Company Boards More Similar than Distinct in Operation

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The four tiers of conflict of interest faced by board directors

Professor of Governance and Finance
Founder and Director of IMD Global Board Center

Topics: Finance, Governance

Professor of Governance and Finance
Founder and Director of IMD Global Board Center

Topics: Finance, Governance

Conflicts of interest abound at the board level. They constitute a significant issue in that they affect ethics by distorting decision making and generating consequences that can undermine the credibility of boards, organizations or even entire economic systems.

Many corporations require board members to sign a conflict of interest policy at the time of appointment or to declare any conflicts of interest at the beginning of board meetings. Conflict of interest policies normally specify how directors should avoid conflicts of interest. This narrow focus only scratches the surface, given the scope, responsibilities and dynamics of decision making in the boardroom.

The real danger lies in the extent to which boards and directors are unaware of the many subtle conflicts of interest that they are dealing with. The boardroom is a dynamic place where struggles of ego, power, rules, and authority continuously surface, and it is not always clear, in the turmoil of group dynamics, what constitutes a conflict of interest or the manner in which one should participate in board deliberations. Furthermore, director duties tend to diverge from one company to another and from country to country, which adds even more complexity.

In countries with relatively strong shareholder rights, such as in the US, directors are expected to be accountable to shareholders. However, excessive promotion of the interests of shareholders can lead to conflicts with other stakeholders. Due to different contractual arrangements, the interests of stakeholders are often in conflict. Board members are required to always use ethical and appropriate judgment to make seemingly correct choices when conflicts arise.

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In many other countries, directors have a duty to the company, not to shareholders. In Germany, for example, the company is considered distinct from the collective shareholders, which prevents shareholders from claiming that the directors have a duty toward them first and foremost. Shareholders are seen as one kind of stakeholder among a pool of many, and the company does not have a duty to maximize shareholder value. Boards are composed of interested directors, such as representatives of employees, shareholders, and other stakeholders. The loyalties of these stakeholder representatives are often divided, and considering that multiple-role directors have to rebalance different interests, the potential for conflict becomes clear.

When the interests of a broader group of stakeholders, such as a government or society, are added to the mix, this judgment goes far beyond what might be included in a written conflict of interest policy. In this article we seek to analyze conflicts of interest as a four-tier pyramid by exploring more and more in depth the conflicting situations, right down to the fundamental purpose of business, in view of helping board directors make better decisions by taking an ethical stand in shaping business in society.

The four tiers of conflicts of interest

A tier-I conflict is an actual or potential conflict between a board member and the company. The concept is straightforward: A director should not take advantage of his or her position. As the key decision makers within the organization, board members should act in the interest of the key stakeholders, whether owners or society at large, and not in their own. Major conflicts of interest could include, but are not restricted to, salaries and perks, misappropriation of company assets, self-dealing, appropriating corporate opportunities, insider trading, and neglecting board work. All board members are expected to act ethically at all times, notify promptly of any material facts or potential conflicts of interest and take appropriate corrective action.

Tier-II conflicts arise when a board member’s duty of loyalty to stakeholders or the company is compromised. This would happen when certain board members exercise influence over the others through compensation, favors, a relationship, or psychological manipulation. Even though some directors describe themselves as “independent of management, company, or major shareholders,” they may find themselves faced with a conflict of interest if they are forced into agreeing with a dominant board member. Under particular circumstances, some independent directors form a distinct stakeholder group and only demonstrate loyalty to the members of that group. They tend to represent their own interest rather than the interests of the companies.

A tier-III conflict emerges when the interests of stakeholder groups are not appropriately balanced or harmonized. Shareholders appoint board members, usually outstanding individuals, based on their knowledge and skills and their ability to make good decisions. Once a board has been formed, its members have to face conflicts of interest between stakeholders and the company, between different stakeholder groups, and within the same stakeholder group. When a board’s core duty is to care for a particular set of stakeholders, such as shareholders, all rational and high-level decisions are geared to favor that particular group, although the concerns of other stakeholders may still be recognized. Board members have to address any conflicts responsibly and balance the interests of all individuals involved in a contemplative, proactive manner.

Tier-IV conflicts are those between a company and society and arise when a company acts in its own interests at the expense of society. The doctrine of maximizing profitability may be used as justification for deceiving customers, polluting the environment, evading taxes, squeezing suppliers, and treating employees as commodities. Companies that operate in this way are not contributors to society. Instead, they are viewed as value extractors. Conscientious directors are able to distinguish good from bad and are more likely to act as stewards for safeguarding long-term, responsible value creation for the common good of humanity. When a company’s purpose is in conflict with the interests of society, board members need to take an ethical stand, exercise care, and make sensible decisions.

The four tiers of conflict of interest faced by board directors


The four tiers of conflict of interest faced by board directors


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Tier-I conflicts: Individual directors vs. company

Directors are supposed to “possess the highest personal and professional ethics, integrity and values, and be committed to representing the long-term interest of the shareowners.” However, in many cases shareholders have sued directors for taking advantage of the company. An actual or potential conflict between a board member and a company is called a tier-I conflict.

A company is normally considered as a separate legal entity that is independent from its directors, executives and shareholders. Powerful directors such as founders or dominant shareholders can be accused of misappropriating company assets if they are found stealing from their own company; directors who trade on the basis of material, non-public information can be sued for insider trading; those caught accepting bribes or working for competing companies may be asked to resign; directors who sign agreements on behalf of the company that mainly contribute to their own enrichment may be charged with self-dealing. For example, the well-known case of Guth vs. Loft Inc. in 1939 addressed the issues of individuals pursuing business opportunities for self-enrichment.

When board members fail to dedicate the necessary effort, commitment and time to their board work, it can result in a conflict between the board member and the company. Directors often serve on multiple boards in order to benefit from several compensation packages. This can often complicate matters for the respective directors, as they may not be able to allocate sufficient time to governing any one company. According to the Spencer Stuart US Board Index 2020, approximately 25% of S&P 500 boards do not impose a limit on the number of board positions. Crainer and Dearlove described that directors who were unable to devote a sufficient amount of their time to any one board, “stuffed the document in their briefcases, all 200 pages or so, and leafed through them in the taxi to the meeting. They extracted, at random, a paper, formulated a trick question and entered the meeting room ready to fire. After all, board work is a power game.” Lack of effort, focus and dedication are types of conflict of interest that have not yet received the attention they deserve.

It is well understood that tier-I conflicts arise when directors take advantage of their positions. However, when directors lack commitment and dedication to their duties, the conflict of interest is somewhat more subtle and much less obvious. Companies need to issue guidelines regarding directors’ conflicts of interest and ensure that directors follow these rules and act in the interest of the organizations they serve.

Companies can self-assess their exposure to tier-I conflicts by asking the following questions:

  1. Has the company experienced situations in which individual directors have taken advantage of the company through compensation, self-dealing, stealing, insider trading, accepting bribes or appropriating opportunities for personal benefit?
  2. How could negligence of board work or lack of commitment present a conflict of interest?
  3. Would signing a code of conduct at the time of appointment be helpful?

Tier-II conflicts: Directors vs. stakeholders

To whom do board members owe their loyalty? This depends very much on law and tradition and the prevailing legal system, social norms or the company’s specific situation. For example, directors might declare that they owe their duty of loyalty to shareholders, the company itself, certain stakeholders or other board members.

The complex institutional loyalty of board directors

In the US, directors often have a duty of loyalty toward the company’s shareholders. The idea of maximizing shareholder value came from Milton Friedman, who proposed that executives and directors should focus solely on creating value for shareholders. Others argue that since the directors and executives are paid by the company, they are employees of the company – not of the shareholders – so they should thus focus on the interests of the company rather than on those of the shareholders.

According to Lynn Stout, a distinguished professor of corporate and business law at Cornell Law School, shareholder value maximization is a choice, not a legal requirement. The assumption that shareholders are principals and that directors are their agents is legally incorrect. Corporate law clearly states that shareholders cannot control directors or executives. They have the right to vote on the positions of the directors of the board and recover damage compensation from directors and executives if they are found to have stolen from the company but they have no right to tell executives how to run the company.

Being loyal to shareholders is, in any case, easier said than done. Shareholders come and go and their interest in the company is limited to their shareholding period. Shareholder’s interests vary depending on their investment horizon, degree of diversification and investment strategy. Given the many types of shareholders, reaching a consensus for all of them is a daunting task. Ordinary individuals and families who invest for their retirement or to fund future expenses are often represented by institutional investors such as sovereign wealth funds, banks, hedge funds, pension funds, insurance companies and other financial institutions. These powerful representatives interact with board members frequently and exercise most of the pressure, but when they put personal interest before that of the ultimate shareholders, interests could be misaligned. For example, the representatives may be striving for short-term personal gain or compensation while the ultimate investors may want the same as all other stakeholders: the creation and preservation of the corporation’s long-term sustainable wealth.

If maximizing shareholder value is a widely accepted norm, then board members would be better positioned if they announced that their loyalty lay with the ultimate shareholders. This would lead them to become stewards of the company and refrain from being distracted by proposals that generate immediate stock returns but endanger the long-term prospects of the company.

A study of directors’ duties in all 27 EU member states and Croatia showed that in Europe directors primarily have a duty of loyalty to their company. This principle is universally accepted and undisputed across the 27 EU countries. All board members, including shareholder representatives, are required to balance the interests of all stakeholders with the long-term prospects of the company. To balance the interests, composition and independence of the board of directors are often defined in the corporate governance codes.

For example, according to the Swedish Corporate Governance Code (applicable from November 1, 2020), “boards of Swedish listed companies are composed entirely or predominantly of non-executive directors. The Code also states that a majority of the members of the board should be independent of the company and its management. At least two members must also be independent of the company’s major shareholders, which means that it is possible for major shareholders of Swedish companies to appoint a majority of members with whom they have close ties.” Even if all directors have a duty of loyalty to their company, most directors serving on the Swedish boards could have close ties with major shareholders, and according to the Code, some directors could have ties with minority shareholders, management, or other stakeholders. The ties with various stakeholder groups potentially create divided loyalties for directors.

