Elevating Board Performance

DRAFT (1 June 2011)
Elevating board performance:

The significance of director mindset, operating context, and other
behavioral and functional considerations
Simon C.Y. Wong
Partner, Governance for Owners
Adjunct Professor of Law, Northwestern University School of Law
Visiting Fellow, London School of Economics and Political Science
E-mail: simon.wong@law.northwestern.edu
Draft: 1 June 2011
Northwestern University School of Law
Law & Economics Research Paper No. 11-12
This paper is available at SSRN: http://ssrn.com/abstract=1832234
Abstract
The global financial crisis has prompted debate once again on how to improve the effectiveness
of the board of directors at listed companies. Despite considerable reforms over the past two
decades, boards particularly at financial institutions have been criticized recently for failing
to properly guide on strategy, oversee risk management, structure executive pay, manage
succession planning, and carry out other essential tasks.
This article argues that the lack of attention to behavioral and functional considerations such as
director mindset, board operating context, and evolving human dynamics has hampered the
boards effectiveness.
To reach their potential, the article recommends that alongside establishing core building
blocks such as appropriate board size, well-functioning committees, proficient company
secretarial support, and professionally-administered board evaluation boards and their
members focus on the following:
Think like an owner

Know their companies
Be prepared to roll up their sleeves
Take charge of their priorities
Hire a collaborative CEO
Protect their authority and independence
Keywords: Board of directors, mindset and behavior, board culture, independence and authority
JEL Classifications: G34, M14
1
2011 Simon C.Y. Wong
Electronic copy available at: http://ssrn.com/abstract=1832234
DRAFT (1 June 2011)

Elevating board performance:
The significance of director mindset, operating context, and other behavioral and
functional considerations
Simon C.Y. Wong
The global financial crisis has prompted debate once again on how to improve the
effectiveness of the board of directors at listed companies. In their investigations of the recent
economic meltdown, the Organisation for Economic Co-operation and Development, European
Commission, US Congress, and others found serious deficiencies in the way boards, particularly
at financial institutions, guided on strategy, oversaw risk management, structured executive pay,
managed succession planning, and carried out other essential tasks.1
What is most troubling is not that boards have failed per se but that their alleged
shortcomings have persisted despite the considerable board reforms pursued over the past two
decades.
What went wrong?

To be fair, boards have improved as a result of previous reforms.
Today, they
increasingly consist of highly qualified individuals, operate more professionally, and undertake
substantive work. But reforms in the past focused principally on board structure, composition,
and processes. Much less attention has been paid to behavioral and functional considerations,
such as director mindset, board operating context, and evolving human dynamics.
See, for example, Organisation for Economic Co-operation and Development, Corporate Governance and the
Financial Crisis, February 2010; European Commission, Corporate Governance in Financial Institutions: Lessons
to be drawn from the current financial crisis, best practices, June 2010; David Walker, A review of corporate
governance in UK banks and other financial industry entities (Walker Review), November 2009; and US Financial
Crisis Inquiry Commission, The Financial Crisis: Inquiry Report, January 2011.
2
DRAFT (1 June 2011)

Yet, examinations of board failures around the world, including at leading companies
renowned for their corporate governance arrangements, routinely point to deficiencies in these
areas for instance, CEOs who increasingly dominated their boards, non-executive directors
who failed to fully grasp their companies fundamental performance drivers, and boards that
were insufficiently engaged in key activities and decisions, whether on strategy, executive
remuneration, or acquisitions.
In addition, the boards effectiveness has been hampered by a few well-intentioned but
misguided moves as reflected in best practice guidance and other commentaries such as
emphasizing board independence over directors company and industry knowledge and setting
boundaries on board involvement that has constrained its ability to fulfill core responsibilities.
Considerable stakes involved

If the quality of board stewardship does not improve, the consequences are likely to be
severe. First, the boards freedom to organize itself, set priorities, and keep sensitive matters
private may be at risk. In the UK, the government has inquired whether the remuneration
committees membership should be widened so that boards will be more sensitive to pay and
employment conditions elsewhere in the company. 2 Last year, the European Commission
consulted publicly on whether boards of financial institutions should be required to approve new
financial products. 3
Reversing a long-standing policy, the US Securities and Exchange
UK Department for Business, Innovation and Skills, A Long-Term Focus for Corporate Britain: A Call for
Evidence, October 2010.
3
European Commission (2010).
3
DRAFT (1 June 2011)

Commission decided in 2009 to allow shareholders to submit resolutions to require boards to
disclose detailed succession planning processes.4
Second, shareholders, regulators, and others may be given additional powers to intervene
in areas where due to lack of competence, conflicts of interests, and other factors they may
not be well-suited. In light of the perceived failure of boards to constrain executive pay,
policymakers in several countries are debating changing say on pay resolutions from precatory
to binding. Signaling a radical change of approach, the Bank of England recently proposed
hiring senior supervisors to challenge bank executives on strategic decisions, a function that
hitherto has been assumed principally by the board.5 Reducing the boards role in these critical
areas would lower its standing and could unleash a vicious cycle that leads to further diminution
of its authority.
Third, persistently poor stewardship by the board will destroy company value. In North
America and Europe, boards of financial institutions that failed to check managements
aggressive forays into US sub-prime mortgages saw their firms decimated during the financial
crisis. At a large European retailer, the boards failure to identify a CEO successor in a timely
manner created fissures in the boardroom and brought about disruptive shuffling and re-shuffling
of the management team over an 18-month period. Given the tumult inside the company,
performance deteriorated, as demonstrated by lost market share, contraction of margin, lower
operating profit, and product and marketing missteps.
US Securities and Exchange Commission, Shareholder Proposals, Staff Legal Bulletin No. 14E (CF), October
27, 2009.
5
Brooke Masters, King pledges radical change on bank scrutiny, Financial Times, March 1, 2011.
4
DRAFT (1 June 2011)

