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Board self-appraisal

by Dr Simon Longstaff
01 February 1997
BUSINESS AND PROFESSIONAL ETHICS
As anyone involved in management will testify, company directors spend a considerable amount of time holding other people to account for the quality of their performance. So, it is quite refreshing to note a growing movement in favour of encouraging directors to submit their performance to a structured form of evaluation.

Of course, the theory is that the majority of company directors have always been held accountable by the simple expedient of having to stand for election to the Board. However, this is a fairly blunt tool of assessment. For a start, it is the Board's collective performance (rather than that of the individual director) that is under review.

Furthermore, many board seats are filled by people who rarely (if ever) face the prospect of any serious challenge to their position. Instead, their involvement is ensured from year to year – almost as a matter of course.

Having said this, a diligent chairman has always been an important and effective (if informal) mechanism for ensuring adequate performance. I am told that it was not uncommon, some years ago, for certain chairmen to require new appointees to a board to sign an undated letter of resignation that could be 'executed' at the chairman's pleasure.

While this approach is hard to reconcile with a more modern, enlightened view of corporate governance, I am told that the “quiet tap on the shoulder, followed by an informal chat about the future” was considered to be an effective way to resolve the problem of non-performers. Unfortunately, a system like this is open to terrible abuse. For example, it is open to a chairman to remove a director on the grounds of personal dislike, a difference of opinion or any ground other than poor performance.
 
It is now possible to measure the quality of board processes and not just outcomes as reflected in the ‘bottom line’.

Hence the good news that a developing range of sophisticated instruments are being developed so that directors can measure and improve their performance. The significant development in this area is that it is now possible to measure the quality of board processes and not just outcomes as reflected in the ‘bottom line’.

For example, it is clear that some companies perform well despite the poor quality of processes followed by their boards. The same is true in the case of individual directors. Some boards add value to the operation of a company despite the poor performance of a selection of individual directors.

Boards of directors are a necessary component of good corporate governance. However, they come close to being expensive luxuries unless they actually add value to a company's operations. This is emphatically not to suggest that directors should be focusing exclusively on short-term issues of company performance. This is important; but there is also the traditional role of ensuring that decisions are made in the interests of the corporation as a whole. Where there are shareholders, then the director must ensure that a concern for the interests of shareholders in perpetuity is the guiding philosophy.

Given this, there is a need to engage in a process of self-appraisal that has the following features. Firstly, board assessment should be used as a diagnostic tool. That is, it should be designed to foster better understanding of the strengths and weaknesses of the board and individual directors. Secondly, the process should include a fair measure of interpersonal accountability. Directors should be assessing each other as well as their own performance. Needless to say, it is important that the initial process of assessment be completed in confidence. This will promote the appropriate degree of candour. Even especially 'collegial' boards will be inclined to 'gild the lily' when facing the prospect of criticizing a colleague in public.

Life is not so easy for the chairman of a board. He or she should give an independent assessment of each director's performance. This should be communicated to the director and assessed in relation to both the comments of fellow directors and self-assessment.

Thirdly, directors should be prepared to be assessed by senior management – or at least those managers who have the closest connection with the board. Management views should be given anonymously and in confidence before being aggregated. The proposal to include management in the process is likely to be most controversial.

Some will say that such a proposal reverses the proper order of accountability. Others will worry about the extent to which directors might temper their review of management – in case they score a bad 'report card' in reprisal. There are bound to be other concerns. However, it should be remembered that the management perspective will be just one element in any assessment. As such it should be accorded its proper place.

So what should be assessed. There is a range of items that might be included in any survey. The most important relate to the core functions and responsibilities of directors:
  • to what extent does the director contribute positively to the development of strategy and policy at the board table?
  • to what extent does the director understand the business?
  • to what extent does the director understand the fundamentals of the industry?
  • to what extent does the director understand the nature of critical new developments (in the broader business environment) likely to affect the future of the business?
  • to what extent does the director make adequate time for preparation and follow-up outside of formal board-meeting times?
  • to what extent does the director contribute to discussions at the board table?
  • to what extent does the director maintain the confidence of colleagues and management?
  • to what extent is the director of use to management as a 'sounding board'?

These are just a few of the areas that a board appraisal process will seek to judge in relation to the performance of individual directors. In addition to this, there are questions to be addressed in relation to the practices of the board as a whole. For example:
  • does the board have an appropriate range of committees – audit, due diligence, succession, remuneration and so on?
  • does the board consciously review policy proposals to ensure that they are espoused values and principles? For example, do boards adopt policies that inadvertently 'drive' people to act unethically in order to perform?
  • does the board behave in a manner that is consistent with the company's culture?

Once again, there are a number of other concerns that a board evaluation will need to take into account. So, where to begin? Fortunately, Australia is increasingly well served by a range of organisations willing to assist boards to develop a rigorous system of appraisal. Most of the major accounting firms are in this market, as are a number of law firms specialising in the general area of corporate governance. Some of the executive recruitment firms (especially those involved in helping to recruit directors to boards) are also available to assist.

If a board really wants to test itself, then it might consider putting itself through a structured hypothetical to see how it performs under pressure. This is where St James Ethics Centre can help – by 'road testing' directors' capacity in a safe environment.

It must be stressed that the evaluation of boards should not be seen as an end in itself. It is only a means by which board performance can be improved. Thus, it is essential that any assessment of board performance be coupled to a method for ensuring that the lessons learned are translated into a programme of development for directors. There is no point in discovering strengths and weaknesses if these are not addressed.

Many directors will feel uncomfortable about exposing themselves to the kind of scrutiny that robust evaluation entails. However, exposure to the process of evaluation will strengthen the capacity of boards to operate at the highest levels of competence.

At a time when directors' exposure has never been higher, competence and a commitment to continuous improvement may be the best defence available. Beyond this, it is simply recommended as being the right thing to do.
 
Dr Simon Longstaff AO is Executive Director of St James Ethics Centre.