The laws of some countries require stakeholder representatives on boards to serve the interests of their respective principals in some situations. For example, banker directors, who are only appointed as board members when a company is in financial distress, must be loyal to their bank, which lent money to the company in question. When the company nears insolvency, the duty to shareholders or to promote the success of the company will be modified by the obligation to act in the interest of the creditors. While it may be perfectly legal for such interested parties to be members of the board, it can help if each stakeholder group puts their ultimate objectives on the table before starting negotiations. This allows minority shareholders and minor stakeholders to have their perspectives heard, which may incite majority shareholders to be more inclined to balance their own interests with those of others.

Influence of domineering board members on others

Both independent and interested directors can potentially be influenced by powerful CEOs, chairpersons or other directors through compensation, favors, relationships or psychological manipulation. Board members may also forsake their institutional duties out of personal loyalty to the CEO or chairperson. One way directors can determine whether they have been overly influenced is by asking themselves, “Have I been influenced or manipulated in order to agree with others?”

Persuasive influence often comes from people holding the combined role of CEO and chairperson as they can sway other board members’ compensation. Even if a board comprises primarily independent directors, it may not be able to remain truly independent from the management. Paul Hodgson, director at BHJ Partners in Portland, Maine, reportedly said about boards that “Shareholders can sit back and say ‘These directors are being paid so well that I can’t see them ever questioning management on anything, because this is a gig they would hate to lose.’” If most of the board members generate a significant total income from board compensation packages, how independent could they be in reality?

Personal, familial and professional relationships can also potentially affect an independent director’s judgment. The social connections between directors and CEOs or chairpersons cannot always be thoroughly checked. For example, retired CEOs may remain chairpersons on the company’s board, and many of the directors on that board may owe the chairperson their job. Or the CEO may invite close friends to join the board as directors. In both cases, the directors in question may be influenced by a sense of loyalty or duty to the chairperson or CEO, even if the CEO or chairperson is not acting in the best interests of the company or its shareholders or other stakeholders. Independent directors would be reluctant to contradict the views of a CEO or chairperson to whom they felt they owed their loyalty, so rather than do so they may either comply or step down from their role.

Boardrooms are dynamic places where heated discussions occur. Those occupying positions of power, such as the CEO and the chairperson, may manipulate directors into agreeing with their preferred decisions using psychological tactics such as tone of voice and eye contact to dominate the discussion, rebuff criticism, or intimidate others for their personal gain. In some cases, board members may feel as though they are being victimized or manipulated while those dominating the discussion may just think that they are leading a dynamic interaction. Such unbalanced dynamics, including superiority and inferiority complexes, reduce the effectiveness of board discussions and prevent independent directors from exercising their duty as directors.

Board directors organized as a self-interested stakeholder group

Regulators and researchers have argued that boards should comprise a greater number of independent directors to ensure that business decisions are not disproportionately influenced by powerful stakeholders. The Spencer Stuart Board Index 2020 survey confirmed that S&P 500 boards elected 371 new independent directors in the 2020 proxy year, a 9% increase from 2020. This followed a 16% increase during the 2020 proxy year.

Independent directors can form a distinct stakeholder group. This happens more often when directors are put in a “survival” mode, in case of financial or political crisis, severe shareholders’ conflicts, hostile takeover or growing tension with management. Such coalitions are growing in power and authority as independent board members increasingly remain loyal to each other in the boardroom, subjugating the interests of the organizations they are supposed to represent to their own. In other words, these stakeholder groups have their own motives and interests and the strategic decisions they make benefit themselves rather than the organizations they are paid to serve.

In certain countries, unless specified otherwise, directors decide what their salary, shares and options will be. If no independent body such as a shareholder committee or a regulator oversees the compensation of directors, this can easily lead to a conflict of interest with the company. In the case of Calma v. Templeton (April 2020), the Delaware Chancery Court in the United States allowed a claim that challenged the directors’ stock compensation from going forward because it was considered “excessive.” The compensation plan limited the number of shares to 1 million per year per participant, which represented a value of US$55 million at the time of the lawsuit. The court determined that the entire decision process for compensation was unfair because the awards to the outside directors were decided by the recipients themselves.

In a 2020 Harvard Business Review article, “What CEOs really think of their boards,” one CEO was quoted as saying, “They like their board seats – it gives them some prestige. They can be reluctant to consider recapitalization, going private, or merging –‘Don’t you know, we might lose our board positions!’ I have been shocked by board members saying, ‘that would be an interesting thing to do, but what about us?’” Another CEO was quoted as saying, “In one situation, we had a merger not go through because of who was going to get what number of board seats… It is still the most astounding conversation of my life.” Rather than steering the company toward long-term value creation, directors who are primarily focused on their own interests tend to lose their objective vision when it comes to making the right decisions for the company. An exceptionally destructive scenario might consist of two stakeholder groups – the executive directors group vs. the independent directors group – leveraging their full control over the board and benefiting one another by building an “I’ll scratch your back if you scratch mine” relationship with both groups continuing to add to their individual compensation at the expense of the company and other stakeholders.

We can see that high compensation does not always have as positive an effect as it was intended to. The more compensation directors receive, the greater their personal desire to be re-elected becomes, so they increasingly focus on remaining on the board, enjoying their status and fame, boosting their compensation further, and obtaining more directorships on other boards.

The structure and level of directors’ compensation varies internationally. According to the German Corporate Governance code, the compensation of supervisory board directors consists of a combination of cash and shares and is linked to individual background and involvement in board and committee functions. At Deutsche Bank, 25% of the directors’ compensation was converted into shares of the company based on the average share price during the last 10 trading days of the year.

In China, not all board members receive compensation from the company they serve. For example, shareholder representatives working full time at the Industrial and Commercial Bank of China (ICBC) receive their compensation from China’s sovereign wealth fund – China Investment Corporation (CIC). This means that state owners oversee the compensation of both executive directors and independent directors, which effectively eliminates the possibility of self-dealing. At ICBC, the modest pay still attracts high-quality independent members to the board, especially those with positive character traits such as conscientiousness, integrity, competence, judgment, focus, and dedication, which cannot be motivated or demotivated solely with money.

  1. In your legal system, to whom do board members owe their duty of loyalty?
  2. Can you define whether in your specific context loyalty to shareholder or loyalty to company is primary? Are there minority shareholders to be concerned about?
  3. If a director claims to owe his or her duty of loyalty to shareholders, would one be able to specify who the shareholders are, i.e. fund managers or activists, large shareholders on the board, minority shareholders not on the board, or the ultimate shareholders?
  4. Can a director be fully independent when the CEO or chairperson decides on the compensation and succession of the directors?
  5. If a director is independent, could you specify who they are independent from (i.e. management, shareholders, other stakeholders, etc.)?
  6. Have you experienced a situation in which domineering directors felt as though they were having a heated discussion while others felt as though they were being suppressed?
  7. Are you aware that directors can form coalitions and leverage their full control of the board to benefit one another in an “I’ll scratch your back, you scratch mine” type of relationship?

Tier-III conflicts: Stakeholders vs. other stakeholders

Directors on boards have another duty: exercising due diligence when making decisions. In Germany duty of care is a legal obligation. The law states that “executive members have to exercise the care of an ordinary and conscientious business leader.” Directors have a fiduciary responsibility to the company from the moment they are recruited, and they are expected to display a high standard of expertise, care and diligence by gathering as much information as possible and considering all reasonable alternatives in order to make sensible decisions.

The trust placed in directors gives them maximum autonomy in decision making, and decisions are not questioned unless they are deemed irrational. This business judgment rule protects directors from potential liabilities, as their decisions are not tainted by personal interest. Though directors are not allowed to act in their own interests, they can promote the interests of a particular stakeholder group against the company, or the interests of one group of stakeholders against another, or they can favor one subgroup over another within the same stakeholder group. It is up to directors to make wise decisions when stakeholders are in conflict.

If a board is composed of interested directors who remain loyal to their respective stakeholders, then it is necessary for stakeholder representatives to cooperate and find the optimal coalition to address common interests. Directors on boards must keep in mind the interests of weak or distant stakeholders to ensure their interests are not overlooked.

Conflicts of interest between stakeholders and the company

A company is an aggregation of stakeholders bound together by economic interest. All stakeholders expect to receive a sizable slice of the pie in exchange for their input. Each group of stakeholders has a different contractual arrangement with the company and distinct motives that means they will be more likely to push for decisions that benefit themselves first and foremost. For example, creditors, such as banks, will prefer the company to play it safe in order to maximize the chances that it will pay off its debt, but this low level of risk taking could hurt the company’s long-term growth potential. At the other end of the spectrum, shareholders can benefit from the successful outcome of a risky project while their losses are limited to the amount of their investment, so they are more likely to encourage risk taking, even if it means putting the company’s survival at risk.

Employees receive cash compensation plus benefits. By negotiating above-average compensation for workers, unions put the profitability of the company at risk. Many companies have gone bankrupt as a result of out-of-control labor costs. In 2008, for instance, workers at GM, Ford and Chrysler were among the most highly paid in the US with over US$70 an hour in wages and benefits once retirement benefits were included in the calculation. This was considerably higher than the average hourly labor costs of US$25.36 for all private-sector workers, and the three car manufacturers were paying about US$30 per hour more than their Asian rivals operating in the US. GM and Chrysler declared bankruptcy whereas Ford Motor Company managed to survive without bailout funds. Eventually, all three recovered by adjusting labor costs to be more or less in line with competitors, which they did by creating private trusts to finance the benefits of future retirees.

As a result of the financial difficulties that many companies encountered during the 1980s and early 1990s, some companies allowed labor unions to designate one or more members of the firm’s board of directors. The first major company in the United States to elect a union leader to its board was Chrysler in 1980. Board members representing unions have a delicate balancing act to play and they need to be aware of the potential conflicts of interest inherent in their role. On the one hand, if they push for high wage increases they could lead the company into bankruptcy and negatively affect all stakeholders in the long run. On the other hand, if they agree to substantial wage reductions they could lose the trust of the workers they are supposed to defend and represent.

Weak corporate governance could open the door for management to take excessive risks. When the bonuses and incentives of top management are linked to quarterly earnings and profits, managers may be more inclined to focus on the short term, which sometimes leads to hazardous environmental and social impacts. BP’s decision to save US$1 million a day by circumventing safety procedures on its Gulf of Mexico rigs is a poignant example of such decisions. The disaster eventually cost the company nearly US$100 billion.