Measures to help boards reach their potential
Given whats at stake, there is great urgency for boards to elevate their performance.
Having spent nearly 15 years examining, advising, and interacting with scores of boards in
developed and emerging markets, I have concluded that their effectiveness would improve
markedly if alongside establishing core building blocks such as appropriate board size, wellfunctioning committees, proficient company secretarial support, and professionally-administered
board evaluation they focus their efforts on a handful of behavioral and functional areas. In
particular, boards and their members should:
Think like an owner

Many of the behavioral and functional considerations discussed herein have received
limited mention in corporate governance codes and other best practice guidance, which continue
to focus predominantly on structures and processes.6
Signs of change are emerging, though. The recently released UK Financial Reporting
Councils Guidance on Board Effectiveness, for instance, acknowledges the limits of the
prevailing approach and admonishes boards to think deeply about the way in which they carry
out their role and the behaviors that they display, not just about the structures and processes that
they put in place.
6
Effective board leadership, which has received increasing attention, is discussed in several of the
recommendations rather than treated separately.
5
DRAFT (1 June 2011)
Think like an owner

Boards are vital stewards, responsible for ensuring the long-term viability and health of
firms under their charge for the benefit of current and future owners. As such, it is important that
they adopt an ownership mindset. Yet, few do so. While the non-executive directors populating
boards are generally hard-working and earnest, they often have a limited conception of their
roles. One US commentator with several board memberships has complained that the vast
majority of outside directors are kibitzers, passive participants who do not believe it is their
role to challenge management beyond asking a few questions at board meetings.
Contrast this with family firms, the largest of which generally outperform their listed
counterparts and are directed by active owners within and outside the board.7 According to the
chairman of a large and successful family-owned construction firm founded more than 100 years
ago:
Directors with an ownership mindset whether from the family or outside
have passion for the company, look long-term, and take personal (as distinguished
from legal) responsibility for the firm. They will spend time to understand things
they dont know and not pass the buck to others. They will stand their ground
when it is called for. Ultimately, the success of the company over the long-term
matters to them at a deep, personal level.
Blame for a diminished view of a directors role lies within and outside the boardroom.
Some directors, for instance, continue to treat their roles as sinecures.
At one financial
For example, among the 1,000 largest companies in the world, the 200 family-owned firms have higher return on
investment (26% vs. 21%) over a five year period. John Ward (lecture), Governing the Family Business Course,
Kellogg School of Management, Northwestern University, October 2008. See also Ronald Anderson and David
Reeb, Founding-Family Ownership and Firm Performance: Evidence from the S&P 500, 2003.
6
DRAFT (1 June 2011)

institution, the lead director mentioned privately to a colleague that I didnt sign up for this
when it became clear that shareholders expected him to step up his involvement after an activist
investor started questioning the firms strategy and leadership structure.
At some companies, senior executives fear that if boards are empowered, then
management will inevitably be weakened. In response, they endeavor to limit the boards
involvement in strategy development and other key activities. Others may also create physical
and psychological distance between the board and the firm. At a global mining company, the
chief executive insists that the board chairman sit on a different floor from the executive team
and frowns upon non-executive directors meeting with senior executives outside his presence.
At the same time, corporate governance gurus, concerned about micro-management and
conflicts of interest, have advocated an arms length involvement for the board, epitomized by
the widely accepted wisdom that boards should keep their noses in, fingers out.
In spite of this, some public company boards do exhibit an ownership mindset. Harvard
Business School Professor William George describes the board of Medtronic, where he was
formerly chairman and CEO, as one where successive generations of directors demonstrated
deep devotion to the firm, focused long-term, and played an instrumental role in helping the
company grow and prosper.
To embed an ownership mindset in the boardroom, companies should start at the director
recruitment stage. To assess whether a director candidate is likely to be an effective steward for
shareowners, it is useful to ask the following questions:
How should non-executive directors be involved in strategy development?
What type of information would you need to discharge your responsibilities effectively
and how would you obtain it?
7
DRAFT (1 June 2011)

In your previous board roles, in which areas did you have the greatest impact?
In a group setting, when have you taken a stance against the then prevailing majority
view and what was the outcome?
There are no particular winning responses. Whats important is assessing the extent to
which a candidate exhibits energy, a proactive attitude, and an independent mind. Conversely,
warning signs include an excessively deferential attitude toward management for example,
inability to recall any occasion when he or she disagreed with the CEO and an overly passive
view of their roles.
Furthermore, boards should gauge a candidates inherent interest in the firm and time
availability because the absence of either will hinder a directors ability to think and act as an
owner.
Once they come on board, companies should strive to strengthen directors commitment
to the firm. As discussed further below, this is best achieved by involving them meaningfully in
substantive board work. At the same time, emotional bonds can be deepened through social
interactions, such as group trips to visit facilities abroad, dinners with different management
members, retreats that include spouses, and other informal social gatherings.
Financial tools can, within limits, also help tighten the connection between directors and
their firms. To strengthen directors sense of being an owner, some companies require outside
board members to receive their fees in stock and buy shares using their own money. To
reinforce a long-term orientation, some firms mandate that non-executive directors retain all
equity acquired until they have retired from the board.
8
DRAFT (1 June 2011)

Lastly, it has been noted that passion for the company can be passed from one board
generation to the next through overlapping tenures between the retiring directors and their
successors.

