Where are the directors?
One of the main functions of the board of directors of corporations is to monitor and advise the executive management team. One can only wonder whether the directors of Air Malta, Bank of Valletta, Wasteserv, to name a few recent cases, were really effectively fulfilling those roles.
This is not problem restricted to our shores as evidenced by the recent Libor fixing scandal and the Standard Chartered affair. I do not expect such problems to end as corporations are run by human beings, prone to making mistakes. This does not mean that we should remain complacent. If we really want to improve future performance then we must first acknowledge our errors and face the consequences, and second, be willing to objectively present the facts and draw lessons for future practice.
However, what has transpired from these cases is that the management and the board either continued to justify that their actions and decisions were right – in spite of evidence to the contrary – or they were focused on trying to pass the buck. The executive management blames the board which, in turn, blames the regulator who, in turn, blames the enforcement if it is conducted by another entity which finally brings us back to executive management. Another popular approach usually consists of the present management or board of directors blaming the previous team under a different political administration for current problems.
What can we do? We could start by learning the lessons from the vast academic research on corporate governance. This literature tries to identify which corporate governance factors corporations should follow by looking at which factors tend to enhance performance and increase stock returns.
These factors mainly focus on the features and composition of the board of directors since this is the entity that has to oversee and advise the executive management team. I will first outline and then explain the features that research has shown to enhance corporate governance. These are chief executive-chair duality, presence of outside directors, ratio of outside or related directors, number of directorships, staggered boards, and institutional holding.
It is important to have a separation between the roles of chairperson and chief executive officer. The latter has to focus on day-to-day management while the former, free from overseeing the daily issues, can focus on long-term strategy and overseeing what the chief executive and the executive management team are doing. The board of directors’ main role is there to control management and should not be there to rubberstamp whatever the chief executive has decided.
To avoid this, it is best to appoint outside directors who are seen to be more independent. They will find it easier to challenge the opinions of the CEO and ask the tough questions.
If there is a higher ratio of outside directors compared to insiders, then the outsider directors will find support whenever they need to bring up issues with which the chief executive is not comfortable. While it is recognised that being director on more than one company can be valuable, the advantage quickly disappears if directors have too many directorships.
Indeed, there are only 24 hours in a day and the work of directors has become more complicated requiring more hours per directorship. In the case of complex institutions like banks, directors must also have specialised skills to be effective.
Another feature that enhances corporate governance is the use of staggered boards. This means that directors are not all renewed at the same time, providing for continuity and stability to the operations of the board. The presence of institutional investors on the board of directors is seen as positive: sophisticated investors can enhance the monitoring function.
Directors are usually chosen among a pool of people who have well ascertained expertise in operating businesses or having worked in the same sector in which the firm is operating. Here again, literature points to the importance of a mix of personalities since collective experience can add more value to the board’s overall work.
For these considerations to be taken in our corporate life, the pool of potential directorship candidates will have to widen. We will have to revise the way we appoint directors.
Robert Suban is a full-time academic within the Department of Banking and Finance at the University of Malta.