CHAPTER 3

BOARD OF DIRECTORS

THE ROLE OF THE BOARD

In relation to corporate bodies:

• a director is an officer of the company charged by the board of directors with the conduct and
management of its affairs
• the directors of the company collectively are referred to as a board of directors
• the shareholders appoint the chairman of the board and all other directors (upon recommendations
from the nominations committee)
• directors, individually and collectively, as a board of directors, have a duty of corporate governance.

Delegation of power within a company

Within a company, the board of directors hold a significant (and in many cases seemingly total) amount
of power. For example, one of the articles in the standard articles of association (constitution) of UK
companies gives the board full powers for the running of a company. (Quote: “...they may exercise all
the powers of the company”.) The board of directors then delegates some of its power to executive
management who are responsible for the day-to-day business operations. There are no laws or standard
rules, however, about what the role of the board of directors should be, or how much authority for
decision-making should be retained by the board (and how much should be delegated to executive
management). The delegation of power within a company may therefore vary between companies.

Corporate governance codes on the role of the board

In Nigeria, the Code of Corporate Governance states that the board is accountable and responsible for
the performance and affairs of the company.
The Code also states that the board shall:
-Define the strategic goals of the company
-Ensure that the human and financial resources of the company are effectively deployed toward
attaining the company’s goals
-Oversee the effective performance of management in order to enhance shareholder value and meet
the company’s obligation to its employees and other stakeholders.
-Ensure the company carries out its business in accordance with its articles and memorandum of
association and in conformity with the laws of the country.
-Ensure that the highest ethical standards are observed and the company’s business is carried out on an
environmentally sustainable basis.

From the principles in the UK Corporate Governance Code (2016), the key roles and responsibilities of
directors are to:
• provide entrepreneurial leadership of the company
• represent company view and account to the public
• decide on a formal schedule of matters to be reserved for board decision
• determine the company’s mission and purpose (strategic aims)
• select and appoint the CEO, chairman and other board members
• set the company’s values and standards
• ensure that the company’s management is performing its job correctly
• establish appropriate internal controls that enable risk to be assessed and managed
• ensure that the necessary financial and human resources are in place for the company to meet its
objectives
• ensure that its obligations to its shareholders and other stakeholders are understood and met
• meet regularly to discharge its duties effectively
• for listed companies:
– appoint appropriate NEDs
– establish remuneration committee
– establish nominations committee
– establish audit committee
• assess its own performance and report it annually to shareholders
• submit themselves for re-election at regular intervals. All directors in
FTSE 350 companies should be put forward for re-election every year.

Singapore’s Code of Corporate Governance specifies the role of the board in much the same way.
The OECD Principles of Corporate Governance state that the corporate governance framework should
ensure:
 the strategic guidance of the company;
 the effective monitoring of management by the board; and
 the board’s accountability to the company and the shareholders.

Decision-making and monitoring roles

ICSA Guidance Note on matters reserved for the board

The Institute of Chartered Secretaries and Administrators (ICSA) has published a Guidance Note,
suggesting that in each company there should be a formal, written list of matters for which the board
will take the decisions, and will not delegate to management. These include monitoring responsibilities
as well as decision-making responsibilities.
1. Strategy and management: The board is responsible for the overall leadership of the company
and setting the company's values and standards. This involves approving the long-term
objectives and commercial strategy; approving the annual budget and capital expenditure
budget, oversight of operations, review of the performance of the company or group, decisions
about expanding operations into new product areas or new markets, and decisions about
closing down any significant part of operations.

2. Structure and capital: Changes relating to the capital structure of the group, or its management
and control structure. Also decisions about any change in the company’s status, such as going
from private company to public company status.

3. Financial reporting and controls: Approval of financial statements and results, approval of
dividend policy, approval of treasury policies, such as foreign currency exposures and the use of
financial derivatives, approval of material unbudgeted capital or operating expenditures
(outside pre-determined tolerances).

4. Internal controls: Ensuring that there is a sound system of internal control and risk
management, by monitoring the systems that are in place.
 5. Contracts: Approval of major capital projects and strategically significant contracts. Approval of
loans or foreign currency transactions above a stated amount, approval of all major acquisitions
and disposals.

6. Communication: Ensuring a satisfactory dialogue with shareholders based on the mutual

understanding of objectives, approval of all communications to shareholders and the stock
market, and all major press releases.

7. Board membership and other appointments: Decisions about appointments to the board,
appointment of the company secretary and the appointment of the company’s auditors.

8. Remuneration: Decisions about the remuneration of all directors and senior managers,
including the approval of major share incentive schemes (which may also require approval by
the shareholders).

9. Delegation of authority: The board is responsible for deciding what responsibilities should be
delegated to board committees, and should decide on the division of responsibilities between
the chief executive officer and the board chairman.

