Apr 202014

Dr. Earl R. Smith II

Sarbanes-Oxley and the rules reflected by the Security and Exchange Commission and most stock exchange listing rules, have redefined what good governance practices look like. Succession committees, nominating committees and audit committees have begun to exercise greater authority in governance practices of a company. Many functions traditionally carried out by the CEO have been shifted to the various committees. Committees now review and provide recommendations to the full board which then delegates the authority to the CEO to act on behalf of the board. This may seem like a minor change, but board members now understand they will be held accountable for the actions of the board or for the actions of the CEO. They are now taking their job of recommending actions much more seriously.

writers blockThe composition of the board of directors is a key to how a board functions. Sarbanes-Oxley dictates the board must decide and certify the independence of more than half of its members. This restricts insider financial dealings and places independent oversight on corporate boards. Nominating committees are generally the norm for planning for new additions to the board and the succession committee usually determines the future leadership of the company.

Prior to Sarbanes-Oxley, the CEO largely chose the new directors, too often based upon business or personal ties. SOX has largely changed this practice. CEO’s must be somewhat involved in the process, but boards operate much more independently in selecting new directors. Directors feel pressure to get decisions right and avoid litigation – which can both be distracting and costly. Directors and companies are more frequently named in lawsuits as co-defendants, and directors can, and often times are, held personally liable for board decisions. As this trend in litigation becomes more established, directors want to have a say in who the candidates are they will be serving with.

Boards of directors have a fiduciary responsibility to the stockholders to hold corporate management accountable for executing the company’s strategic plan. A CEO wielding too much power in the nominating committee’s process of selecting new directors or in planning the leadership of the company leads to a board dependent on the CEO and a willingness of the board to rubber stamp the CEO’s decisions. A board unwilling to challenge and hold accountable senior corporate management will lead to poor performance on critical issues and will not lead to an enhancement of stockholder value.

The nominating committee should also review the needs of the board and the company and prepare a set of criteria to assist in identifying the skills needed in the new director. A multi-tier criteria system can sometimes be helpful when more than one director candidate is needed and more than one set of new skills is desirable. One tier can be criteria that all candidates must meet, such as all must have serve in a Fortune 500 company as a senior manager. The next tier may set criteria such as, previous experience in corporate finance.

Boards provide the leadership for the company, and board members must be able to depend on each other to act in the best interest of the company. Personality, respect and confidence in each other’s ethics play a major role in board member’s ability to provide professional governance for their company.

© Dr. Earl R. Smith II


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