Consumers and customers depend on companies for the reliable supply of products and services. When a company changes its pricing strategy, depending on the product it can potentially have serious repercussions on consumers. In September 2020, Turing Pharmaceuticals raised the price of Daraprim – a 62-year-old drug for the treatment of a life-threatening parasite infection – from US$13.50 to US$750 per tablet. For some patients, treatment became unbearably expensive, and hospitals were forced to use less-effective alternatives to limit costs. Martin Shkreli, the 32-year-old founder, hedge fund manager and chief executive of Turing, said, “This is still one of the smallest pharmaceutical products in the world….It really doesn’t make sense to get any criticism for this.” But in December 2020, Martin Shkreli was arrested for “repeatedly losing money for investors and lying to them about it, illegally taking assets from one of his companies to pay off debtors in another.”

It is challenging for directors to decide which stakeholder group to prioritize when it comes to value distribution and how to slice the pie. In conflict situations, customers can hurt companies, and companies can harm the interests of customers. Closely involved stakeholders such as creditors, employees, top management or shareholders all have motives to push for decisions that benefit themselves but that may potentially hurt the interests of the company in the long run.

Conflicts of interest between different classes of stakeholders

Conflicts can arise between the different classes of stakeholders, e.g. shareholders vs. creditors. Creditors, such as banks, play an important role in corporate governance systems. In some countries, they not only lend to firms but also hold equity so that they can have board representation. In the US, regulations prevent banks from dealing with debt-equity conflicts through equity ownership. With the Federal Reserve’s quantitative-easing program, share buybacks became the preferred way to boost stock prices for the benefit of shareholders. In 2020, S&P 500 index companies returned more money to shareholders through share buyback and dividend payments than they earned. Some of them even borrowed money to pay dividends, which represents a direct transfer of value from creditors to shareholders since a higher level of debt increases the probability of default and reduces the value of the creditor’s stake. An extreme example to illustrate this is that a company can borrow money, then sell all its assets to pay shareholders a liquidating dividend, leaving creditors with a worthless business.

Executives may sometimes take part in controversial activities in the name of shareholders’ interests. Lou Gerstner had a record of fixing ailing companies and was credited with rescuing IBM through tough decision making, including massive layoffs. One major change took place in 1999, when IBM overhauled its pension plan under Gerstner to help cut costs, shocking long-term employees. In 2002 Gerstner ended his tenure at IBM with an annual salary of over US$1.5 million, an annual pension of over US$1.1 million and over US$288,000 in deferred compensation in 2001 alone. IBM employees later filed a class-action lawsuit over the pension changes, and in 2004 the company agreed to pay US$320 million to current and former employees in a settlement. If an executive’s compensation is linked to cost savings on the back of employees, the two groups are considered to be in conflict of interest.

Even when executives proclaim that they are dedicated to the interests of shareholders, the fact that they try hard to minimize shareholder involvement in corporate governance shows that there is a conflict of interest between the two groups. As Steve Pearlstein wrote in The Washington Post in 2020, “This blatant hypocrisy is most recently revealed in the all-out effort by the business lobby to prevent shareholders from voting on executive pay or having the right to nominate a competing slate of directors.” The same year, the Swiss population passed a referendum “against corporate rip-offs,” which allowed shareholders to control the salaries of executives. A majority of 67.9% of voters supported the reform, which stipulated that the shareholders of all Swiss public listed companies must elect all the members of a company’s remuneration committee, and all directors are subject to annual re-elections.

Supporters spent CHF 200,000 to put forward the initiative, while opponents spent CHF 8 million trying to block it. This Swiss referendum was one of the first social responses to the conflict of interest between executives and shareholders. The initiative was launched by businessman Thomas Minder, whose own story illustrated how entrenched executives could damage all other parties to benefit themselves. Minder’s company, Trybol, supplied cosmetics to Swissair. It suffered significant losses when Swissair went bankrupt in 2001 due to a failed expansion strategy. Before the bankruptcy, it was made public that Swissair’s top executive was to receive a golden parachute totaling CHF 12.5 million. Minder was so irritated that he started the anti-rip-off initiative.

Could certain stakeholder groups, such as management, creditors, or shareholders benefit specifically from corporate decisions that could potentially hurt the other stakeholders? This is apparent when the value increase for one class of stakeholders is directly linked to the value reduction of another class of stakeholders.

Conflicts of interest within a group of stakeholders

In closely held companies, large shareholders can exploit minority shareholders by leveraging their control power. More often, directors are influenced by the controlling shareholder sitting on the board. Their directorship as shareholders, preference for capital structure, dividend policy, and investment strategy, or their position with regard to mergers and acquisitions might be in conflict with other shareholders.

In 2020 Volkswagen AG’s supervisory board comprised 20 members, with only one independent director. The founding Piëch and Porsche families co-dominated the board in alliance with unions and the government. Volkswagen chairman Ferdinand Karl Piëch, the grandson of Ferdinand Porsche (Porsche founder), leaked the following comment to the press without the board’s knowledge: “I am distancing myself from Winterkorn (Volkswagen CEO).” These six words further inflamed a decades-long battle between the two shareholding families behind Volkswagen and Porsche. Ferdinand Karl Piëch probably instigated this tension with the intention of extending his influence as a controlling shareholder. But during the shareholder showdown, Winterkorn won the support of the Porsche family, the labor leaders and the state of Lower Saxony. After losing the battle, Ferdinand Karl Piëch resigned as chairman of Volkswagen AG. However, before long Martin Winterkorn found himself having to resign amid the VW emissions scandal in September 2020.

The Volkswagen case shows that it is difficult for a board to optimize the interests of shareholders when they have conflicting interests. In practice, when most directors on boards are shareholders or stakeholder representatives, infighting becomes a common issue. Minority shareholders are vulnerable when the controlling owner attempts to squeeze out the other shareholders, for example by buying, selling or leasing assets at non-market prices, as a way to shift corporate resources to the large owner.

Conflicts within one group of stakeholders are not limited to shareholders. Creditors on boards could have an unfair advantage over other creditors in that they could use insider information to shield themselves from potential trouble and hurt other class of debt holders, especially when the firm is in financial distress.

The following is a checklist of tier-III conflicts of interest:

  1. Why is a key stakeholder group pushing for decisions that may benefit themselves but potentially hurt the interests of the company in the long run?
  2. How can the pie be divided when there are conflicts of interest between the different classes of stakeholders, such as shareholders vs. creditors, executives vs. employees, or executives vs. shareholders?
  3. How can conflicts of interest between subgroups of one particular stakeholder group be dealt with?
  4. How can a director make a wise decision when stakeholders have conflicting incentives and goals?

Tier-IV conflicts: Company vs. society

The way a company views its purpose will affect its notion of responsibility, accountability and how it creates value. The ethical behavior of executives has deep roots in Western ethical traditions. Discussions on business ethics have been ongoing since the market economy emerged more than 750 years ago. In general, company and society are not in conflict: Corporations contribute to society by inventing new technologies, fulfilling consumers’ demands for goods and services and creating jobs; society creates the conditions that allow companies to harness their potential for the common good of humanity.

In 1981 Business Roundtable, an association of chief executive officers of leading US companies working to promote sound public policy, stated that “Corporations have a responsibility, first of all, to make available to the public quality goods and services at fair prices, thereby earning a profit that attracts investment to continue and enhance the enterprise, provide jobs, and build the economy” and that, “the long-term viability of the corporation depends upon its responsibility to the society of which it is a part. The well-being of society also depends upon profitable and responsible business enterprises.” Initially executives accepted this definition of the responsibilities of companies but their stance changed dramatically when in 1997 the Business Roundtable redefined the purpose of a corporation in society as being “to generate economic returns to its owners” and that if “the CEO and the directors are not focused on shareholder value, it may be less likely the corporation will realize that value.” It became a duty for board members to admit that the sole purpose of corporations was to maximize shareholder value.

If not managed properly, maximizing returns for shareholders – for example by deceiving customers, defaulting on payments to creditors, squeezing suppliers and employees and evading taxes – can strip value generation from other stakeholders. Indirect harmful effects on society include shaping the rules of the game (e.g. lobbying to change a law, tax rules, accounting rules, subsidies, etc.), pollution, market manipulations through collusion, or limiting the opportunities for future generations to improve their lives. Such behavior may well increase payoffs to shareholders in the short term but it can only lead to the eventual demise of the corporation and total destruction of long-term shareholder value. The only class of stakeholders that benefits from this short-term value maximization exercise are chief executives enjoying high compensation, severance packages and golden parachutes. According to Fortune, the average tenure of CEOs in the 500 largest companies in the US is 4.9 years. When a CEO believes they could be dismissed at any time, they may be more inclined to take decisions that maximize their own income in the short term in the name of maximizing shareholder value. If all CEOs behave in this manner and boards of directors allow it, companies will end up doing more harm than good to society.

In a study of stewardship, companies potentially ranking highly in stewardship used a broad vocabulary to describe their relationships with other stakeholders in their 10K reports – words including air, carbon, child, children, climate, collaboration, communities, cooperation, CSR, culture, dialog, dialogue, ecological, economical, environment, families, science, stakeholder, transparency and well-being. This mirrored their long-term approach to building rapport with local communities and the broader society.

By comparison, companies potentially ranking low in terms of stewardship used words like appeal, arbitration, attorney, attorneys, claims, court, criticized, defendant, defendants, delinquencies, delinquency, denied, discharged, enforceability, jurisdiction, lawsuit, lawsuits, legislative, litigation, petition, petitions, plaintiff, punitive, rulings, settlement, settlements, and suit. This indicates that companies rarely benefit from bad actions in the long run, as cost will come back to the company in the form of litigation, sanctions, fines or public humiliation.

The aftermath of the 2008 financial crisis demonstrated that greed does not pay. From 2008 to 2020, 20 of the world’s biggest banks paid more than US$235 billion in fines for having manipulated currency and interest rates and deceived customers. For example the Bank of America alone paid approximately US$80 billion while JP Morgan Chase paid up to US$20 billion. These fines were expected to deter further wrongdoing and to change corporate culture.

Society and various stakeholders place their trust in board directors to run companies and they hold them accountable for doing so. Directors need to understand that a company cannot prosper if it is in conflict with society, and that since they have the power and authority to recruit, monitor and support management, they are on the front line when it comes to changing the company’s culture from having a short-term focus to considering the long term when resolving potential conflicts between the company and society.