10. Corporate governance matters: The board is responsible for corporate governance matters such
as communications with the company’s shareholders, deciding the balance of interests between
the shareholders and other stakeholders and ensuring that independent non-executive directors
continue to be independent.

11. Policies: Approval of company policies, including code of Conduct, share dealing code, bribery
prevention policy, whistleblowing policy , health and safety policy, environment and
sustainability policy, human resources policy, communications policy [including procedures for
the release of price-sensitive information], corporate social responsibility policy; and charitable
donations policy.

12. Other issues: There will probably be a number of other issues that the board should reserve for
its own decision-making, such as decisions affecting the company’s contributions to its
employees’ pension fund, political donations, the appointment of the company’s main
professional advisers, insurance levels, and decisions to prosecute, defend or settle major
litigation disputes involving costs or payments above a specified amount.

BOARD STRUCTURES
There are two kinds of board structure, unitary and two-tier (dual) boards.
Two-tier boards
These are predominantly associated with France and Germany. Using Germany as an example, there are
two main reasons for their existence:
• Codetermination: the right for workers to be informed and involved in decisions that affects them.
This is enshrined in the Codetermination Act (Germany) 1976.
• Relationships: banks have a much closer relationship with German companies than in the UK. They are
frequently shareholders, and other shareholders often deposit their shares and the rights associated
with them with their banks.
This creates a backdrop to creating structures where these parties are actively involved in company
affairs, hence the two-tier structure.

Lower tier: management (operating) board:

• responsible for day-to-day running of the enterprise
• generally only includes executives
• the CEO co-ordinates activity.

Upper tier: supervisory (corporate) board:

• appoints, supervises and advises members of the management board
• strategic oversight of the organization
• includes employee representatives, environmental groups and other stakeholders’ management
representatives (these NEDs are not considered to be 'independent NEDs')
• the chairman co-ordinates the work
• members are elected by shareholders at the annual general meeting (AGM)
• receives information and reports from the management board.

Advantages of a two-tier board

• Clear separation between those that manage the company and those that own it or must control it for
the benefit of shareholders.
• Implicit shareholder involvement in most cases since these structures are used in countries where
insider control is prevalent.
• Wider stakeholder involvement implicit through the use of worker representation.
• Independence of thought, discussion and decision since board meetings and operation are separate.
• Direct power over management through the right to appoint members of the management board.

Problems with a two-tier board

• Dilution of power, confusion over authority and hence a perceived lack of accountability. (NB Due to
codetermination, there is a right for many different stakeholders to be involved in decisions which affect
them).
• Isolation of supervisory board through non-participation in management meetings.
• Agency problems between the boards where one will be acting on behalf of another e.g. the
Management Board meetings excluding the Supervisory Board resulting in confusion over authority.
• Increased bureaucracy which may result in slower decisions being made.
• Lack of transparency over appointment of supervisory board members leading to inefficient
monitoring and governance.

Advantages of a unitary board

Issues specific to the unitary board tend to relate to the role of NEDs.
• NED expertise: the implied involvement of NEDs in the running of the company rather than just
supervising.
• NED empowerment: they are as responsible as the executives and this is better demonstrated by their
active involvement at an early stage.
• Compromise: less extreme decisions developed prior to the need for supervisory approval.
• Responsibility: a cabinet decision-making unit with wide viewpoints suggests better decisions.
• Reduction of fraud, malpractice: this is due to wider involvement in the actual management of the
company.
• Improved investor confidence: through all of the above.

EXECUTIVE AND NON-EXECUTIVE DIRECTORS (EDs and NEDs)

Executive directors are directors who also have executive management responsibilities in the company.
They are normally full-time employees of the company. Examples of executive directors are the chief
executive officer (CEO) and the finance director (chief finance officer or CFO).

Non-executive directors or NEDs are directors who do not have any executive management
responsibilities in the company. (They might be an executive director in a different company.)
- NEDs are not employees of the company.
- They are not full-time. When they are appointed there should be a clear understanding about how
much time (each month or each year) the NED will probably be required to give to the company’s affairs.

The key roles of NEDs

- Strategy role: this recognizes that NEDs have the right and responsibility to contribute to strategic
success, challenging strategy and offering advice on direction.
- Scrutinizing role: NEDs are required to hold executive colleagues to account for decisions taken and
results obtained.
- Risk role: NEDs ensure the company has an adequate system of internal controls and systems of risk
management in place.
- People role: NEDs oversee a range of responsibilities with regard to the appointment and
remuneration of executives and will be involved in contractual and disciplinary issues.

