The limited liability company is a great construct; an efficient vehicle for commerce, through which to pursue an overall aim and to create value over an extended period. What’s more, greater economies of scale are attainable (over what a sole trader or entrepreneur could typically hope to achieve), mixed levels of ownership are possible and, for shareholders, liability is limited to the level of capital invested. Yet for all their benefits, companies are not without flaws—they are social constructions, after all. Even seemingly strong and enduring organisations are susceptible to missteps and failure at the hands of ineffective boards. The societal and economic consequences are not insignificant.
When failures occur, blame is typically placed at the feet of the board of directors. This is reasonable: ultimate responsibility for firm performance does of course lie with the board.
Regulators have responded over the years by tightening statutes with the intention of clarifying boundaries and limiting malfeasance. Researchers, directors’ institutes and stock exchanges have added guidance in the form of codes, recommendations and ‘best practice’ statements.
Superficially, these responses appear to be moves in the right direction. But are they? If the roll call of corporate failures and missteps that continues to emanate from boardrooms is any indication, compliance with statutes and the adoption of codes or contemporary ‘best practice’ recommendations provide little assurance of board effectiveness, let alone high firm performance. They may be necessary, but they are by no means sufficient. A review of how boards actually allocate their time highlights the problem: despite what directors claim, most board meetings are dominated by monitoring, controlling and compliance activity. Precious little time is spent on what matters most: ensuring the performance of the company into the future.
To date, robust explanations of how boards can exert influence over firm performance have remained, demonstrably, elusive. Such guidance is desperately needed if boards are to fulfil their mandate.
Changing the mindset
If different outcomes are to be achieved, a new mindset is required. Flawed understandings of what corporate governance is and how it should be practiced need to be corrected, especially the misguided beliefs that any particular board structure or composition is a reliable predictor of firm performance; or that compliance with statutes or codes, or the close monitoring of management is a precursor to better outcomes. The power games, hubris and ineptitude apparent in some boardrooms also need to be rectified.
Necessarily, effective steering and guidance requires the board to be discerning and committed to the task, drawing on expertise and using relevant practices in pursuit of better outcomes, lest they be diverted by spurious and often discordant ‘best practice’ recommendations that appeal to symptoms or populist ideals. Otherwise, directors will continue to be confused about their duties and responsibilities, the role of the board, what corporate governance is and how it should be practiced.
If boards are to contribute effectively, they need to ensure the ongoing performance of the company they are charged with governing. This includes setting strategy and policy; monitoring and supervising management; overseeing strategy implementation and verifying desired outcomes are achieved; ensuring compliance with relevant statutes and policy; and providing an account to shareholders and legitimate stakeholders. This is corporate governance.
Projecting influence beyond the boardroom
While outcomes are not guaranteed, emerging research reveals that boards can exert influence beyond the boardroom, including on firm performance, but only if they focus on ‘the right things’. Three things matter most, namely, the capability of individual directors (what they bring), the activities of the board (what it does when it meets), and the underlying behavioural characteristics of directors individually and collectively.
A strategic mindset is crucial (the value creation imperative), and proximity (between the board and management) may actually be more conducive to effective contributions and higher quality decisions than separation and distance. The underlying modus operandi should be one of service: the board and management working harmoniously together, as a team in service of the company itself as the purpose for which it exists is pursued. The board’s effectiveness in this regard is readily measured: either it is making a difference (agreed firm performance goals are being achieved, in the context of agreed values and principles), or it is not.
The need for a new approach to corporate governance has never been more pressing. If shareholders understand the capabilities needed in their directors (and recruit accordingly), and boards understand and intentionally exercise several underlying behavioural characteristics as they seek to perform agreed strategic management tasks effectively, then increased influence from the boardroom is not only possible, it is potentially transformative.
About Peter Crow:
Dr Peter Crow is an experienced company director and board advisor with internationally acknowledged expertise in strategy, corporate governance and board effectiveness. www.petercrow.com
This article first appeared in LinkedIn Pulse