Self-assessment questions to ponder with regard to this last dimension include:

  1. Why does your company exist?
  2. How does it create value?
  3. Is your company a contributor or a value-extractor in society?
  4. Do you have the courage to take an ethical stand when your company is in conflict with society?


A company is the nexus that links the interests of each stakeholder group within its ecosystem. The board is the decision-making body and its successes and failures are determined by the ability of its board directors to understand and manage the interests of key stakeholder groups. It is not an easy task to balance the interest of different stakeholders when shareholders are the ones who put money and often more visible and demanding. There is no “one size fits all” solution to corporate governance issues, and there is no straightforward answers to manage all the conflicts of interest given the unpredictable nature of firm and business environment contexts, boardroom dynamics and human behaviors. In principle, decisions at the board level should be ethical and reasonably balanced.

Boards need to have a specific policy in place for dealing with tier-I conflicts of interest between individual directors and the company. This policy needs to specify processes for dealing with major actual and potential conflicts, such as misappropriation of assets; insufficient effort, focus and dedication to board work; self-dealing and related transactions; insider trading; and taking advantage of corporate opportunities in an open and transparent way. If possible, the policy should be signed by all directors and updated regularly, and conflicts of interest should be declared at each board meeting. The control mechanisms could be institutionalized. ICBC’s supervisory board is composed of five to seven stakeholder professionals and some of them are full-time on-site supervisors. By attending board meetings as non-voting delegates, ICBC’s board of supervisors is able to monitor the performance of directors and senior management, auditing processes, and overall activities and decisions that affect the company in the short and long term. Monitoring is based on several criteria, such as work attitude, behavior, capacity to fulfill duties, contribution, and so on. In addition, retiring and leaving directors, presidents and other senior management members have to undergo an auditing process by the board of supervisors. This type of institution is rarely seen in Western countries, so a similar and feasible solution is to allow external auditors to play a role here.

To deal with tier-II conflicts, directors need to disclose their relationship with stakeholders. This gives them an opportunity to declare in advance who they represent. Even if the law requires all directors to represent the interests of the company, identifying their connections with specific stakeholder groups improves transparency and avoids the risk of conflicts of interest. It is also crucial to specify who nominates new directors, who decides on directors’ compensation, how the pay structure and level are determined, and how pay is linked to performance and function. In performing their duties, all directors need to put aside their ego, follow rules in discussions, respect others, and avoid toxic behavior in the boardroom. Coalitions can be beneficial when they are aimed at acting in the best interest of the company, but they can be harmful when they are formed with the aim of dominating the board or benefitting a particular stakeholder group.

Tier-III conflicts of interest can be minimized when directors and boards “slice the company pie” properly in an effort to support cooperation and avoid inducing sabotage, riots, retaliation, fines, in-fights or legal actions. Wise decision making requires understanding deep-rooted conflicts between stakeholders and the company, between different stakeholder groups, and between subgroups of one stakeholder group. No company can survive without the input of each stakeholder group: responsible shareholders, understanding debt holders, innovative employees, satisfied customers, happy suppliers, great products and services, friendly communities as well as effective and efficient government.

Tier-IV conflicts between the company and society are philosophical. Solving them requires directors to act as moral agents and be able to distinguish “good” from “bad.” Do companies compensate stakeholders because they are useful, because they are protected by law? Or do they do so because stakeholders contributed to the success of the company? Should companies consider the interests of future generations who have not directly contributed to profitability and who are not represented on the board? Should companies make corporate sustainability investments because they are popular, because they portray the company in a favorable way and increase profitability in the long run, or because they are a way to show true gratitude?

Good governance starts with the integrity and ethics of every director on every board. Board directors have a moral obligation not to take advantage of the company, but to be loyal to the company, make wise decisions, neutralize conflicts among stakeholders, and act in a socially responsible way. An ethical board sets the purpose of the company, which in turn influences all dealings with stakeholders. The four-tier pyramid summarizing the different levels of conflict of interest can help board directors anticipate and identify potential conflicts, deal with conflicts and make sensible decisions to chart a course for the future of the company.

Company Boards: More Similar than Distinct in Operation

Corporate governance is the system by which companies are directed and controlled.

Learning Objectives

Identify the five major categories of financial disclosures

Key Takeaways

Key Points

  • In contemporary business corporations, the main external stakeholder groups are shareholders, debtholders, trade creditors, suppliers, customers, and communities affected by the corporation’s activities. Internal stakeholders are the board of directors, executives, and other employees.
  • Ways of mitigating or preventing these conflicts of interests include the processes, customs, policies, laws, and institutions which have impact on the way a company is controlled.
  • A related but separate thread of discussion focuses on the impact of a corporate governance system on economic efficiency, with a strong emphasis on shareholders’ welfare.
  • Principles of corporate governance include rights and equitable treatment of shareholders, interests of other stakeholders, role and responsibilities of the board, integrity and ethical behavior, and disclosure and transparency.

Key Terms

  • stakeholders: A corporate stakeholder is that which can affect or be affected by the actions of the business as a whole.
  • Auditing: The general definition of an audit is an evaluation of a person, organization, system, process, enterprise, project or product. The term most commonly refers to audits in accounting, but similar concepts also exist in project management, quality management, water management, and energy conservation.

What is Corporate Governance?

Corporate governance is the system by which companies are directed and controlled. It involves regulatory and market mechanisms; the roles and relationships between a company’s management, its board, its shareholders, and other stakeholders; and the goals for which the corporation is governed. In contemporary business corporations, the main external stakeholder groups are shareholders, debtholders, trade creditors, suppliers, customers, and communities affected by the corporation’s activities. Internal stakeholders are the board of directors, executives, and other employees.

Redisigning corporate governance: Corporate governance deals with the conflicts of interests in a company.

Much of the contemporary interest in corporate governance is concerned with mitigation of the conflicts of interests between stakeholders. Ways of mitigating or preventing these conflicts of interests include the processes, customs, policies, laws, and institutions which have impact on the way a company is controlled. An important theme of corporate governance is the nature and extent of accountability of people in the business.

A related but separate thread of discussion focuses on the impact of a corporate governance system on economic efficiency, with a strong emphasis on shareholders’ welfare. In large firms where there is a separation of ownership and management and no controlling shareholder, the principal –agent issue arises between upper-management (the “agent”) which may have very different interests, and by definition considerably more information, than shareholders (the “principals”). Rather than overseeing management on behalf of shareholders, the board of directors may become insulated from shareholders and beholden to management. This aspect is particularly present in contemporary public debates and developments in regulatory policy.

Principles Of Corporate Governance

Contemporary discussions of corporate governance tend to refer to principles raised in three documents released since 1990: The Cadbury Report (UK, 1992), the Principles of Corporate Governance (OECD, 1998 and 2004), the Sarbanes-Oxley Act of 2002 (US, 2002). The Cadbury and OECD reports present general principals around which businesses are expected to operate to assure proper governance. The Sarbanes-Oxley Act, informally referred to as Sarbox or Sox, is an attempt by the federal government in the United States to legislate several of the principles recommended in the Cadbury and OECD reports.

Rights and Equitable Treatment Of Shareholders

Organizations should respect the rights of shareholders and help shareholders to exercise those rights. They can help shareholders exercise their rights by openly and effectively communicating information and by encouraging shareholders to participate in general meetings.

Interests Of Other Stakeholders

Organizations should recognize that they have legal, contractual, social, and market driven obligations to non-shareholder stakeholders, such as employees, investors, creditors, suppliers, local communities, customers, and policy makers.

Role and Responsibilities Of the Board

The board needs sufficient relevant skills and understanding to review and challenge management performance. It also needs adequate size and appropriate levels of independence and commitment.

Integrity and Ethical Behavior

Integrity should be a fundamental requirement in choosing corporate officers and board members. Organizations should develop a code of conduct for their directors and executives that promotes ethical and responsible decision making.

Disclosure and Transparency

Organizations should clarify and make publicly known the roles and responsibilities of board and management to provide stakeholders with a level of accountability. They should also implement procedures to independently verify and safeguard the integrity of the company’s financial reporting. Disclosure of material matters concerning the organization should be timely and balanced to ensure that all investors have access to clear, factual information.

Codes and Guidelines

Corporate governance principles and codes have been developed in different countries and issued from stock exchanges, corporations, institutional investors, or associations (institutes) of directors and managers with the support of governments and international organizations. As a rule, compliance with these governance recommendations is not mandated by law, although the codes linked to stock exchange listing requirements may have a coercive effect.

One of the most influential guidelines has been the OECD Principles of Corporate Governance—published in 1999 and revised in 2004. The OECD guidelines are often referenced by countries developing local codes or guidelines. Building on the work of the OECD, other international organizations, private sector associations, and more than 20 national corporate governance codes formed the United Nations Intergovernmental Working Group of Experts on International Standards of Accounting and Reporting (ISAR) to produce their Guidance on Good Practices in Corporate Governance Disclosure. This internationally agreed benchmark consists of more than fifty distinct disclosure items across five broad categories:

  1. Auditing
  2. Board and management structure and process
  3. Corporate responsibility and compliance
  4. Financial transparency and information disclosure
  5. Ownership structure and exercise of control rights

Most codes are largely voluntary. An issue raised in the U.S. since the 2005 Disney decision is the degree to which companies manage their governance responsibilities. In other words, do they merely try to supersede the legal threshold? Or should they create governance guidelines that ascend to the level of best practice?

Sarbanes–Oxley Act of 2002

The Sarbanes–Oxley Act is a US federal law enhancing standards for all US public company boards, management and public accounting firms.

Learning Objectives

Describe the new responsibilities imposed on a corporation by Sarbanes-Oxley

Key Takeaways

Key Points

  • As a result of SOX, top management must now individually certify the accuracy of financial information.
  • SOX increased the independence of outside auditors who review the accuracy of corporate financial statements, and increased the oversight role of boards of directors.
  • SOX was enacted as a reaction to a number of major corporate and accounting scandals.
  • The Sarbanes–Oxley Act includes Auditor Independence, Corporate Responsibility, Enhanced Financial Disclosures, Analyst Conflicts of Interest, Commission Resources and Authority, Corporate and Criminal Fraud Accountability, Corporate Tax Returns, and Corporate Fraud Accountability..

