15 May 2017 by Dr Peter Crow
Boardroom oversight and compliance should go hand-in-hand with strategic management
Some 30 years ago, John Harvey-Jones, the respected company director and author, posed a seemingly innocuous question in his book on leadership: ‘If the board is not taking the company purposefully into the future, who is?’
The question highlighted an inconvenient truth: boards of directors often do not give the overall performance of the business sufficient attention. The law is clear – responsibility for company performance lies with the board of directors – yet boards have struggled consistently to embrace and fulfil their responsibilities.
Historically, many consultants, commentators, academics and company directors have equated the board’s role (i.e. corporate governance) with oversight – ensuring that management operates the company in accordance with plans produced by management and with relevant statutes, regulations and operating codes. As such, the board’s contribution to company performance is supposedly fulfilled if management is held to account for its actions.
“Compliance with statutes, regulations and codes of practice provides little surety of board effectiveness or performance”
However, one has to question whether boards pursuing such a modus operandi actually drive future performance. Perhaps it would be more accurate to say they have a compliance orientation, protecting assets and preserving reputations.
Sport provides a helpful analogy. A sports team’s compliance with the rules of the game provides little assurance they will win a match. That is because rules and regulations define boundaries.
Business is no different. Compliance with statutes, regulations and codes of practice provides little surety of board effectiveness or performance. In fact, research suggests that the statutory reforms, controls and governance codes introduced to provide protection probably contributed to many of the high-profile failures in the early 2000s and during 2007–2009.
This should not be too surprising. A rules-based orientation moves the board’s focus towards boundaries to be circumvented – effectively diverting the board’s attention away from its most important priority, ensuring the performance of the company.
In fact, it is unlikely a board is fulfilling its legal duties and moral responsibilities effectively if it does not set direction and make adjustments effectively. The same is true if it fails to provide resources to management and define operating boundaries, and if it does not monitor and control the management’s activities to ensure performance objectives are achieved.
Whether these tasks are delegated to management – knowingly or otherwise – or not, does not absolve the directors from their responsibilities and statutory duties.
If the board’s responsibility for company performance is to be fulfilled, it needs to act differently. That the ultimate legal responsibility for firm performance lies with the board implies that the board’s contribution needs to be reconceived in formative terms.
A mounting body of research supports the suggestion that companies with boards actively engaged in strategic management – especially, but not only, strategy formulation – tend to perform better than companies with more passive boards that limit their contribution to reviewing reports, monitoring management’s activities, and rubber-stamping recommendations.
The option of positioning the board at the epicentre of strategy and strategic decision-making activity seems intuitively attractive. To achieve this without compromising objectivity and rigour, the focus should be on the relationship between the board and management. It should be close and dynamic, centred on the functions of corporate governance and strategic management.
This is not a new idea. Bob Tricker, a pracademic, first outlined this more than 30 years ago. He suggested that the strategic management function be placed at the centre of board-management interaction.
“High levels of interaction between the board and managers has positive implications for effectiveness”
This implies that a tight coupling between directors and managers – and therefore the functions of corporate governance, strategic management and business operations – is conducive to improved decision-making, effectiveness and value creation.
I recently published doctoral research which provides empirical support for Tricker’s proposal. It demonstrates that a functional board can influence a firm’s performance if it works closely with managers and becomes actively involved in certain strategic management tasks, notably strategy development.
High levels of interaction between the board and managers has positive implications for effectiveness, as it does in other group situations in which tasks are complex, context is fluid and the situation ambiguous.
A board that contributes to strategy formulation is more likely to understand the strategy, and make strategic decisions and monitor business performance in the context of agreed strategy and desired outcomes. The result will be a board focused on overall business performance.
Such a proposal is not without challenges, however. A proximate relationship is the antithesis of the assumptions and recommendations dominating governance research and board practice in recent decades. Close interaction may also lead to a loss of objectivity in oversight and perceptions of interference, especially if the expertise of the board is low and the quality of the board-management working relationship is poor.
Consequently, boards face a challenging dilemma. On one hand, a sufficiently collegial relationship between boards and managers is needed, whereby trust, empathy and cooperation pervades the working environment, as strategy is determined and performance goals are pursued.
On the other hand, a degree of distance and emotional detachment is appropriate if the board is to monitor and verify the performance of both management and the firm and make decisions objectively.
My research provides insight to resolve this dilemma. It shows that if the board is to exert influence from and beyond the boardroom, then its active involvement in specific strategic management activities is important, even crucial.
However, involvement alone is insufficient. Directors also need to be strategically competent. They must possess a sense of purpose and be, and remain, actively engaged if they are to interact well and make forward-looking, informed decisions in a timely manner. Diversity of thought, a critical mindset, and a desire to exert control constructively, is also important.
“The ability of directors individually, and the board collectively, to think independently and critically with a strategic mindset is not actually related to any notional board structure or composition”
This refined understanding of corporate governance – a stratified mechanism that includes a set of strategic management tasks, underpinned by several behavioural qualities of directors – provides a framework to reconceive the board’s work in terms of performance, more so than compliance and oversight.
Importantly, board structure and composition is less relevant. The ability of directors individually, and the board collectively, to think independently and critically with a strategic mindset is not actually related to any notional board structure or composition, or any specific financial or task separation between the board and management.
Normative models of corporate governance promote separation and a monitoring mindset. In contrast, the mechanism-based approach is one of proximity and performance. It encourages directors to display behaviours and empowers them make contributions that focus on the future performance of the company.
The mechanism-based approach also offers benefits to shareholders, helping them understand the types of directors needed in the boardroom to work together towards agreed performance goals.
Once shareholders understand the qualities needed in effective directors, and recruit accordingly, and boards intentionally embrace a formative conception of corporate governance, increased influence from the boardroom is not only possible, it is potentially sustainable. Until then, Harvey-Jones’s reflection on the vital leadership role of the board of directors remains as pertinent today as when it was first asked.
ICSA Annual Conference
Dr Peter Crow is speaking at this year’s annual conference. For more information or to book your place, visit the ICSA website.