Corporate Governance Reform and the ABA (Part 1)

The ABA Task Force on Delineation of Governance Roles and Responsibilities came out with a Report that received some mention but otherwise disappeared into the morass that is corporate governance.  There is so much going on, between the SEC, the Delaware courts, and Congress, that reports unconnected to specific developments don't get much play.  Having said that, it is a good read and pulls together considerable factual information on the state of corporate governance.

The discussion on the activities of the board of directors deserve particular attention.  Were someone from Mars to read the section, it would seem as if US corporations had dramatically improved their system of governance, with naysayers limited to gadflys and malcontents.  Specifically, the report noted:

• The number of indendent directors has increased over the last 10 years, from 78% to 82%, noting that this understates "the magnitude of this change, given enhanced rigor in the definition of "independence."
• Boards must have nominating committees (at least if exchange traded) consisting entirely of independent directors.  In 2008, 60% of new director nominations came through a search firm, 21% came from independent directors and 9% were recommended by the CEO, down from 14% in 2005.
• Boards contain fewer active CEOs.  Diversity is better. "In 2007, 85% of Fortune 1000 companies had one or more female director, (up from 78% in 2001) and 78% had one or more director from an ethnic minority (up from 68% in 2001). In 2008, approximately one in five new directors came from a diverse ethnic background, and women accounted for 18% of new directors." 
• Directors are working harder.  From one study, directors are reputed to spend 223 hours on board/committee matters.  The average number of meetings has increased from 7 to 9, although nearly half meet "between six and eight times per year"."
• Reliance on an independent chair or lead director has become more common, with the percentage up to 95% for the S&P companies (although only 16% have independent chair's).

Yet complaints about governance abound.  How can that be with all of these improvements?

These numbers obscure many issues.  First, while it is true that there are more "independent" directors on boards, the Report contains no discussion of the definition.  As we have noted over and over, there are serious problems with the definition, including the failure to take into account friendship, the problem of fees, and issues of enforcement by the stock exchanges.  For a system that relies so much on the presence of independent directors as the primary guardian of shareholder interests, surely the definition requires close examination.

Second, the Report lumps together the use of an independent chair and a lead director.  In fact, the discussion would more appropriately focus on the use of lead directors since few companies require an independent chair.  Moreover, the lack of an independent chair relates to the increased percentage of independent directors.  These directors typically have no economic connection to the company.  As a result, they are particularly dependent upon information provided to them as directors.  Yet with the chair and the CEO one and the same, they are highly unlikely to get information critical of the CEO's role. 

As for lead directors, companies deserve credit for their use only if the positions are meaingful.  It is highly likely that the role of lead director in most cases is merely to run any meeting of the independent directors.  In other words, it is often a powerless postion.  The Report should have discussed the role played by this position and tried to assess its success.

Finally, with respect to diversity, the Report does not contain the aggregate data on the number of women and people of color sitting on boards.  The percentage remains low (in the 15%) range.  At most the Report demonstrates that companies have been pressured into having at least one woman and one person of color on their board, hardly a ringing endorsement for board behavior.

We will do a second post with one last comment about the evidence on boards working harder.