Corporate Governance

Corporate Governance By: 1. Kenneth A. Kim John R. Nofsinger And 2. A. C. Fernando

The Board of Directors Lecture 10

The Board of Directors • Last Lecture Review • Overview of the Board • Board legal duties • May not be the federal law requirement but the state wants BoDs. • Firms profitability and increase in share value • Loyal and fair • Take care of the rule of ethics • Employment practices • Human rights • Environment regulations • Corruptions • Moral obligations

The Board of Directors • Board Committees • An Executive Committee • A Finance Committee • A Public Relation Committee • Board Sub Committees • Audit Committee • Compensation Committee • Nomination Committee

The Board of Directors • Lecture Outlines • More attention on Directors • What is a “Good Board”? • Experienced members • Having different back ground i.e. technical as well as non technical • Independent board-having fraction of non-insider directors (difficult to find unambiguously independent directors) • Small board

The Board of Directors • Good for Goose, good for Gander • One form of board may be/may not be good for others. • Small board may be/may not be good for others firms and vice versa. • Can good board lead to better firm performance? • No positive correlation between the board quality and firm performances. • Normally board are reactive, not proactive • Sometimes inside directors are good for board (e.g. infant or new firms or when the firm has to make any huge financial/investment decision) and some times outside directors (e.g. when audit as well as compensation matters are required)

The Board of Directors • Some potential problems with today's board • Outside Directors relationship with the top management (e.g. CEO) • Outside directors full motivation is still a question mark for firm’s board. • Inexperienced as well as busy outside directors are fruitless for the board

The Board of Directors More Attention on Directors • Prior to the mid-1980s, the public paid little heed to directors. • Now the situation has changed. • Increased pressure on BODs has resulted in better corporate governance. • The increased takeover market and the new regulatory environment push the directors to do their jobs.

The Board of Directors What is a “GOOD” Board? • Experienced members • Technical firms must have technical experts and vice versa. • Its entirely the firms decision. • A board with members having different background can also be beneficial for the firms.

The Board of Directors Independent Boards • There must be a high fraction of non-insiders (directors) for a good board • E.g. One of the board primary responsibilities is to evaluate, compensate and possibly fire the CEO. What if the board consists of the following people; • A friend of a CEO • A relative of a CEO • A business collaborator of a CEO

The Board of Directors • Its very difficult to find people who are entirely and unambiguously independent of the firm’s management. • Because they all know each other. • Either friends or relatives

The Board of Directors Small Board • A board with fewer members might be a better board. • Too many cooks spoil the broth. • Most of the researchers are thinking in the same way i.e. Small boards are more effective than large boards.

The Board of Directors • In small boards, every individual will think extra responsibility on his/her shoulder and vice versa. • With larger boards, its very difficult to reach consensus and to get anything meaningful done.

The Board of Directors Good for a Goose, Good for a Gander? • What is good for a firm must be/must not be good for others. • Young growth-oriented firms would be looking for more insiders, might be the best people to serve the board. • Larger and more diversified firms may need more directors, keeping in mind the scope of its operations.

The Board of Directors • So who will take the decision? • The managers- they may be in the best position to pick a good board but his self-interest may get in the way. • The firm’s outside shareholders – they can vote on the board members and having no power in appointing directors directly, unless they could make the majority.

The Board of Directors Can Good Boards Lead to Better Firms Performance? • It is not clear that there is a positive correlation between board quality and firm performance. • Boards may be effectively reactive and may not be effectively proactive (value creator).

The Board of Directors • It depends either insider or outsider. • E.g. Committee that determine CEO compensation and are responsible for the firm’s audit may best be served by outsider • But committee that make firm financing and long-term investment decisions may be served best by insider.

The Board of Directors Potential Problems With Today’s Board. • One of the main functions of the board is to evaluate top management, especially the CEO. However, for many firms, the board’s chairman is also the firm’s CEO. • Most of the outsiders have some personal tie to the CEO.

The Board of Directors • The directors (commonly the outsiders) do not have a significant vested interest in the firm, holding little or no stock. • Are directors capable of providing the time and expertise required to fully understand the major operating and financial decision of the firm? Most directors have their own highly demanding full-time jobs. So how to cope with?

The Board of Directors • Some directors simply don’t have the expertise to be a board member. • Some boards are simply large and difficult to actively involve them. • Some directors might not be truly independent , they might be too busy.

The Board of Directors • Summary • A BoDs is a body of elected or appointed members who jointly oversee the activities of a company. • BoDs are appointed at the public Annual General Meeting of shareholders. • Types of board are depending upon company status as well as the territory where the company prevails. • Normally, we can see One-Tier board in common law based societies (like US and UK) and Two-Tier board in civil law based societies (like Germany etc).

The Board of Directors • BoDs functions involve to hire, evaluate or even fire the top management, to vote in support or against of major proposals as well as financial decisions. • In short, BoDs main primary function is to safeguard the shareholder’s interest. • But the most important factor is to think a lot before selecting your board

The Board of Directors • Overview of the Board • Board legal duties • May not be the federal law requirement but the state wants BoDs. • Firms profitability and increase in share value • Loyal and fair • Take care of the rule of ethics • Employment practices • Human rights • Environment regulations • Corruptions • Moral obligations

The Board of Directors • Board Committees • An Executive Committee • A Finance Committee • A Public Relation Committee • Board Sub Committees • Audit Committee • Compensation Committee • Nomination Committee

The Board of Directors • More attention on Directors • What is a “Good Board”? • Experienced members • Having different back ground i.e. technical as well as non technical • Independent board-having fraction of non-insider directors (difficult to find unambiguously independent directors) • Small board

The Board of Directors • Good for Goose, good for Gander • One form of board may be/may not be good for others. • Small board may be/may not be good for others firms and vice versa. • Can good board lead to better firm performance? • No positive correlation between the board quality and firm performances. • Normally board are reactive, not proactive • Sometimes inside directors are good for board (e.g. infant or new firms or when the firm has to make any huge financial/investment decision) and some times outside directors (e.g. when audit as well as compensation matters are required)

The Board of Directors • Some potential problems with today's board • Outside Directors relationship with the top management (e.g. CEO) • Outside directors full motivation is still a question mark for firm’s board. • Inexperienced as well as busy outside directors are fruitless for the board THE END

Corporate Governance