Key Terms

  • external auditor: An external auditor is an audit professional who performs an audit in accordance with specific laws or rules on the financial statements of a company, government entity, other legal entity or organization, and who is independent of the entity being audited.
  • conflicts of interest: A conflict of interest (COI) occurs when an individual or organization is involved in multiple interests, one of which could possibly corrupt the motivation for an act in the other.

The Sarbanes–Oxley Act

The Sarbanes–Oxley Act of 2002 is a United States federal law that set new or enhanced standards for all U.S. public company boards, management and public accounting firms. The act is also known as the “Public Company Accounting Reform and Investor Protection Act” (in the Senate) and “Corporate and Auditing Accountability and Responsibility Act” (in the House). It’s more commonly called Sarbanes–Oxley, Sarbox or SOX; it is named after sponsors U.S. Senator Paul Sarbanes (D-MD) and U.S. Representative Michael G. Oxley (R-OH). As a result of SOX, top management must now individually certify the accuracy of financial information. In addition, penalties for fraudulent financial activity are much more severe. Also, SOX increased the oversight role of boards of directors while also increasing the independence of outside auditors who review the accuracy of corporate financial statements.

Sarbanes-Oxley Act: SOX is a United States federal law that set new or enhanced standards for all U.S. public company boards, management and public accounting firms.

The bill was enacted as a reaction to major corporate and accounting scandals affecting Enron, Tyco International and others. These scandals, which cost investors billions of dollars, shook public confidence in the nation’s securities markets.

Debate continues over the perceived benefits and costs of SOX. Opponents of the bill claim it has reduced America’s international competitive edge against foreign financial service providers, saying it introduced an overly complex regulatory environment into U.S. financial markets. Proponents of the measure say that SOX has improved the confidence of fund managers and other investors with regard to the veracity of corporate financial statements.

Public Company Accounting Oversight Board (PCAOB)

Title I consists of nine sections and establishes the Public Company Accounting Oversight Board, providing independent oversight of public accounting firms. It also creates a central oversight board tasked with registering auditors, defining the specific processes for compliance audits, inspecting conduct and quality control, and enforcing compliance.

Auditor Independence

Title II consists of nine sections and establishes standards for external auditor independence. It also addresses new auditor approval requirements, audit partner rotation and auditor reporting requirements. It restricts auditing companies from providing non-audit services (e.g., consulting) for the same clients.

Corporate Responsibility

Title III consists of eight sections mandating that senior executives take individual responsibility for the accuracy and completeness of corporate financial reports. It defines the interaction of external auditors and corporate audit committees, and specifies the responsibility of corporate officers for the accuracy and validity of corporate financial reports.

Enhanced Financial Disclosures

Title IV consists of nine sections. It describes enhanced reporting requirements for financial transactions, including off-balance-sheet transactions, pro-forma figures and stock transactions of corporate officers. It requires internal controls for assuring the accuracy of financial reports and disclosures, and mandates both audits and reports on those controls.

Analyst Conflicts of Interest

Title V consists of only one section, which includes measures designed to help restore investor confidence in reporting of securities analysts. It defines the codes of conduct for securities analysts and requires disclosure of knowable conflicts of interest.

Commission Resources and Authority

Title VI consists of four sections and defines practices to restore investor confidence in securities analysts. It also defines the SEC ‘s authority to censure securities professionals from practice and defines conditions under which a person can be barred from practicing as a broker, advisor, or dealer.

Studies and Reports

Title VII consists of five sections and requires the Comptroller General and the SEC to perform various studies and report their findings. Studies include the effects of consolidation of public accounting firms and role of credit rating agencies in the operation of securities markets.

Corporate and Criminal Fraud Accountability

Title VIII consists of seven sections and is also referred to as the “Corporate and Criminal Fraud Accountability Act of 2002. ” It describes specific criminal penalties for manipulation, destruction or alteration of financial records, or other interference with investigations, while also providing certain protections for whistleblowers.

White Collar Crime Penalty Enhancement

Title IX consists of six sections. This section increases the criminal penalties associated with white-collar crimes and conspiracies. It recommends stronger sentencing guidelines and specifically adds failure to certify corporate financial reports as a criminal offense.

Corporate Tax Returns

Title X consists of one section. Section 1001 states that the Chief Executive Officer should sign the company tax return.

Corporate Fraud Accountability

Title XI consists of seven sections. Section 1101 recommends a name for this title as “Corporate Fraud Accountability Act of 2002. ” It identifies corporate fraud and records tampering as criminal offenses and joins those offenses to specific penalties. It also revises sentencing guidelines and strengthens their penalties.

Principles of Corporate Governance

The following post is based on a Business Roundtable publication.

Business Roundtable has been recognized for decades as an authoritative voice on matters affecting American business corporations and meaningful and effective corporate governance practices.

Since Business Roundtable last updated Principles of Corporate Governance in 2020, U.S. public companies have continued to adapt and refine their governance practices within the framework of evolving laws and stock exchange rules. Business Roundtable CEOs continue to believe that the United States has the best corporate governance, financial reporting and securities markets systems in the world. These systems work because they give public companies not only a framework of laws and regulations that establish minimum requirements but also the flexibility to implement customized practices that suit the companies’ needs and to modify those practices in light of changing conditions and standards.

Over the last several years, the external environment in which public companies operate has become increasingly complex for companies and shareholders alike. The increased regulatory burdens imposed on public companies in recent years have added to the costs and complexity of overseeing and managing a corporation’s business and bring new challenges from operational, regulatory and compliance perspectives. In addition, many U.S. public companies have a global profile; they interact with investors, suppliers, customers and government regulators around the world and do so in an era in which instant communication is the norm. Further, in the recent past, Congress has abandoned strict adherence to the fundamental principle of materiality, a central tenet of the disclosure requirements of the federal securities laws. Instead, Congress has sought to use the securities laws to address issues that are immaterial to shareholders’ investment or voting decisions. For example, Congress has required public companies to disclose information relating to conflict minerals and payments to foreign governments for resource extraction and mine safety, information that may be relevant in a social context but has little relevance to material information that a shareholder would need to make an investment decision.

The current environment has also been shaped by fundamental changes in shareholder engagement, which has become a central and essential topic for public companies and their boards, managers and investors in the early 21st century. Public companies have undertaken unprecedented levels of proactive engagement with their major shareholders in recent years. Many institutional investors have also increased their engagement efforts, dedicating significant resources to governance issues, company outreach, the development of voting policies and the analysis of the proposals on the ballots of their portfolio companies. In addition, overall levels of shareholder activism remain at record highs, imposing significant pressures on targeted companies and their boards.

Further, many of today’s shareholders—and not only those typically viewed as “activists”—have higher expectations relating to engagement with the board and management than shareholders of years past. These investors seek a greater voice in the company’s strategic decisionmaking, capital allocation and overall corporate social responsibility, areas that traditionally were the sole purview of the board and management. Moreover, some shareholder-driven campaigns to change corporate strategies (through spin-offs, for example) or capital allocation strategies (through share repurchase programs) suggest that in some cases, at least, shareholder input on these matters has been heard in the boardroom. Some commentators view this rise in shareholder empowerment as appropriate, arguing that shareholders are the ultimate owners of the company. Others question, however, whether activists’ goals are overly focused on short-term uses of corporate capital, such as share repurchases or special dividends. Capital allocation strategies focusing on short-term value may be entirely appropriate for a shareholder, regardless of the length of its investment horizon. The board, however, has a very different role when considering the appropriate use of capital for the company and all of its shareholders. Specifically, the board must constantly weigh both long-term and short­ term uses of capital (for example, organic or inorganic reinvestment, returns to shareholders, etc.) and then determine the appropriate allocation of that capital in keeping with the company’s business strategy and the goal of long-term value creation.

Business Roundtable CEOs believe that shareholder engagement will continue to be a critical corporate governance issue for U.S. companies in the years to come. Further, it is our sense that there is a growing recognition in corporate America that an increase in shareholder access to the boardroom cannot come without a corresponding increase in shareholder responsibility. Here, as in many areas of corporate governance, transparency is a basic but essential element—for example, in this “age of information,” a shareholder that wishes to influence corporate behavior should be encouraged to publicly disclose the nature of its identity and ownership, even in cases where the federal securities laws may not specifically require disclosure.

More fundamentally, we believe that the responsibility of shareholders extends beyond disclosure. We sense that there is a rising belief that shareholders cannot seek additional empowerment without assuming some accountability for the goal of long-term value creation for all shareholders. Moreover, we believe that shareholders should not use their investments in U.S. public companies for purposes that are not in keeping with the purposes of for-profit public enterprises, including but not limited to the advancement of personal or social agendas unrelated and/or immaterial to the company’s business strategy.

We believe that this concept of shareholder responsibility and accountability will—and should­—become an integral part of modern thinking relating to corporate governance in the coming years, and we look forward to taking a leadership role in discussions relating to these important issues.

In light of the evolving landscape affecting U.S. public companies, Business Roundtable has updated Principles of Corporate Governance. Although Business Roundtable believes that these principles represent current practical and effective corporate governance practices, it recognizes that wide variations exist among the businesses, relevant regulatory regimes, ownership structures and investors of U.S. public companies. No one approach to corporate governance may be right for all companies, and Business Roundtable does not prescribe or endorse any particular option, leaving that to the considered judgment of boards, management and shareholders. Accordingly, each company should look to these principles as a guide in developing the structures, practices and processes that are appropriate in light of its needs and circumstances.