For a board to add value, individual directors must possess a strong understanding of the
company and its industry. In my conversations with CEOs over the years, many wished their
outside directors had a better grasp of the business and industry dynamics. At a global mining
company, the chief executive remarked, Although I appreciate the diverse skill set and
experience of the directors, there are not enough miners on the board. As a result, it is difficult
to engage them in the way that would be most helpful to management.
Deeper knowledge would certainly enhance non-executive directors contributions to
board discussions.
More importantly, it could also enable boards to better appreciate the
strategic significance of seemingly minor developments such as a gradually widening gap

between reported profits and cash flows or the hazards that may lurk beneath ostensibly sound
courses of action. At a European engineering company, an outside director with broad sector
experience was the only board member to recognize that a proposed expansion into an adjacent
business line was likely to destroy value and damage the companys culture because success in
that market segment required a way of thinking and operating that diverged sharply from the
firms modus operandi.
Due to the belief that outside directors without close links to management and the
company are better monitors, the trend globally has been to populate the board with
independent directors. Consider the US. In the 1950s, outsiders on a typical American board
9
DRAFT (1 June 2011)

usually included the firms banker, legal counsel, and others with extensive ties to the company.8
In 2010, Spencer Stuart reported that 84% of board members in S&P 500 companies were
independent and 53% of surveyed firms had only one non-independent director, the companys
CEO.9
The drawback is that independent directors usually lack deep familiarity with the
companies on whose boards they sit. In financial institutions that collapsed during the financial
crisis, it appears that the non-executive directors most of whom were independent largely
failed to appreciate the risks that their firms were taking and were genuinely surprised when their
banks condition deteriorated rapidly.10
Consequently, there is a heightened need to ensure that outside directors know their
companies well. However, the challenge of getting directors to be functional should not be
underestimated.
According to the board secretary of a continental European engineering firm, Given the
highly technical nature of our business, it usually takes a new director a few years to get up to
speed. Two years after assuming the role, the chairman of a global telecommunications firm
admitted, This is a complex business and I am still on a massive learning curve.
While some companies do a good job on director induction and ongoing knowledge
development, poor practices are pervasive, particularly the emphasis on passive learning through
For further information, see Jeffrey N. Gordon, The Rise of Independent Directors, Directorship, February 1,
2008.
9
Spencer Stuart, 2010 Spencer Stuart Board Index, 2010.
10
See, for example, discussion in European Commission, Corporate Governance in Financial Institutions: Lessons
to be drawn from the current financial crisis, best practices, Commission Staff Working Document, 2010.
10
DRAFT (1 June 2011)

perusing written materials and attending lectures and presentations.
Prompted in part by
regulators, some firms focus excessively on legal and compliance matters.11

At some companies, quality of information is also a problem. It is either not enough, too
much, or the wrong kind.
At a European consumer electronics firm, the lead director is only provided monthly
management accounts and broker reports to help her keep abreast of company developments.
Unsurprisingly, she responded obtusely when asked about the firms strategic direction and
industry trends. At a FTSE 100 retailer, the board receives weekly sales data for the company.
Such information may be too granular for the board and invite micro-management.
Echoing the sentiment of non-executive directors at many companies, the chairman of a
business services provider lamented, We get a lot of data but not much information. Similarly,
an outside director of a global mobile phone operator complained that the packet of materials
for each board meeting is at least 300 pages, with no synthesis or summaries to help you focus
on the most critical areas.
To bolster non-executive directors understanding of the company, written materials
provided to the board must improve. All board papers, for instance, should contain a summary
page explaining the topic to be discussed, key issues to consider, potential impact on the firm,
and action required from the board.
Furthermore, interactive, experiential activities for example, visits to factories,
suppliers, and customers should be emphasized. Such mode of information acquisition will
likely yield a deeper understanding of the firms business and industry dynamics than passive
11
Take the recent proposal by stock market operator Hong Kong Exchanges and Clearing to require non-executive
directors at listed firms to undertake 8 hours of training per year. According to its Head of Listings, mandatory
training has been proposed because directors need to keep up to date with regulatory changes. While board
members should be aware of legal requirements, this should not be the sole or primary focus of board training.
11
DRAFT (1 June 2011)

