Boards of Directors and their executive officers often face-off on 32 ‘must haves’ on how to best extract value from their enterprises (such as a corporation, a college or university, a philanthropic organization, or even a public-sector government or non-governmental organization). Addressing these 32 ‘must haves’ is for the benefit of every State Treasury, every large public or private pension fund, every professional or individual investor, and most substantially, every loyal employee and customer committed to the enterprise’s products and services.
Governance by board directors and strategic management by executive officers has dramatically shifted in recent years under mounting regulatory constraints built over decades, including the Foreign Corrupt Practices Act of 1977, Sarbanes-Oxley Act of 2002, The 2007 Global Financial Crisis Reforms, Consumer Protection Act of 2010, and ongoing Dodd-Frank Wall Street Reforms. The strategic outcome in the fight to extract enterprise value, as a result of these regulatory reforms, is heightened accountability of corporate directorships and executive officers, not only by shareholders, but also various stakeholders in the public interest.
The growing trend in corporate governance and directorship is a dramatic shift from passive to much more active shareholders nowadays, working closely with public stakeholders of the enterprise. Building effectiveness of boards often arises as a key issue for activists shareholders and stakeholders in the fight to extract enterprise value as a going concern in 2014 and beyond.
A few questions board directors and executive officers face in the fight for enterprise value include:
How knowledgeable are board directors and managing executive officers regarding various aspects of the enterprise’s value?
Are board directors and managing executive officers adequately up to speed on the latest regulatory changes and mandatory disclosures on the enterprise’s value?
How independent is the board of the enterprise?
Is the board appropriately involved in strategic planning for the enterprise?
Are the board members each financially literate at a higher level?
Does your board function well as a team and an empowered social system?
How is the board involved in enterprise risk management?
Are boards falling asleep at the wheel?
The motion has been made and seconded that we stick our heads in the books till our next meeting.”
Are boards becoming afraid to decide for fear of increasing liabilities they face?
We know it’s been four hours, and lunch is coming shortly, but perhaps, it would help if we could go over our decision one more time.”
Which is your board? What is it doing in the fight for value in today’s tough business climate of risk, uncertainty, and growth.
John Carver asks in his seminal paper, “A Theory of Corporate Governance: Finding a New Balance for Boards and Their CEOs,” inside the April 2001 issue of Corporate Board Member,
How can a group of peers, on behalf of shareholders, see to it that a business achieves what it should, in terms of shareholder value, and avoids unacceptable situations and actions?”
Winning Strategy of Leadership and Management in the Fight for Value
Strategic leadership by board directors and managing executive officers of an enterprise calls for these governance peers on behalf of shareholders and stakeholders to consider simultaneously four aspects of extracting economic value:
- Brokerage, which deals with how the board trades and exchanges its products, services, and securities to create value for shareholders and stakeholders;
- Cohesion, which involves how the board establishes pathos, ethos, logos, and core values that bind employees and customers to deliver value across the marketplace;
- Reputation, Loyalty, and Trust, which entails competitively positioning the brand and products in the marketplace, promoting services of the enterprise, and aligning pricing strategies to transfer value to new consumers and emerging markets;
- Partnerships, which brings together strategic alliances, joint ventures, and inorganic growth through mergers and acquisitions to sustain value of the enterprise as a going concern.
For instance, the third largest software enterprise in the world, SAP SE (Systems Applications Products in Data Processing) is a European multinational software corporation that makes enterprise software to manage business operations and customer relations. SAP SE is based in Walldorf, Baden-Württemberg, Germany, with regional offices around the world.
As of December 31, 2013, strategic governance and leadership of SAP SE – which trades its firm securities on the Frankfurt Stock Exchange – had issued 1,228,504,232 no-par shares (December 31, 2012: 1,228,504,232) with a calculated nominal value of €1 per share.
As an example of a how strategic leadership by boards and executives can extract enterprise value, the lean governance structure alongside the well-balanced shareholder structure of SAP SE is characterized by a wide distribution of share ownership across its portfolio of managed risk, while simultaneously creating, delivering, transferring and sustaining value. U.S. and Canadian investors (institutions and individual) remained the largest group of shareholders.
The first four ‘Must Haves’ frame the winning strategy questions board members must ask in the fight to extract enterprise value, which are:
- What is the board trying to achieve in terms of specific goals and objectives?
- How will the board get it done strategically?
- How is the board organized structurally?
