Executive Leadership and Corporate Governance (Part Two)

Poor performing Boards of Directors deliver a staggering number of adverse consequences to the shareholders of the companies they are legally charged with representing and protecting (do you see additional and legitimate Director liability in the previous statement?).

Before I enumerate a sampling of those consequences, let’s look at some of the key traits of poor performing and dysfunctional Boards. First and foremost, except in rare cases (possibly such as either a crisis turnaround situation where having a short term monarch (one person speaking for the company) at the helm, or in the case of an early stage start up where separation of the CEO and Chair is not either operationally of fiscally practical, might be beneficial), any company whose CEO is also Board Chair is likely to have a Board that underperforms. The reason is the Board has a legally binding responsibility and authority to hire and fire the CEO in the best interests of the company’s shareholders. That objective position is, if nothing else, psychologically compromised when the Board, which is the governing body to whom the CEO reports, effectively reports to the CEO when the CEO is also the Board Chair. Contrary to the (thankfully) ever shrinking group who would rationalize otherwise, the result of such a structure is an inherent and lasting conflict of interest which cannot be satisfactorily resolved. This structure represents a lack of effective leadership that puts the Board in a position where the best that can be hoped for is average performance.

Some additional traits or characteristics that by themselves identify a Board that is likely underperforming are Board members that are “friendly” to management (objectivity is compromised), Board members that are blood line related to the CEO (objectivity and requisite skill sets are compromised), Board members that do not have extensive experience in an expertise that is vital to the Board’s performance, and, last a Board that has little or no diversity, under any criterion of measurement you would like to use. We are no longer a homogeneous country, society or economy. That being the case, having a look alike, think alike, talk alike Board of Directors prevents management from obtaining the diverse amount of input required to be a leading company in a diverse economic environment.

Whether or not you can accept my thinking that the above are observable in and causative of poor performing Boards, no one will deny that there are poor performing Boards (refer to my recent Blog on the Bell Shaped Curve). So, given they do exist, what are some of the consequences of Boards that underperform?

First and foremost, the shareholders are the recipients of the ultimate fallout from poor Board performance because they are investors in a company that is poorly governed. Studies have shown that poorly governed companies do not fare as well in terms of creating shareholder value as do the shareholders of companies whose governance is graded to be above average.

Additional fallout from poor performing Boards results in management not receiving needed input (stifled by the Imperial CEO/Chair), receiving erroneous input (from Directors lacking sufficient expertise), insurance and bonding costs are increased (because actuaries perceive increased risk), financing either cannot be obtained or carries terms that are perceived by management to be onerous (because financiers perceive increased risk) and a key opportunity to differentiate in a positive manner from competitors is missed.

Finally, and most damaging, is the unavoidable fact that, particularly for privately held companies, when it’s time to sell the company, sophisticated potential buyers who perform true due diligence (i. e., more than just examining financial metrics and legal issues) on the company to be purchased will devalue a company that has been poorly governed. This occurs because the cost to increase the company’s value to a level it should have been at the time of purchase will be borne by the buyer. The buyer will therefore discount the value at the time of sale to accommodate for the additional investment required to bring the company to a desirable level of performance.

Friday’s Blog will outline the process to follow to achieve top notch governance.

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