absorption of written reports and lectures. One FTSE 100 chairman remarked that after site
visits, non-executive directors usually ask more insightful and penetrating questions.
At a large European grocery chain, the board meets in countries where the company plans
to expand and regions with the greatest growth potential.
Similarly, a leading Asian
telecommunications group holds at least one board meeting a year in a country where it has a
substantial investment or interest in investing. During these visits, meetings are often arranged
with local business leaders, government officials, and business partners.
At a UK-based business services company with operations in more than 50 countries, the
chairman visits three countries a year to spend time with local managers. In addition, two board
meetings are held at business units in the UK or abroad each year.
Importantly, information shared with the board should include dissenting opinions. One
bank chairman invites the research analyst with the most bearish view of the firm to address the
board. Another chairman asks outlier analysts holding diametrically opposite opinions of the
company to engage in a debate before the board.
Moreover, non-executive directors should take personal responsibility for their own
learning and not over rely on the chairman and management to supply them with information.
Given the complexity of some industries financial services, global mining, and
pharmaceutical, to name a few there may be a limit to which outside directors are able to
acquire the requisite depth of knowledge solely through service on the board.
Several years ago, I met with a former CEO whose company I served when I practiced
law and for whom I retained the utmost respect. Fifteen months earlier, he had switched from
serving as the chief executive of a major electronics firm to chairing the board of a leading
mining company. Although he had spent more than 150 days in his first year getting up to
12
DRAFT (1 June 2011)

speed, he spoke about company and industry issues only in broad, general terms. It was
obvious that, despite his earnest efforts and considerable intellect, he was a long way from
mastering the intricacies of the mining industry.
While not all outside directors need to be industry experts, a good proportion of them
must possess strong company and industry expertise in order for the board to contribute to
strategy development in a meaningful way, challenge management effectively, and monitor
performance robustly. As explained by the chairman of a European bank that nearly collapsed
during the global financial crisis, The problem was not insufficient flow of information to the
board.
Rather, the board reluctantly accepted managements judgment even though
managements responses were not convincing because the non-executives felt they did not
have adequate understanding to keep pushing.
Recently, some boards have increased the proportion of non-executive directors with
sector expertise. British bank Barclays, for instance, now requires 50% of outside board
members to possess a financial services background.

There is broad acceptance that listed company boards should operate on the basis of
noses in, fingers out. That is, they should probe and offer guidance but let management handle
execution and other details. This advice is sound with respect to most matters that come before
the board.
Good stewardship, however, calls for fuller contributions from the board on key
corporate decisions and activities, particularly those that affect its ability to govern the company
effectively. Consequently, it is necessary for boards to engage intensively in such critical areas
13
DRAFT (1 June 2011)

as strategy development and risk management. Furthermore, on matters where management
faces severe conflicts of interest, such as CEO succession planning and executive remuneration,
boards must absolutely take charge. In other words, they need to roll up their sleeves and
drive the work.
At many companies, board involvement in strategy development has increased over the
past decade. Take a global universal bank, where deeper board engagement on strategy came
about through a change of leadership. Under the old chairman, the boards input on acquisition
opportunities and the firms strategic posture was extremely limited. When the new chairman
came onboard, he met with directors individually to obtain their views on the desired strategic
direction for the institution. He then organized the boards first-ever strategy retreat, a two-day
event that examined the banks diverse businesses in-depth and explored the mega-trends that
would shape the firms positioning in key markets. A year later, he convened another strategy
away-day to evaluate progress on implementing the key changes the board had previously agreed.
According to one board member, The new chairman is much more open and the banks current
strategy was developed with full involvement of the board. There was and is iteration with board
members individually and collectively.
Substantive board involvement in strategy development brings important benefits. It
enables companies to tap the skills and experience of non-executive directors while
strengthening their understanding of, and commitment to, their firms.
Following the global financial crisis, boards are also stepping up their oversight of risk
management, particularly at banks. The lead director of a European commercial bank explained
to me recently that whereas the board previously focused on broad, entity-level risks, today it
scrutinizes risks much more granularly for instance, by types and sub-types and by individual
14
DRAFT (1 June 2011)

businesses and key operating units. It is also alerted to risk concerns through more sophisticated
mechanisms and at an earlier stage.
It has often been said that the boards most important role is to hire and fire the CEO, a
short-hand for the responsibility to ensure that the right leadership team is in place at all times.
To discharge this duty effectively, the board must actively steer succession planning and
leadership development.
For a host of reasons including a desire to maintain control, lack of objectivity, and
worries about bringing up a serious challenger the CEO is poorly positioned to spearhead
succession planning. Yet, the boards stewardship is arguably weakest in this area.
In the UK, a veteran board evaluator observes that poor succession planning is by a
considerable margin the most commonly cited board deficiency. In the US, a recent survey
revealed that only 42% of directors felt their boards role in succession planning was effective.12
Although 82% of US firms polled by Korn/Ferry in 2007 had a succession plan in place, the
CEO led succession planning in 44% of them.13
In some cases, the boards neglect of succession planning borders on the unconscionable.
A 2009 National Association of Corporate Directors survey showed that 61% of US companies
did not even have an emergency succession plan to cover a situation where the CEO is,
proverbially speaking, hit by a bus.14
Recently, directors have started to realize that their involvement in succession planning
must grow. According to Spencer Stuart, 57% of the respondents to its 2010 US board survey
identified it as a priority issue, compared to 19% in 2008.
12
Jennifer Pellet, What is Wrong With CEO Succession?, Chief Executive, May/June 2009.
The Korn/Ferry Institute, 34th Annual Board of Directors Study, 2007.
14
Antony Goodman, The little black book of succession, Financial Times, February 1, 2010.
13
15
DRAFT (1 June 2011)

