A litany of recent corporate governance failures suggest that there appears to be a problem with how many of the largest businesses are run - Kraft’s botched takeover of Cadbury’s, the Prudential’s failed bid for AIG at a cost of $450m, BA’s failure to deal with a longstanding employee relations issue, BP’s failure to deal with the biggest ever environmental disaster in North America, and the meltdown of the financial system.
The common theme that underpins these corporate fiascos is a failure of corporate governance controls. It’s becoming evident that something needs to change.
With recent corporate behaviours looking anything but responsible or sustainable, many chief executives, especially in the banking world, recognised they need to rebuild trust and restore confidence in their businesses. While there have been changes in a number of chairman and CEO roles in the financial services sector, notably at Royal Bank of Scotland and Northern Rock, there has not been a significant shake up in board membership across industry.
In a withering attack, a New York commentator described UK boards as the most incestuous in the developed world. While the criticism might be overdone, it is perhaps surprising that we haven’t seen a greater shake-up of board level appointments in the last year. In a McKinsey survey released in Spring 2010, out of 186 directors questioned, only half thought their boards had met the corporate stress test of the downturn. In other words there is a fundamental lack of faith on the part of executives who have to run the business in the non-executives who are supposed to steward the business.
At the heart of the problem, there appears to be a tendency to reward well deserving colleagues and acquaintances with a seat on the board without scrutinising whether they are the right people for the job. The government tried to encourage a shake-up of boardrooms when it launched the Higgs Review in 2002. Higgs advised there needed to be greater representation of all aspects of commercial life in the boardrooms and to draw on a much bigger talent pool. The impression is that fundamental change to board make-up (e.g. more women, more ethnic minorities etc) is not happening.
The Financial Reporting Council (FRC) has recently undertaken a review of corporate standards for listed companies and it published its recommendations in May. It had four clear recommendations for board members:
- To increase accountability, all directors of FTSE 350 companies should be put forward for re-election every year.
- To promote proper debate in the boardroom, there are new principles for the leadership of the chairman, the responsibility of the non-executive directors to provide constructive challenge, and the time commitment expected of all directors.
- To encourage boards to be well balanced and avoid groupthink, there are new principles for the composition and selection of the board, including the need to appoint members on merit, against objective criteria, and with due regard for the benefits of diversity, including gender diversity.
- To help enhance the board’s performance and awareness of its strengths and weaknesses, the chairman should hold regular development reviews with each director and FTSE 350 companies should have externally facilitated board effectiveness reviews at least every three years.
These are eminently sensible guidelines but long overdue. Some recent examples such as Prudential’s failed AIG bid and BA's long simmering industrial relations problem appear to be subject to what the FRC calls groupthink. In other words, there’s been a lack of voice amongst boards to properly challenge and hold account the executive on its strategy.
Surely, it has to be the case that if management is subject to performance reviews, it’s important to know the board is fit for purpose as well, particularly in times of crisis. Great talent can be brought in to an organisation and add great value, but the FRC’s report infers that all too often board members are not being appointed based on the right criteria - in other words is a pharmaceutical boss the best candidate for the chairmanship of a bank? And if he is the right man for the job, how can his board be judged on performance without some formal review or assessment? Without the board being assessed, it’s difficult to understand how they can then make a judgement about the performance of a management team.
Leadership is fundamental to the success of a business and successful leadership comes from the top. The board cannot expect senior management to improve its game, especially in these economically challenging times, without first asking itself some searching questions.
Bridget Biggar is director of HR at consulting firm Management Intelligence.
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