Guiding Principles of Corporate Governance

Business Roundtable supports the following core guiding principles:

  1. The board approves corporate strategies that are intended to build sustainable long-term value; selects a chief executive officer (CEO); oversees the CEO and senior management in operating the company’s business, including allocating capital for long-term growth and assessing and managing risks; and sets the “tone at the top” for ethical conduct.
  2. Management develops and implements corporate strategy and operates the company’s business under the board’s oversight, with the goal of producing sustainable long-term value creation.
  3. Management, under the oversight of the board and its audit committee, produces financial statements that fairly present the company’s financial condition and results of operations and makes the timely disclosures investors need to assess the financial and business soundness and risks of the company.
  4. The audit committee of the board retains and manages the relationship with the outside auditor, oversees the company’s annual financial statement audit and internal controls over financial reporting, and oversees the company’s risk management and compliance programs.
  5. The nominating/corporate governance committee of the board plays a leadership role in shaping the corporate governance of the company, strives to build an engaged and diverse board whose composition is appropriate in light of the company’s needs and strategy, and actively conducts succession planning for the board.
  6. The compensation committee of the board develops an executive compensation philosophy, adopts and oversees the implementation of compensation policies that fit within its philosophy, designs compensation packages for the CEO and senior management to incentivize the creation of long-term value, and develops meaningful goals for performance-based compensation that support the company’s long-term value creation strategy.
  7. The board and management should engage with long-term shareholders on issues and concerns that are of widespread interest to them and that affect the company’s long-term value creation. Shareholders that engage with the board and management in a manner that may affect corporate decisionmaking or strategies are encouraged to disclose appropriate identifying information and to assume some accountability for the long-term interests of the company and its shareholders as a whole. As part of this responsibility, shareholders should recognize that the board must continually weigh both short-term and long-term uses of capital when determining how to allocate it in a way that is most beneficial to shareholders and to building long-term value.
  8. In making decisions, the board may consider the interests of all of the company’s constituencies, including stakeholders such as employees, customers, suppliers and the community in which the company does business, when doing so contributes in a direct and meaningful way to building long-term value creation.

This post is intended to assist public company boards and management in their efforts to implement appropriate and effective corporate governance practices and serve as spokespersons for the public dialogue on evolving governance standards. Although there is no “one size fits all” approach to governance that will be suitable for all U.S. public companies, the creation of long-term value is the ultimate measurement of successful corporate governance, and it is important that shareholders and other stakeholders understand why a company has chosen to use particular governance structures, practices and processes to achieve that objective. Accordingly, companies should disclose not only the types of practices they employ but also their bases for selecting those practices.

I. Key Corporate Actors

Effective corporate governance requires a clear understanding of the respective roles of the board, management and shareholders; their relationships with each other; and their relationships with other corporate stakeholders. Before discussing the core guiding principles of corporate governance, Business Roundtable believes describing the roles of these key corporate actors is important.

  • The board of directors has the vital role of overseeing the company’s management and business strategies to achieve long-term value creation. Selecting a well-qualified chief executive officer (CEO) to lead the company, monitoring and evaluating the CEO’s performance, and overseeing the CEO succession planning process are some of the most important functions of the board. The board delegates to the CEO—and through the CEO to other senior management—the authority and responsibility for operating the company’s business. Effective directors are diligent monitors, but not managers, of business operations. They exercise vigorous and diligent oversight of a company’s affairs, including key areas such as strategy and risk, but they do not manage—or micromanage—the company’s business by performing or duplicating the tasks of the CEO and senior management team. The distinction between oversight and management is not always precise, and some situations (such as a crisis) may require greater board involvement in operational matters. In addition, in some areas (such as the relationship with the outside auditor and executive compensation), the board has a direct role instead of an oversight role.
  • Management, led by the CEO, is responsible for setting, managing and executing the strategies of the company, including but not limited to running the operations of the company under the oversight of the board and keeping the board informed of the status of the company’s operations. Management’s responsibilities include strategic planning, risk management and financial reporting. An effective management team runs the company with a focus on executing the company’s strategy over a meaningful time horizon and avoids an undue emphasis on short-term metrics.
  • Shareholders invest in a corporation by buying its stock and receive economic benefits in return. Shareholders are not involved in the day-to-day management of business operations, but they have the right to elect representatives (directors) and to receive information material to investment and voting decisions. Shareholders should expect corporate boards and managers to act as long-term stewards of their investment in the corporation. They also should expect that the board and management will be responsive to issues and concerns that are of widespread interest to long-term shareholders and affect the company’s long-term value. Corporations are for-profit enterprises that are designed to provide sustainable long-term value to all shareholders. Accordingly, shareholders should not expect to use the public companies in which they invest as platforms for the advancement of their personal agendas or for the promotion of general political or social causes.
  • Some shareholders may seek a voice in the company’s strategic direction and decisionmaking—areas that traditionally were squarely within the realm of the board and management. Shareholders who seek this influence should recognize that this type of empowerment necessarily involves the assumption of a degree of responsibility for the goal of long-term value creation for the company and all of its shareholders.

Effective corporate governance requires dedicated focus on the part of directors, the CEO and senior management to their own responsibilities and, together with the corporation’s shareholders, to the shared goal of building long-term value.

II. Key Responsibilities of the Board of Directors and Management

An effective system of corporate governance provides the framework within which the board and management address their key responsibilities.

Board of Directors

A corporation’s business is managed under the board’s oversight. The board also has direct responsibility for certain key matters, including the relationship with the outside auditor and executive compensation. The board’s oversight function encompasses a number of responsibilities, including:

  • Selecting the CEO. The board selects and oversees the performance of the company’s CEO and oversees the CEO succession planning process.
  • Setting the “tone at the top.” The board should set a “tone at the top” that demonstrates the company’s commitment to integrity and legal compliance. This tone lays the groundwork for a corporate culture that is communicated to personnel at all levels of the organization.
  • Approving corporate strategy and monitoring the implementation of strategic plans. The board should have meaningful input into the company’s long-term strategy from development through execution, should approve the company’s strategic plans and should regularly evaluate implementation of the plans that are designed to create long-term value. The board should understand the risks inherent in the company’s strategic plans and how those risks are being managed.
  • Setting the company’s risk appetite, reviewing and understanding the major risks, and overseeing the risk management processes. The board oversees the process for identifying and managing the significant risks facing the company. The board and senior management should agree on the company’s risk appetite, and the board should be comfortable that the strategic plans are consistent with it. The board should establish a structure for overseeing risk, delegating responsibility to committees and overseeing the designation of senior management responsible for risk management.
  • Focusing on the integrity and clarity of the company’s financial reporting and other disclosures about corporate performance. The board should be satisfied that the company’s financial statements accurately present its financial condition and results of operations, that other disclosures about the company’s performance convey meaningful information about past results as well as future plans, and that the company’s internal controls and procedures have been designed to detect and deter fraudulent activity.
  • Allocating capital. The board should have meaningful input and decisionmaking authority over the company’s capital allocation process and strategy to find the right balance between short-term and long-term economic returns for its shareholders.
  • Reviewing, understanding and overseeing annual operating plans and budgets. The board oversees the annual operating plans and reviews annual budgets presented by management. The board monitors implementation of the annual plans and assesses whether they are responsive to changing conditions.
  • Reviewing the company’s plans for business resiliency. As part of its risk oversight function, the board periodically reviews management’s plans to address business resiliency, including such items as business continuity, physical security, cybersecurity and crisis management.
  • Nominating directors and committee members, and overseeing effective corporate governance. The board, under the leadership of its nominating/corporate governance committee, nominates directors and committee members and oversees the structure, composition (including independence and diversity), succession planning, practices and evaluation of the board and its committees.
  • Overseeing the compliance program. The board, under the leadership of appropriate committees, oversees the company’s compliance program and remains informed about any significant compliance issues that may arise.

CEO and Management

The CEO and management, under the CEO’s direction, are responsible for the development of the company’s long-term strategic plans and the effective execution of the company’s business in accordance with those strategic plans. As part of this responsibility, management is charged with the following duties.

  • Business operations. The CEO and management run the company’s business under the board’s oversight, with a view toward building long-term value.
  • Strategic planning. The CEO and senior management generally take the lead in articulating a vision for the company’s future and in developing strategic plans designed to create long-term value for the company, with meaningful input from the board. Management implements the plans following board approval, regularly reviews progress against strategic plans with the board, and recommends and carries out changes to the plans as necessary.
  • Capital allocation. The CEO and senior management are responsible for providing recommendations to the board related to capital allocation of the company’s resources, including but not limited to organic growth; mergers and acquisitions; divestitures; spin-offs; maintaining and growing its physical and nonphysical resources; and the appropriate return of capital to shareholders in the form of dividends, share repurchases and other capital distribution means.
  • Identifying, evaluating and managing risks. Management identifies, evaluates and manages the risks that the company undertakes in implementing its strategic plans and conducting its business. Management also evaluates whether these risks, and related risk management efforts, are consistent with the company’s risk appetite. Senior management keeps the board and relevant committees informed about the company’s significant risks and its risk management processes.
  • Accurate and transparent financial reporting and disclosures. Management is responsible for the integrity of the company’s financial reporting system and the accurate and timely preparation of the company’s financial statements and related disclosures. It is management’s responsibility—under the direction of the CEO and the company’s principal financial officer—to establish, maintain and periodically evaluate the company’s internal controls over financial reporting and the company’s disclosure controls and procedures, including the ability of such controls and procedures to detect and deter fraudulent activity.
  • Annual operating plans and budgets. Senior management develops annual operating plans and budgets for the company and presents them to the board. The management team implements and monitors the operating plans and budgets, making adjustments in light of changing conditions, assumptions and expectations, and keeps the board apprised of significant developments and changes.
  • Selecting qualified management, establishing an effective organizational structure and ensuring effective succession planning. Senior management selects qualified management, implements an organizational structure, and develops and executes thoughtful career development and succession planning strategies that are appropriate for the company.
  • Business resiliency. Management develops, implements and periodically reviews plans for business resiliency that provide the most critical protection in light of the company’s operations.
    • Risk identification. Management identifies the company’s major business and operational risks, including those relating to natural disasters, leadership gaps, physical security, cybersecurity, regulatory changes and other matters.
    • Crisis preparedness. Management develops and implements crisis preparedness and response plans and works with the board to identify situations (such as a crisis involving senior management) in which the board may need to assume a more active response role.

III. Board Structure

Public companies employ diverse approaches to board structure and operations within the parameters of applicable legal requirements and stock market rules. Although no one structure is right for every company, Business Roundtable believes that the practices set forth in the following sections provide an effective approach for companies to follow.