Given the unpredictability of CEO tenure even at well-performing companies15 and
the long lead time needed to develop CEO-caliber leaders, boards must pay close attention to
succession planning at all times.
In a widely studied case, the board of General Electric spent six years involving
multiple stages of identifying, testing, and evaluating high-potential executives to select the
successor to CEO Jack Welch.16
At a global bank, the board maintains a list of 3 names for each senior management role,
and retains a search firm to periodically canvass externally for promising candidates. At a
pharmaceutical firm, the board chairman attends internal review meetings regularly to evaluate
for himself how leadership and management development is shaping up.
Succession planning can, and should, be woven into the boards other activities. At a
European energy distribution company, board members meet the next layer of management
during site visits, thus enabling them to see how high-potential managers operate in their home
environment. At a mid-cap construction company, the non-executive directors meet after each
board meeting to evaluate the executives who appeared before them.
The boards leadership in succession planning is particularly important in smaller
enterprises where, due to limited company or industry growth prospects, a talented chief
executive is likely to be lured away by a larger firm at a future point in time. The chairman of a
high-street retailer stated, Our CEO is up there with the very best. Given that she is highly
attractive to private equity-run firms and larger listed companies, the board does not expect her
15
In recent years, a number of successful CEOs in the US have been unexpectedly forced out due to improper
personal conduct.
16
See Geoffrey Colvin, Changing Of The Guard, Fortune, January 8, 2001.
16
DRAFT (1 June 2011)

to stay here forever. Consequently, we devote considerable time to developing and grooming
executives.
In markets where dispersed share-ownership is the norm, compensation has long been
seen as an important tool to align the interests of executives and their firms. However, many
boards appear insufficiently engaged in setting executive remuneration, delegating key activities
to the human resources department and compensation advisers.
In the UK, for instance, it is not uncommon to see a compensation committee chairman
yield the floor to the pay adviser to describe the firms remuneration plans to institutional
investors because he doesnt fully grasp the details.
In the past, the boards failure to constrain inappropriate compensation practices brought
significant harm to some companies. In the 1990s, issuances of mega stock-option awards at
American firms contributed to scores of accounting manipulation cases in the ensuing years.
More recently, US boards drew considerable flak for condoning the back-dating of stock option
grants. The subsequent crackdown by US regulators and prosecutors impacted nearly 150 firms
and took down several highly-regarded CEOs.17
To elevate board performance in this area, directors need to re-orient their views on
involvement in setting executive pay. A veteran UK remuneration adviser has noted that some
non-executive directors feel that they got the short end of the stick to be on the remuneration
committee and adopt a laissez-faire attitude, letting the HR department be in charge. The
compensation committee chairman of a giant mining company echoed the same sentiment,
admitting that most directors feel they add more value when contributing to discussions on
strategy rather than on remuneration.
17
Mark Maremont, Backdating Likely More Widespread, The Wall Street Journal, August 18, 2009.
17
DRAFT (1 June 2011)

Yet, setting remuneration is one of the most vital and challenging board responsibilities.
First, boards need to ensure a strong pay-for-performance linkage, particularly given the rising
quantum of executive compensation, and be able to justify pay arrangements to shareholders,
policymakers, and other external parties.
Second, given the highly personal nature of
compensation and hostile atmosphere surrounding some pay discussions, boards must be willing
to stand firm on unreasonable pay demands while ensuring that executives feel they have been
treated fairly. According to a Nordic bank chairman, you need to be careful that the executives
do not interpret the boards decisions on bonuses to mean the board thinks they are not good
enough.
Recently, attitudes have begun to shift. According to the 2010 Spencer Stuart board
survey, US directors identified executive compensation as the most important board issue, with
80% of respondents listing it as a key topic.
While the board must inevitably delegate day-to-day work such as compiling data and
preparing board meeting materials to the HR department and pay consultants, it needs to take
charge of the overall process, starting with the selection of remuneration advisers. A seasoned
UK compensation adviser has observed that boards that delegate to the HR department the task
of coming up with a short-list of pay consultants usually end up with aggressive advisers more
sympathetic to management demands.
Crucially, compensation committee members must understand the key drivers of the
business and the competitive landscape including the companys key competitors so that the
right metrics and targets will be used to measure and reward managements contribution to
company performance. Particularly at banks, they also need to comprehend the impact of pay
arrangements on risk-taking by employees, from the executive suite to the trading floor.
18
DRAFT (1 June 2011)

Notably, strategy development, succession planning, and executive remuneration are
closely linked.
For instance, when recruiting externally to fill a key position, a common
consideration is whether to target candidates employed at similarly-sized or much larger firms.