- Who are the board leaders and key management talent, competencies, and core resources in relation to the 6S’s (staffing, skills, styles, systems, supervision, and shared values/culture)?
With these four ‘must haves’, the Board’s overarching responsibility is: (i) to oversee the operations of the enterprise, (ii) to establish its goals, objectives and policies, and (iii) to maintain fiscal responsibility, management accountability, and mission integrity.
The United States Government Accounting Office speaks more specifically to the issue of the board’s responsibility and its role in monitoring economic value of an enterprise.
“Serving on the Board of Directors is at times a difficult and challenging responsibility, especially with increased globalization and rapidly evolving technologies, having to be addressed, while at the same time, meeting quarterly earnings projections. These pressures, and related executive compensation arrangements, can create perverse incentives, such as managing earnings to inappropriately report favorable financial results, and /or failing to provide adequate transparency in financial reporting that disguises risks, uncertainties, and/or commitments of the reporting entity.”
“However, the difficulty of serving on a public corporation’s board of directors is not a valid reason for not doing the job right, which means being knowledgeable of the [enterprise’s] business, asking the right questions, and doing the right thing to protect the shareholders and stakeholders in the public interest. A board member needs to have a clear understanding that the client being served is the shareholder. Audit committees have an important role to play in assuring fair presentation and appropriate accountability in connection with financial reporting, internal controls, compliance, and related matters. A weak board of directors will also likely translate into an ineffective audit committee.”
The next eight ‘Must Haves’ for boards and executive officers are aligned along these key areas (according to Deloitte Consulting, “Hot Topics,” June (2012); Ernst and Young, “Top Governance Trends,” June (2012); and UCLA Anderson School Associate Dean and Professor, Al Osborne, “Hot Buttons for Directors in 2013-2014”:
1. Board Leadership, Governance and Competition
- Evolving Leadership in Combined CEO/Board Chair – 80% (2002) to 60% (2012)
2. Compliance with Laws, Regulations and Regulators
- “The Sarbanes-Oxley law is revolutionary in the changes it imposes on business. Such a revolution happened, because American businesses’ moral compass stopped working.” – William McDonough, Former Chair, Public Company Accounting Oversight Board
3. Appropriate Involvement in Strategy
- “The Board must understand a company’s operations – top to bottom. It must demonstrate a keen interest in hunting down problems, and a genuine determination in finding solutions. Above all else, directors must ask tough questions – the kind that make management think harder and auditors dig deeper.” – Arthur Leavitt
4. Risk Management and Disclosure Issues
- “Corporations are getting away from their core activities and competencies into areas, which have far higher risk, without properly understanding those risks.” – William Donaldson, Former SEC Chairman
5. Design of Executive Compensation
- Is Shareholder and Stakeholder “Say-On-Pay” A Success? Is there a ‘pay-for-performance’ or a ‘performance-for-pay’ disconnect? Is executive performance properly aligned with executive compensation?
- “‘Say-on-pay’ is at best a diversion and at worst a deception. You only have the appearance of reform, and it’s a cruel hoax.” – Robert A.G. Monks, Veteran Corporate Governance Activist and Founder of ISS in 1985
- Looking closer into how ‘Must Have’ issue 5, for instance, is framed, one of the nation’s largest concentration of corporate executives reside in the Cincinnati Tri-State Metroplex. That’s why they say, “The Road to the White House is Through Cincinnati.”
- A stellar executive compensation analysis done annually is Executive Pay: A WCPO Analysis. This list is part of WCPO’s annual analysis of executive pay that “totaled $320 million in cash and stock awards in 2013 to 166 executives of 33 Tri-State public companies.”
- “Median pay for Cincinnati CEOs increased 12.5 percent to $2.6 million in 2013, in line with national trends. At most local companies [in the Cincinnati Tri-State area], shareholders did much better than that,” reports Scripps Media in 2014.
- “Three CEOs, who retired in 2013, made the top 10 highest paid bosses in 2013. They were Cincinnati Bill’s Jack Cassidy with total compensation of $9.8 million, Kroger’s David Dillion with total compensation of $12.8 million, and Procter & Gamble’s Bob McDonald with total compensation of nearly $16 million.”
6. Shareholder and Owner Relations
- “The best way to affect the behavior of board members is to embarrass them. If boards aren’t performing their function, then a few major shareholder’s holding them accountable will help.” – Warren Buffett, Berkshire Hathaway, 2010
7. Corporate Culture, Ethics, Business Conduct, and Tone at the Top
- Duties of Good Faith, Care, Loyalty, and Trust.