Board Composition

  • Size. In determining appropriate board size, directors should consider the nature, size and complexity of the company as well as its stage of development. Larger boards often bring the benefit of a broader mix of skills, backgrounds and experience, while smaller boards may be more cohesive and may be able to address issues and challenges more quickly.
  • Composition. The composition of a board should reflect a diversity of thought, backgrounds, skills, experiences and expertise and a range of tenures that are appropriate given the company’s current and anticipated circumstances and that. collectively, enable the board to perform its oversight function effectively.
    • Diversity. Diverse backgrounds and experiences on corporate boards, including those of directors who represent the broad range of society, strengthen board performance and promote the creation of long-term shareholder value. Boards should develop a framework for identifying appropriately diverse candidates that allows the nominating/corporate governance committee to consider women, minorities and others with diverse backgrounds as candidates for each open board seat.
    • Tenure. Directors with a range of tenures can contribute to the effectiveness of a board. Recent additions to the board may provide new perspectives, while directors who have served for a number of years bring experience, continuity, institutional knowledge, and insight into the company’s business and industry.
  • Characteristics. Every director should have integrity, strong character, sound judgment, an objective mind and the ability to represent the interests of all shareholders rather than the interests of particular constituencies.
  • Experience. Directors with relevant business and leadership experience can provide the board a useful perspective on business strategy and significant risks and an understanding of the challenges facing the business.
  • Independence. Director independence is critical to effective corporate governance, and providing objective independent judgment that represents the interests of all shareholders is at the core of the board’s oversight function. Accordingly, a substantial majority of the board’s directors should be independent, according to applicable rules and regulations and as determined by the board.
    • Definition of “independence.” An independent director should not have any relationships that may impair, or appear to impair, the director’s ability to exercise independent judgment. Many boards have developed their own standards for assessing independence under stock market definitions, in addition to considering the views of institutional investors and other relevant groups.
    • Assessing independence. When evaluating a director’s independence, the board should consider all relevant facts and circumstances, focusing on whether the director has any relationships, either direct or indirect, with the company, senior management or other directors that could affect actual or perceived independence. This includes relationships with other companies that have significant business relationships with the company or with not-for-profit organizations that receive substantial support from the company. While it has been suggested that long-standing board service may be perceived to affect director independence, long tenure, by itself, should not disqualify a director from being considered independent.
  • Election. Directors should be elected by a majority vote for terms that are consistent with long­ term value creation. Boards should adopt a resignation policy under which a director who does not receive a majority vote tenders his or her resignation to the board for its consideration. Although the ultimate decision whether to accept or reject the resignation will rest with the board, the board and its nominating/corporate governance committee should think critically about the reasons why the director did not receive a majority vote and whether or not the director should continue to serve. Among other things, they should consider whether the vote resulted from concerns about a policy issue affecting the board as a whole or concerns specific to the individual director and the basis for those concerns.
  • Time commitments. Serving as a director of a public company requires significant time and attention. Certain roles, such as committee chair, board chair and lead director, carry an additional time commitment beyond that of board and committee service. Directors must spend the time needed and meet as frequently as necessary to discharge their responsibilities properly. While there may not be a need for a set limit on the number of outside boards on which a director or committee member may serve—or for any limits on other activities a director may pursue outside of his or her board duties—each director should be committed to the responsibilities of board service, and each board should monitor the time constraints of its members in light of their particular circumstances.

Board Leadership

  • Approaches. U.S. companies take a variety of approaches to board leadership; some combine the positions of CEO and chair while others appoint a separate chair. No one leadership structure is right for every company at all times, and different boards may reach different conclusions about the leadership structures that are most appropriate at any particular point in time. When appropriate in light of its current and anticipated circumstances, a board should assess which leadership structure is appropriate.
  • Lead/presiding director. Independent board leadership is critical to effective corporate governance regardless of the board’s leadership structure. Accordingly, the board should appoint a lead director, also referred to as a presiding director, if it combines the positions of CEO and chair or has a chair who is not independent. The lead director should be appointed by the independent directors and should serve for a term determined by the independent directors.
  • Lead directors perform a range of functions depending on the board’s needs, but they typically chair executive sessions of a board’s independent or nonmanagement directors, have the authority to call executive sessions, and oversee follow-up on matters discussed in executive sessions. Other key functions of the lead director include chairing board meetings in the absence of the board chair, reviewing and/or approving agendas and schedules for board meetings and information sent to the board, and being available for engagement with long-term shareholders.

Board Committee Structure

  • An effective committee structure permits the board to address key areas in more depth than may be possible at the full board level. Decisions about committee membership and chairs should be made by the full board based on recommendations from the nominating/corporate governance committee.
  • The functions performed by the audit, nominating/corporate governance and compensation committees are central to effective corporate governance; however, no one committee structure or division of responsibility is right for all companies. Thus, the references in Section IV to functions performed by particular committees are not intended to preclude companies from allocating these functions differently.
  • The responsibilities of each committee and the qualifications required for committee membership should be clearly defined in a written charter that is approved by the board. Each committee should review its charter annually and recommend changes to the board. Committees should apprise the full board of their activities on a regular basis.
  • Board committees should meet all applicable independence and other requirements as to membership (including minimum number of members) prescribed by applicable law and stock exchange rules.

IV. Board Committees

Audit Committee

  • Financial acumen. Audit committee members must meet minimum financial literacy standards, and one or more committee members should be an audit committee financial expert, as determined by the board in accordance with applicable rules.
  • Overboarding. With the significant responsibilities imposed on audit committees, consideration should be given to whether limiting service on other public company audit committees is appropriate. Policies may permit exceptions if the board determines that the simultaneous service would not affect an individual’s ability to serve effectively.
  • Outside auditor. The audit committee is responsible for the company’s relationship with its outside auditor, including:
    • Selecting and retaining the outside auditor. The audit committee selects the outside auditor; reviews its qualifications (including industry expertise and geographic capabilities), work product. independence and reputation; and reviews the performance and expertise of key members of the audit team. The committee reviews new leading partners for the audit team and should be directly involved in the selection of the new engagement partner. The committee oversees the process of negotiating the terms of the annual audit engagement.
    • Overseeing the independence of the outside auditor. The committee should maintain an ongoing, open dialogue with the outside auditor about independence issues. The committee should identify those services, beyond the annual audit engagement. that it believes the outside auditor can provide to the company consistent with maintaining independence and determine whether to adopt a policy for preapproving services to be provided by the outside auditor or approving services on an engagement-by-engagement basis.
  • Financial statements. The committee should discuss significant issues relating to the company’s financial statements with management and the outside auditor and review earnings press releases before they are issued. The committee should understand the company’s critical accounting policies and why they were chosen, what key judgments and estimates management made in preparing the financial statements, and how they affect the reported financial results. The committee should be satisfied that the financial statements and other disclosures prepared by management present the company’s financial condition and results of operations accurately and are understandable.
  • Internal controls. The committee oversees the company’s system of internal controls over financial reporting and its disclosure controls and procedures, including the processes for producing the certifications required of the CEO and principal financial officer. The committee periodically reviews with both the internal and outside auditors, as well as with management, the procedures for maintaining and evaluating the effectiveness of these systems. The committee should be promptly notified of any significant deficiencies or material weaknesses in internal controls and kept informed about the steps and timetable for correcting them.
  • Risk assessment and management. Many audit committees have at least some responsibility for risk assessment and management due to stock market rules. However, the audit committee should not be the sole body responsible for risk oversight, and the board may decide to allocate some aspects of risk oversight to other committees or to the board as a whole depending on the company’s industry and other factors. A company’s risk oversight structure should provide the full board with the information it needs to understand all of the company’s major risks, their relationship to the company’s strategy and how these risks are being addressed. Committees with risk-related responsibilities should report regularly to the full board on the risks they oversee and brief the audit committee in cases where the audit committee retains some risk oversight responsibility.
  • Compliance. Unless the full board or one or more other committees do so, the audit committee should oversee the company’s compliance program, including the company’s code of conduct. The committee should establish procedures for handling compliance concerns related to potential violations of law or the company’s code of conduct, including concerns relating to accounting, internal accounting controls, auditing and securities law issues.
  • Internal audit. The committee oversees the company’s internal audit function and ensures that the internal audit staff has adequate resources and support to carry out its role. The committee reviews the scope of the internal audit plan, significant findings by the internal audit staff and management’s response, and the appointment and replacement of the senior internal auditing executive and assesses the performance and effectiveness of the internal audit function annually.

Nominating/Corporate Governance Committee

  • Director qualifications. The committee should establish, and recommend to the board for approval, criteria for board membership and periodically review and recommend changes to the criteria. The committee should review annually the composition of the board, including an assessment of the mix of the directors’ skills and experience; an evaluation of whether the board as a whole has the necessary tools to effectively perform its oversight function in a productive, collegial fashion; and an identification of qualifications and attributes that may be valuable in the future based on, among other things, the current directors’ skill sets, the company’s strategic plans and anticipated director exits.
  • Succession planning. The committee, together with the board, should actively conduct succession planning for the board of directors. The committee should proactively identify director candidates by canvassing a variety of sources for potential candidates and retaining search firms. Shareholders invested in the long-term success of the company should have a meaningful opportunity to nominate directors and to recommend director candidates for nomination by the committee, which may include proxy access if shareholder support is broad based and the board concludes this access is in the best interests of the company and its shareholders. Although the CEO meeting with potential board candidates is appropriate, the final responsibility for selecting director nominees should rest with the nominating/corporate governance committee and the board.
    • Background and experience. In connection with renomination of a current director, the nominating/corporate governance committee should review the director’s background, perspective, skills and experience; assess the director’s contributions to the board; consider the director’s tenure; and evaluate the director’s continued value to the company in light of current and future needs. Some boards may undertake these steps as part of the annual nomination process, while others may use a director evaluation process.
    • Independence. The nominating/corporate governance committee should ensure that a substantial majority of the directors are independent both in fact and in appearance. The committee should take the lead in assessing director independence and make recommendations to the board regarding independence determinations. In addition, each director should promptly notify the committee of any change in circumstances that may affect the director’s independence (including but not limited to employment change or other factors that could affect director independence).
    • Tenure limits. The committee should consider whether procedures such as mandatory retirement ages or term limits are appropriate. Other practices, such as a robust director evaluation process, may make these tenure limits unnecessary, but they may still serve as useful tools for ensuring board engagement and maintaining diversity and freshness of thought. Many boards also require that directors who change their primary employment tender their resignation so that the board may consider the desirability of their continued service in light of their changed circumstances.
  • Board leadership. The committee should conduct an annual evaluation of the board’s leadership structure and recommend any changes to the board. The committee should oversee the succession planning process for the board chair, which should involve consideration of whether to combine or separate the positions of CEO and board chair and whether events such as the end of the current chair’s tenure or the appointment of a new CEO may warrant a change to the board leadership structure.
  • Committee structure. Annually, the committee should recommend directors for appointment to board committees and ensure that the committees consist of directors who meet applicable independence and qualification standards. The committee should periodically review the board’s committee structure and consider whether refreshment of committee memberships and chairs would be helpful.
  • Board oversight. The committee should oversee the effective functioning of the board, including the board’s policies relating to meeting agendas and schedules and the company’s processes for providing information to the board (both in connection with, and outside of, meetings), with input from the lead director or independent chair.
  • Corporate governance guidelines. The committee should review annually the company’s corporate governance guidelines, if any, and make recommendations about changes in those guidelines to the board.
  • Shareholder engagement. The committee may oversee the company’s and management’s shareholder engagement efforts, periodically review the company’s engagement practices, and provide to senior management feedback and suggestions for improvement. The committee and the full board should understand the company’s efforts to communicate with shareholders and receive regular briefings on such communications.
  • Director compensation. The committee also may oversee the compensation of the board if the compensation committee does not do so, or the two committees may share this responsibility.