This decision is usually informed by the firms growth strategy and will, in turn, impact the
remuneration arrangements of the ultimate recruit.
To ensure active board involvement does not lead to micro-management and other
inappropriate interference, the board must be led by a chairman who does not harbor ambitions
to be the CEO and is genuinely content to play a behind-the-scenes role.18
The ability to step back and surrender the stage does not come easily to many chairmen,
especially those with CEO experience. The chairman of a large business services firm, who
previously ran another FTSE 100 company, conceded that it was difficult to move from CEO to
chairman because it is in my instinct to get involved with the best of intentions but, over
time, I have learned to curtail that behavior.
To build cohesiveness and avoid misunderstanding, the board should periodically agree
among its members and with the CEO areas where:
Management will lead (e.g., strategy development, operational matters)
Board will lead (e.g., CEO succession planning, remuneration for top management)
Board and management will share authority (e.g., leadership development for senior
executives, relations with shareholders and other external parties)
18
For further discussion on the desirable traits of a non-executive chairman, see Robert F. Felton and Simon C.Y.
Wong, How to separate the roles of chairman and CEO, The McKinsey Quarterly, 2004.
19
DRAFT (1 June 2011)

As the boards responsibilities have broadened over the years, its workload has grown.
Following the global financial crisis, boards are now expected to devote greater attention to risk
management oversight and remuneration of below-board staff. However, because most boards
still meet only 8-10 times a year, it is critical that they prioritize their activities and manage their
time efficiently.
At many companies, particularly those with a combined chairman-CEO, management
dictates much of the boards agenda. However, the board and management may not always hold
the same view on the priority issues that the board should address for example, regarding the
firms long-term strategic direction, approach to achieving growth, and succession planning and
leadership development.
Operationally, some boards ensure that important topics are not missed by scheduling
discussions of strategy, health and safety, and other significant matters at pre-set intervals that
is, the same time each year. However, such standing calendar items are not always managed
dynamically, resulting in board discussions degrading in quality over time and matters that have
become less significant crowding out increasingly substantial topics.
Rather than relying solely on management and standing calendar items to inform them of
issues requiring their attention, boards should also annually decide their top 3-5 priorities for the
next three or more years. Because boards, compared to management, are less able to rely on
operational, financial, and share price metrics to gauge their performance,19 doing so will also
provide them with a clear yardstick to evaluate how well they are fulfilling their responsibilities.
19
Board activities for instance, spearheading succession planning are often less visible to the outside world and
may not impact the firms bottom line in the near to medium term.
20
DRAFT (1 June 2011)

Specific board priorities will, of course, vary across companies and time. In start-up
enterprises and firms in distress, the board may need to devote a substantial amount of time to
strategy and operations while in mature, well-functioning companies, it may make more sense
for the board to focus on setting challenging performance targets, directing succession planning,
and keeping management egos in check.
At a book retailer whose industry is undergoing radical change, the board has decided to
dedicate half of its time to evaluating potential acquisitions, new business categories, and other
strategic options. At a once-struggling industrial conglomerate, the board shifted its focus from
steadying the ship to exploring growth opportunities when it became clear that the firms
recovery was well underway.
With growing confidence in senior management, the board of an emerging market bank
decided to reduce its involvement in operational matters including lending decisions so that it
could concentrate on strategy. Conversely, following a corruption scandal the board of an
international food services company started to spend more time on operations in this case, by
evaluating potential risks arising from its far-flung operations and putting in place mechanisms
to prevent a recurrence.
In terms of board meetings, board evaluation responses across companies commonly
point to the same deficiencies excessive focus on routine operational issues, too many
presentations by management, and insufficient time for meaningful discussion of strategic
matters.
In explaining board failure at a bailed out bank, the former chairman stated that there
was a lot of presentation but not enough discussion and debate. At a global telecommunication
firm, the chairman complained that there is too much fixed agenda and too little floating agenda.
21
DRAFT (1 June 2011)

Looking forward, we would like to allocate only 30% to board minutes, historical data, CEO
reports, and other backward-looking stuff and 60-70% to technology space, competitor space,
and other strategic matters.
Boards can free up time at their meetings by asking sub-committees to shoulder more of
the workload.
According to the company secretary of a leading mining company, It is
important to farm general monitoring functions to sub-committees so that the whole board can
focus on the most important tasks.
In addition, board agendas should be prioritized so that routine and backward-looking
matters consume a modest amount of time. At one firm, items falling under for information
only for instance, monthly operational reports are not discussed during the board meeting
unless a director notifies the chairman beforehand that he wishes to raise an issue. Similarly,
items for discussion should be organized so that formal presentations take up no more than half
of the allocated time.
Significantly, boards that take charge of their priorities will ensure they are not rushed on
important decisions. At some firms, strategic matters such as entering a new market segment
are decided over multiple board meetings. At the first meeting, the issue is introduced and initial
questions are answered. At the next meeting, a full debate takes place. Finally, the board
renders its decision at the third meeting.

