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Boardroom shuffle

31 Dec 08

Glenn Allison looks at the role of corporate governance in the financial crisis

by Glenn Allison

The chairman plays a major role in UK corporate governance – how our listed companies are run. He (most tend to be male) is the most senior independent non-executive director on a board which is made up of executive directors and other independent non-executive directors. They share equal responsibility with senior management for the success of the company.

The business model is something which the board of directors should fundamentally understand. However, given recent events at some very large businesses, it is legitimate to ask whether all members of boards actually did. It has to be hoped that the executive directors fully understood the model, though whether they fully understood the true consequences is debatable. More doubt exists on the question of non-executives. Did they challenge sufficiently the business model adopted? Did they have the knowledge of the business to anticipate all possible risks?

In the case of certain companies, the jury is out and this conclusion challenges the way that UK corporate governance operates currently.

I believe that the key to an effective board is the experience and quality of its non-executives. That means strong individuals capable of challenging senior management. It also means individuals who are capable of understanding the business and its main risks. Discussion of business risk should be fully understood and discussed at the main board. It should not merely be viewed as something that is taken care of by the number-crunchers on the audit committee. If non-executives do not understand the industry in which their business operates or the funding model the company uses, challenge becomes more difficult.

Another very basic change should be made to improve governance. For a board to function effectively, its members need accurate and timely information on the issues it is to discuss. Even in 2008, I still heard stories of board papers arriving the day before the meeting. That does not give anyone a chance of understanding the agenda.

Let’s use the example of a financial institution. The complexity of finance has risen hugely in the past decade – the sub-prime derivatives which led to the mess we are in could barely be understood by the bright young things who designed them. What chance does a non-executive have? Their time commitment to their board is perhaps two or three days a week at most and they have packed agendas to consider. Getting their heads round collateralised debt obligations is not easy, but with the benefit of hindsight, it is something which has proved to be extremely important and to which more time and attention should have been given.

Changes to the way boards function may follow the financial crisis. There is an obvious area for regulators to examine – how can non-executives better understand the complexity of their business model? My belief is that can be improved by better financial training, more focused discussion of risk at the main board – not just the audit committee – and better quality information for the board with enough time for proper consideration.

UK boards are changing – it is increasingly common for non-executives to outnumber executives on main boards. Anything that gives non-executives a better chance of understanding the key details behind the risks to company strategy should also mean a greater level of challenge to senior management.

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Glenn Allison | President

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