- Enact standards to deter wrongdoing and promote a culture of fairness and honesty.
- Ethical handling of actual and apparent conflicts of interest.
- Open transparency and clear disclosures of all enterprise reports and public documents.
- Compliance with applicable government laws, rules and regulations.
- Prompt internal reporting of violations.
- Assume accountability for adherence to business responsibility and ethics.
- Determine levels of acceptable board group management among peers.
8. Engagement and Independence
- “Too often I was silent when management made proposals that I judged to be counter to the interest of shareholders. In these cases, collegiality trumped independence.” – Warren Buffett, Berkshire Hathaway
- Requires independent board leadership
- Needs a board comprised of a majority of outside directors
- Calls for the board to perform a self-review and succession
- Necessitates a formal evaluation of the CEO
- Board determination of governance processes, structures and the information flows.
- Board Composition of Skills: age, race and gender, board experience and tenure, business and community affiliations, leadership potential, financial market and management, marketing skills, financial analysis and control experience, technology, and industry expertise.
Finally, here are an additional 20 ‘Must Haves’ considerations for directors in the fight for extracting enterprise value for shareholders and stakeholders:
- Do requirements provide for the board of directors to establish a formal key factors to set the tone for expected personal and business extraction of enterprise value and growth?
- The ever-changing aspects of enterprise risk management requires continuing education for executives officers and directors)?
- What, if any, selection process changes are necessary in order to assure the proper identification of qualified and independent board members?
- Is the nominating process for board membership designed to ensure that the board is getting the right mix of talent to do the job?
- Do board membership rules address who other than management would nominate Board members?
- Are the independence rules for outside directors and audit committee members sufficient to ensure the objectivity of the members?
- Do board membership rules address whether the corporation’s CEO should be allowed to be the board chairman?
- Do board membership rules address whether independent board members should nominate the chairman of the board?
- Do board membership rules address whether members of corporation management, including the CEO should be allowed to be board members, and if so, what percentage of total board membership?
- Do board membership rules address whether corporation service providers, such as major customers or other related parties, should be allowed to be board members?
- Do requirements ensure that the board will have access to the resources and staff necessary to do the job, including its own staff and access to independent legal counsel and other experts?
- Do requirements ensure that the responsibilities of board members, including the members who serve on audit committees and other committees, such as the nominating, finance, and compensation committees, are required to be committed to a charter that governs their operation?
- Do requirements address the appropriate working relationship between the audit committee and the internal and external auditors?
- Do requirements provide for the board of directors to establish a formal code of conduct to set the tone for expected personal and business ethical behavior within the corporation?
- Do requirements provide that waivers of the code of conduct are not expected and should such circumstances arise, which should be extremely rare, that any exceptions must be approved by the board of directors and publicly reported?
- Do requirements provide for public reporting on the effectiveness of internal control by management and independent assurances on the effectiveness of internal control by the corporation’s independent auditors?
- Do requirements provide for public reporting by the board of directors, the audit committee, and other committees of the board on their membership, responsibilities, and activities to fulfill those responsibilities?
- Do the stock exchanges and the SEC have sufficient authority to enforce requirements governing boards of directors and audit committees and to take meaningful enforcement actions, including imposing effective sanctions when requirements are violated?
- Does the SEC have sufficient resources and authority to fulfill its responsibilities under the federal securities laws and regulations to operate proactively in monitoring SEC registrants for compliance and to take timely and effective actions when noncompliance may exist?
- Is the SEC efficiently and effectively using technology to manage its regulatory responsibilities under the federal securities laws by assessing risks, screening financial reports and other required filings, and accordingly prioritizing the use of its available resources?
- Source: Protecting The Public Interest, Selected Governance, Regulatory Oversight, Auditing, Accounting, and Financial Reporting Issues, David M. Walker, then U.S. Controller General testified to the U.S. Senate Committee on Banking, Housing, and Urban Affairs, and offered these 25 factors for boards of directors to consider on March 5, 2002, (Report GAO-02-483T), in Aftermath of The Fall of Enron.
“One thing I learned during my years as CEO is that perception matters. And in these times when public confidence and trust have been shaken, I’ve learned the hard way that perception matters more than ever.“ – Jack Welch, former CEO, General Electric