Boards are highly reliant on management to provide them with information on the
company. Executives who report to boards know all too well that they can enlighten outside
directors or keep them in the dark through their choice of words or the tone in their delivery. As
22
DRAFT (1 June 2011)

one financial executive put it, management presentations could be delivered in such a complex
way that [the non-executive directors] would be prevented from asking whether the emperor is
naked, for fear of looking stupid.
In recent years, there have been high-profile incidents of CEOs failing to inform or
involve their boards on critical developments, such as merger discussions. Such breaches of trust
have often led to the CEOs ouster.
At a European electric utility, the board discovered to its dismay that the CEO was not
entirely forthcoming about the deteriorating performance of the company. Although the board
sought to remedy the situation by retaining an executive coach to counsel the CEO, it ultimately
concluded that trust could not be restored and fired him.
Fortunately, executives are increasingly conscious of the importance of keeping their
boards fully informed. One Canadian bank chairman summed up recent trends in his country
with the following remark, I think [Canadian CEOs] are less imperial, more consultative, and
know much better in this day and age how to use a board as a sounding vehicle to try out ideas to
get a debate going up front before making decisions.
Nevertheless, given the risk that they can be manipulated by management, boards must
ensure a collaborative CEO is in place.
Boards should look for collaborative traits when selecting a new CEO. For instance, they
should understand how a candidate who is a sitting CEO at another company interacts with his
board. Boards should avoid candidates who give the impression that the board is an entity to be
managed rather than a body to whom they are accountable.
23
DRAFT (1 June 2011)

Collaboration with the board should be built into the CEOs job description and feedback
provided regularly. To evaluate the CEOs cooperativeness with the board, a UK chairman
includes the following questions in the annual board evaluation survey:
Does the CEO share enough information with the board?
Were all of the questions that the non-executive directors wanted answered answered?
How well does the CEO get along with the chairman and other directors?
At a UK energy company, the board provides periodic feedback to the CEO on his
communication approach. Recently, the chairman told the CEO that he was communicating
more effectively with the other board members, especially the outside directors, who are kept up
to date via e-mails, phone calls, and timely dissemination of research reports on the company.
Trust, of course, is built over time through repeated encounters. On their part, CEOs
must be equally forthcoming about successes and failures and be willing to ask for help. They
can also demonstrate good faith and strengthen trust by empowering the board. At a multinational minerals extraction firm, the chief executive felt that the outside directors didnt fully
understand the challenges the company faced. To deepen their knowledge, he started holding
some board meetings at operating sites in different geographies.
Through their own behavior, boards impact managements willingness to cooperate. For
instance, they can gain the CEOs trust and confidence by demonstrating an ability to add value
and not micro-managing the executive team. On the latter point, a FTSE 100 chairman remarked
that the test is whether executives consider board counsel on matters within managements
areas of responsibility as advice which they can accept or ignore. If they feel that they must
follow it, the line has been crossed.
24
DRAFT (1 June 2011)

To be effective, the board must possess adequate authority and independence from
management. Board authority, however, ebbs and flows. In some cases, such as when it cedes
the chairmans role to the CEO, the board consciously reduces its authority. In other instances,
authority recedes gradually and without notice, until it is too late.
Similarly, although directors are loath to admit it, independence of mind the most
critical facet of independence is likely to erode over time. A prominent UK board director
believes that true independence is at its highest point the day a person joins the board.
Thereafter, it slowly degrades as non-executive directors progressively identify with the
corporate ethos and vision.
Accordingly, boards must be ever-vigilant about preserving their standing and objectivity.
Although not widely discussed, one of the biggest threats to the boards authority is an
increasingly successful CEO. In many industries from financial services to entertainment to
retailing boards have seen their authority slowly chipped away as their CEOs experience ever
greater success.
The process of a board surrendering its authority is often gradual and imperceptible at
first. Tell-tale signs, which may be more apparent to outside observers or in hindsight, include
less robust questioning by the board of managements proposals over time and its readiness to
agree to managements demands on matters for example, relating to remuneration or waiver of
code of conduct requirements that the outside world would consider unreasonable. Some
boards realize the extent to which they have relinquished their authority only upon a change of
CEO or, when something goes wrong, such as a crisis or scandal.
25
DRAFT (1 June 2011)

Take a large industrial company. At the beginning of the CEOs tenure, the boards
domain over him was clear and respected. Over time, as management delivered consistently
strong performance and the chief executives stature inside and outside the firm rose, he
consulted the board less and less. Toward the end of his tenure, the CEO began to view board
meetings as rubber-stamping events. To be fair, the chairman and other non-executive directors
deserve some blame because they willingly ceded authority to the chief executive, although they
may not have fully realized it at the time.
Recognizing this risk, the UK Walker Review states that if the embedding of authority,
perhaps based on some early success or reputation, makes the CEO become effectively
unchallengeable (and possibly a control freak), the CEO will be a major source of risk and will
probably need to be removed.
Combining the chairman and CEO roles is one of the most significant ways to rob boards
of their authority. As a matter of principle, it is highly problematic for a board, whose principal
task is to oversee management, to be led by the head of management. The boards standing is
particularly damaged when, as commonly practiced in the US, a well-performing CEO is
rewarded with the chairmans title.20
Boards can take a number of steps to protect their authority and independence. First, as
the discussion above suggests, boards should ensure that the chairman and CEO positions are
occupied by different individuals. Appointing a lead independent director in lieu of a nonexecutive chairman, the preferred option in the US, is insufficient because lead directors at most
US companies do not have primary responsibility for developing board meeting agendas,
20
Conditional upon satisfactory performance, many US companies will award the chairmans title to a CEO 1-2
years following his initial appointment.
26
DRAFT (1 June 2011)