Compensation Committee

  • Authority. The compensation committee has many responsibilities relating to the company’s overall compensation philosophy, structure, policies and programs. To assist it in performing its duties, the compensation committee must have the authority to obtain advice from independent compensation consultants, counsel and other advisers. The advisers’ independence should be assessed under applicable law and stock market rules, and the compensation committee should feel confident and comfortable that its advisers have the ability to provide the committee with sound advice that is free from any competing interests.
  • CEO and senior management compensation. A major responsibility of the compensation committee is establishing performance goals and objectives relating to the CEO, measuring performance against those goals and objectives, and determining and approving the compensation of the CEO. The compensation committee also generally approves or recommends for approval the compensation of the rest of the senior management team.
  • Alignment with shareholder interests. Executive compensation should be designed to align the interests of senior management, the company and its shareholders and to foster the long-term value creation and success of the company. Compensation should include performance-based elements that reward the achievement of goals tied to the company’s strategic plan but are at risk if such goals are not met. These performance goals should be clearly explained to the company’s shareholders.
  • Compensation costs and benefits. The compensation committee should understand the costs of the compensation packages of senior management and should review and understand the maximum amounts that could become payable under multiple scenarios (such as retirement; termination for cause; termination without cause; resignation for good reason; death and disability; and the impact of a transaction, such as a merger, divestiture or acquisition). The committee should ensure that the proper protections are in place that will allow senior management to remain focused on the long-term strategies and business plans of the company even in the face of a potential acquisition, shareholder activism, or unsolicited takeover activity or control bids.
  • Stock ownership requirements. To further align the interests of directors and senior management with the interests of long-term shareholders, the committee should establish stock ownership and holding requirements that require directors and senior management to acquire and hold a meaningful amount of the company’s stock at least for the duration of their tenure and, depending on the company’s circumstances, perhaps for a certain period of time thereafter. The company should have a policy that monitors, restricts or even prohibits executive officers’ ability to hedge the company’s stock and requires ongoing disclosure of the material terms of hedging arrangements to the extent they are permitted.
  • Risk. The compensation committee should review the overall compensation structure and balance the need to create incentives that encourage growth and strong financial performance with the need to discourage excessive risk-taking, both for senior management and for employees at all levels. Incentives should further the company’s long-term strategic plans by looking beyond short-term market value changes to the overall goal of creating and enhancing enduring value. The committee should oversee the adoption of practices and policies to mitigate risks created by compensation programs, such as a compensation recoupment, or clawback, policy.
  • Director compensation. The compensation committee may also be responsible, either alone or together with the nominating/corporate governance committee, for establishing director compensation programs, practices and policies.

V. Board Operations

  • General. Serving on a board requires significant time and attention on the part of directors. Certain roles, such as committee chair, board chair and lead director, carry an additional time commitment beyond that of board and committee service. Directors must spend the time needed and meet as frequently as necessary to discharge their responsibilities properly.
  • Meetings. The board of directors, with the assistance of the nominating/corporate governance committee, should consider the frequency and length of board meetings. Longer meetings may permit directors to explore key issues in depth, whereas shorter, more frequent meetings may help directors stay current on emerging corporate trends and business and regulatory developments.
  • Overboarding. Service on the board of a public company provides valuable experience and insight. Simultaneous service on too many boards may, however, interfere with an individual’s ability to satisfy his or her responsibilities as a member of senior management or as a director. In light of this, many boards limit the number of public company boards on which their directors may serve. Business Roundtable does not endorse a specific limit on the number of directorships an individual may hold, recognizing that decisions about limits on board service are best made by boards and their nominating/governance committees in light of the particular circumstances of individual companies and directors.
  • Executive sessions. Directors should have sufficient opportunity to meet in executive session, outside the presence of the CEO and any other management directors, in accordance with stock exchange rules. Time for an executive session should be placed on the agenda for every regular board meeting. The independent chair or lead director should set the agenda for and chair these sessions and follow up with the CEO and other members of senior management on matters addressed in the sessions.
  • Agenda. The board’s agenda must be carefully planned yet flexible enough to accommodate emergencies and unexpected developments, and it must be structured to maximize the use of meeting time for open discussion and deliberation. The board chair should work with the lead director (when the company has one) in setting the agenda and should be responsive to individual directors’ requests to add items to the agenda.
  • Access to management. The board should work to foster open, ongoing dialogue between management and members of the board. Directors should have access to senior management outside of board meetings.
  • Information. The quality and timeliness of information that the board receives directly affects its ability to perform its oversight function effectively.
  • Technology. Companies should take advantage of technology such as board portals to provide directors with meeting materials and real-time information about developments that occur between meetings. The use of technology (including e-mail) to communicate with and deliver information to the board should be accompanied by safeguards to protect the security of information and directors’ electronic devices and to comply with applicable document retention policies.
  • Confidentiality. Directors have a duty to maintain the confidentiality of all nonpublic information (whether or not it is material) that they learn through their board service, including boardroom discussions and other discussions between and among directors and senior management.
  • Director compensation. The amount and composition of the compensation paid to a company’s non-employee directors should be carefully considered by the board with the oversight of the appropriate board committee. Director compensation typically consists of a mix of cash and equity. The cash portion of director compensation should be paid in the form of an annual retainer, rather than through meeting fees, to reflect the fact that board service is an ongoing commitment. Equity compensation helps align the interests of directors with those of the corporation’s shareholders but should be provided only through shareholder-­approved plans that include meaningful and effective limitations. Further, equity compensation arrangements should be carefully designed to avoid unintended incentives such as an emphasis on short-term market value changes. Due to the potential for conflicts of interest and the duty of directors to represent the interests of all shareholders, directors or director nominees should not be a party to any compensation­ related arrangements with any third party relating to their candidacy or service as a director of the company, other than those arrangements that relate to reimbursement for expenses in connection with candidacy as a director.
  • Director education. Directors should be encouraged to take advantage of educational opportunities in the form of outside programs or “in board” educational sessions led by members of senior management or outside experts. New directors should participate in a robust orientation process designed to familiarize them with various aspects of the company and board service.
  • Reliance. In performing its oversight function, the board is entitled under state corporate law to rely on the advice, reports and opinions of management, counsel, auditors and expert advisers. Boards should be comfortable with the qualifications of those on whom they rely. Boards are encouraged to engage outside advisers where appropriate and should use care in their selection. Directors should hold advisers accountable and ask questions and obtain answers about the processes they use to reach their decisions and recommendations, as well as about the substance of the advice and reports they provide to the board.
  • Board and committee evaluations. The board should have an effective mechanism for evaluating its performance on a continuing basis. Meaningful board evaluation requires an assessment of the effectiveness of the full board, the operations of board committees and the contributions of individual directors on an annual basis. The results of these evaluations should be reported to the full board, and there should be follow-up on any issues and concerns that emerge from the evaluations. The board, under the leadership of the nominating/corporate governance committee, should periodically consider what method or combination of methods will result in a meaningful assessment of the board and its committees. Common methods include written questionnaires; group discussions led by a designated director, employee or outside facilitator (often with the aid of written questions); and individual interviews.

VI. Senior Management Development and Succession Planning

  • Succession planning. Planning for CEO and senior management development and succession in both ordinary and emergency scenarios is one of the board’s most important functions. Some boards address succession planning primarily at the full board level, while others rely on a committee composed of independent directors (often the compensation committee or the nominating/corporate governance committee) to address this key area. The board, under the leadership of the responsible committee (if any), should identify the qualities and characteristics necessary for an effective CEO and monitor the development of potential internal candidates. The board or committee should engage in a dialogue with the CEO about the CEO’s assessment of candidates for both the CEO and other senior management positions, and the board or committee should also discuss CEO succession planning outside the presence of the CEO. The full board should review the company’s succession plan at least annually and periodically review the effectiveness of the succession planning process.
  • Management development. The board and the independent committee (if any) with primary responsibility for oversight of succession planning also should know what the company is doing to develop talent beyond the senior management ranks. The board or committee should gain an understanding of the steps the CEO and other senior management are taking at more junior levels to develop the skills and experience important to the company’s success and build a bench of future candidates for senior management roles. Directors should interact with up-and-coming members of management, both in board meetings and in less formal settings, so they have an opportunity to observe managers directly and begin developing relationships with them.
  • CEO evaluation. Under the oversight of an independent committee or the lead director, the board should annually review the performance of the CEO and participate with the CEO in the evaluation of members of senior management in certain circumstances. All nonmanagement members of the board should have the opportunity to participate with the CEO in senior management evaluations if appropriate. The results of the CEO’s evaluation should be promptly communicated to the CEO in executive session by representatives of the independent directors and used in determining the CEO’s compensation.

VII. Relationships with Shareholders and Other Stakeholders

Corporations are often said to have obligations to stakeholders other than their shareholders, including employees, customers, suppliers, the communities and environments in which they do business, and government. In some circumstances, the interests of these stakeholders are considered in the context of achieving long-term value.

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