a couple of basic propositions: that boards need to be empowered to act on behalf of shareholders; and that board incentives need to be aligned with those of shareholders. The best way to achieve this, so the consensus thinking goes, is to ensure that board control is in the hands of directors who are independent of management. In short, the focus is on protecting shareholders from the nefarious designs of managers. And companies are at present falling over themselves to demonstrate their willingness to adopt these best-practice codes.

Where are we in East Africa in this whole debate? Let us start by being quite frank: what does a position as a director in many of the region’s leading corporations entail? Firstly, one is generally invited to the board by one’s friends and allies in the corporate world, usually to join a particular political camp in that board. Secondly, one often actively seeks conflicts of interest: if one is a professional, one tries to sell one’s services to the company; if one is a politician, one marshals the company’s resources for personal use, particularly at election time. Thirdly, one really expects to have very little to do as a board member: a few tedious meetings every year followed by a sumptuous lunch; a board retreat or two at a beach hotel or 5-star lodge; a generally uneventful AGM where an occasionally troublesome shareholder livens up proceedings.

Traditionally, local directors in eminent boards tend to be drawn from one of two sources. First, from the pool of retired CEOs who made their reputations in the boom years of the 1970s and 1980s (in Kenya at least), and who bring grey hairs, a certain fame and a stack of business stories from the monopolies of yesteryear to the table. Second, from the pool of politicians and political operatives who bring the possibility of putting the company on the inside track with regard to lucrative government procurement, or who can pick up the telephone to smooth out tricky problems that the company might face from time to time.

I am generalising deliberately. Of course there are companies that are very competently governed, and directors who provide wise independent counsel through good times and bad. But there are very few. By and large, we are retaining structures that are totally irrelevant to the demands of the 21st century. We are appointing individuals that at best are invisible and at worst are subtracting value from the corporation. And we are stuck with information processes with that leave directors completely in the dark as to what is really happening within the company.

In East Africa, executives are used to whining about the state of the region’s infrastructure, about what additional costs are imposed by insecurity and corruption, about the inconsistencies of fiscal and monetary policy. We are less used to taking a hard and honest look at the very structures and systems by which we manage and govern ourselves. If we start at the very top, we will see that the role and operation of the board of directors itself needs a fundamental overhaul.

East African companies come in all shapes and sizes, from the large multinational to the small, rapidly growing trading companies located in the back streets of Nairobi, Kampala and Dar-es-Salaam. Good corporate governance is necessary in all of them. The interests of minority shareholders must be protected at all times, even in small family-owned companies. Society, too, increasingly expects responsible behaviour from all corporate entities. Not-for-profit organisations like schools, hospitals and NGOs must also account for themselves in a professional manner. No organisation is exempt from the need to take governance to a different level.

Given that we are starting from farther back than the rest of the world, adopting the best-practice codes of conduct that are sweeping through boards everywhere would be no bad thing. We certainly need to protect shareholders from managers who have consistently and systematically denuded them. We certainly need to embed the idea of the independent director, in a corporate culture that has yet to grasp its import. And we certainly need to limit the often-ridiculous powers we grant to our chief executives.

Yet the opportunity is far greater. We would limit ourselves severely if we went for wholesale adoption of codes of practice and then settled back to our cigars and brandies, our work done. The true frontier of change in corporate governance is elsewhere. The most enlightened corporations are looking far beyond best practice. They are looking at a fundamental redesign of the board of directors from first principles, a complete overhaul of structure, composition and processes.

That is where leading East African corporations must settle their gaze. For a tour of what the reinvented board of directors might look like, see you here next week.