interviewing board candidates, and other activities that safeguard board authority and
independence.21
Second, boards need to be on top of succession planning and leadership development so
that CEOs will not be able to hold them hostage. At a financial institution, the board was unable
to steer the firm in a different direction because, with no successor waiting in the wings, it had to
rely on the incumbent CEO to integrate a recent acquisition even though his aggressive growth
strategy had put the franchise at risk. At a European retailer, the boards failure to identify a
successor enabled the chief executive to successfully extract from it the chairmans seat as well.
Third, given that a successful CEOs clout will grow, boards should pay attention to the
relative status of people in the boardroom, particularly vis--vis the chief executive. Discussions
with chairmen and direct observations of boardroom dynamics have revealed that CEOs are not
always respectful of non-executive directors whom they perceive to be less qualified than they
are. Equally, outside directors who are in awe of, or intimidated by, a chief executive can be
overly deferential to management.
In the UK, a senior board adviser has observed a CEO-board power differential between
the largest FTSE 30 and mid-size FTSE 250 companies. At mid-size firms, where the board
usually contains some executives from larger FTSE 100 enterprises, the CEO is typically less
influential in the boardroom than his counterparts at the largest corporations, where the nonexecutive directors are of comparable, and sometimes lesser, standing than the CEO.
As a principle, boards should ensure that the statures of non-executives are equal to or
greater than the CEOs and comparable to each other. At one UK company, the chairman has
deliberately recruited to the board individuals who are chairmen at other listed companies. That
21
For further information, see Spencer Stuart (2010), p. 23.
27
DRAFT (1 June 2011)

way, the board is more likely to be respected by the highly successful CEO and non-executive
directors will also treat each other with regard. At another firm, a director candidate will be
nominated to the board only if all of the current non-executive directors support his appointment.
The chairman reasoned that the boards time is so precious that you cannot have a situation
where one director is not respected by all others.
Relative stature between the chairman and the CEO is particularly important. One UK
senior independent director explained, You need a person who can tell a CEO that he is acting
like an idiot when necessary. In Britain, chairmen are usually a decade or so older than their
CEOs, which enhances the chairmans ability to serve as mentor to the chief executive.
Lastly, boards should put in place term limits for directors and the CEO, with flexibility
on the exact timing of exit.22
Director term limits are intended to ensure new perspectives come into the boardroom
and the board remains sufficiently detached from management. At a food services company, the
board many of whose members had served for years became too close to the CEO and did
not challenge him on his undisciplined growth strategy. The strategy subsequently unraveled,
forcing the company to undertake a costly and embarrassing restructuring and leading to the
ouster of the CEO and the long-tenured directors.
One European chairman believes that although you dont want too much turnover, you
need a constant flow. At a Canadian bank, non-executive directors are normally allowed to
serve for 10 years. Although the board has no formal policy on term limits, a UK company
chairman usually seeks to rotate a director off the board after 6-7 years of service.
22
Term limits can be expressed precisely (e.g., 10 years) or as an estimated range (e.g., 10-12 years).
28
DRAFT (1 June 2011)

Correspondingly, limiting CEO tenure may help the board preserve its authority.
Moreover, it will force boards to devote greater attention to succession planning and leadership
development. Perhaps paradoxically, it may also help the company to remain competitive over
the long-term.
Some CEOs also support term limits for their ranks. Former Medtronic CEO William
George, for instance, endorses a maximum tenure of 10 years. At a European company, the
successor to a long-tenured chief executive acknowledges the risks that an increasingly dominant
CEO poses to the board and the company and has pledged to remain in this post for 6-8 years at
most.
One American CEO who imposed a 10-year limit on his own tenure felt that it helped
him become a better leader. Because he couldnt count on staying indefinitely, it injected a sense
of urgency into his work. He also devoted a great deal of time to thinking about the long-term
health of the company and the steps he should take to sustain its success after his departure.
Term limits may also make sense due to evolving company requirements for the CEO
position. In explaining why the board of a mobile telephone operator chose an executive with a
different skill set to succeed the current CEO, the chairman said, The outgoing CEO is a
conceptual thinker, courageous and has a lovely temperament. But he didnt like difficult
conversations. His successor is just as smart but has a much tougher management style and will
deal with performance issues without hesitation. Now that the overall strategy is in place to
establish a substantial presence in key markets we need to focus on instilling greater discipline
in management, particularly on costs. So, the timing was right on making the CEO transition.
29
DRAFT (1 June 2011)

Conclusion
At the end of the day, boards that operate to their potential are characterized by constant
tensions within the boardroom because strategic and other challenging issues are brought to the
fore and its members, committed and knowledgeable, look to contribute in a substantive way.
With mutual esteem and an esprit de corps between the board and management holding them
together, coupled with managements respect for the boards stewardship role, this tension
rather than leading to endless bickering and gridlock helps to facilitate healthy and constructive
debate and improves decision-making. As former UK Financial Reporting Council Chairman Sir
Christopher Hogg has noted, Good boards are pretty uncomfortable places and thats where
they should be.
The steps outlined in this article, applied pragmatically and sensibly, should help boards
get there.
30

Elevating Board Performance

Uploaded by

Copyright:

Available Formats

You might also like

Elevating Board Performance

Uploaded by

Document Information

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Elevating Board Performance

Uploaded by

Copyright:

Available Formats

DRAFT (1 June 2011)