Independence
The Code states as a principle that the board should include a balance of NEDs and executives. This is to
reduce an unfavorable balance of power towards executives. The board should consist of half
independent NEDs excluding the chair. One NED should be the senior independent director who is
directly available to shareholders if they have concerns which cannot or should not be dealt with
through the appropriate channels of chairman, CEO or finance director. The primary fiduciary duty that
NEDs owe is to the company’s shareholders. They must not allow themselves to be captured or unduly
influenced by the vested interests of other members of the company such as executive directors, trade
unions or middle management. There are also concerns over the recruitment of NED’s and the challenge
that this may bring to independence. Recruiting those with previous industry involvement can result in a
higher technical knowledge, a network of contacts and an awareness of what the strategic issues are
within the industry. While these might be of some benefit to a NED’s contribution, they can make the
NED less independent as prior industry involvement might also reduce the NED’s ability to be objective
and uncontaminated by previously held views.
Accordingly, it is sometimes easier to demonstrate independence when NEDs are appointed from
outside the industry. In practice, many companies employ a mix of NEDs, and it is often this blend of
talents and areas of expertise that makes a non-executive board effective.

Reasons for NED independence

• To provide a detached and objective view of board decisions.
• To provide expertise and communicate effectively.
• To provide shareholders with an independent voice on the board.
• To provide confidence in corporate governance.
• To reduce accusations of self-interest in the behavior of executives.

Threats to Independence
Only non-executive directors can be independent. However, not all NEDs are independent. A NED is not
independent when there are relationships with the company or circumstances that would be likely to
affect the director’s judgment.

In Nigeria, an independent director is defined as a non-executive director who:

-Is not a substantial shareholder in the company (which means that directly or indirectly, his/her
shareholding must not exceed 0.1% of the company’s paid up capital)
-Is not a representative of a shareholder who is able to significantly influence management
-Has not been employed by the company (or group) or has served in any executive capacity in the
company (or group) for the preceding three financial years
-Is not a member of the immediate family of an individual who is or has been employed in an executive
capacity in the company (or group) in the past three financial years
-Is not a professional adviser to the company other than as a director
-Is not a major/significant supplier or customer of the company
-Has no significant contractual relationship with the company (or group) that might interfere with
his/her independence
-Is not a partner or executive of the company’s statutory audit firm, internal audit firm or other
consulting firm for three financial years preceding his/her appointment as an independent director.
Furthermore, there should be at least one independent director on the board of a public company.

The UK Corporate Governance Code states that NEDs are likely not to be independent where they:
- have been employees of the company or group within the past five years
- have (or has had within the previous three years) a material business relationship with the company,
either directly or as a partner, shareholder, director or senior employee of another entity that has such a
relationship with the company
- have received remuneration in addition to a fee as non-executive director, participates in the
company’s share incentive scheme or a performance-related pay scheme, or is a member of the
company’s pension scheme
- have close family ties with any of the company’s advisers, directors or senior employees
- hold cross-directorships or has significant links with other directors through involvement in other
companies or bodies
- represent a significant shareholder
- have served on the board for more than nine years since the date of his/her election as director.

Board balance and independent directors

The status of directors as independent or ‘not independent’ is significant for companies that are
required to comply with a code of corporate governance. A general principle of good corporate
governance is that there should be a suitable balance of individuals on the board. A board should consist
of directors with a suitable range of skills, experience and expertise. However, there should also be a
‘balance of power’ on the board, so that no individual or small group of individuals can dominate
decision-making by the board.
Experience has shown that in the past, a feature of many large public companies that have collapsed
dramatically has been a domination of the board’s decision making by an individual or a small group of
individuals.
The UK Corporate Governance Code states: ‘The board should include a balance of executive and non-
executive directors (and in particular independent non-executive directors) such that no individual or
small group of individuals can dominate the board’s decision-taking.’ It goes on to state that: ‘To ensure
that power and information are not concentrated in one or two individuals, there should be a strong
presence on the board of both executive and non-executive directors.’
The UK Corporate Governance Code then goes on to specify that:
- Except for smaller listed companies, at least half of the board, excluding the chairman, should
comprise independent non-executive directors. This requirement applies to listed companies in the FTSE
350 Index. (It is usual for the chairman of a UK listed company to be independent.)
- In smaller listed companies, there should be at least two independent nonexecutive directors.
Codes of corporate governance in other countries differ. For example, the Singapore Code of Corporate
Governance states that independent directors should make up at least one-third of the board.

DIVERSITY
Diversity is the variation of social and cultural identities among people existing together in a defined
employment or market setting. Primary categories of diversity include age, race, ethnicity and gender
while secondary categories of diversity include education, experience, marital status, beliefs and
background.
The UK Corporate Governance Code states that, when directors are appointed, the board should have
due regard for the benefits of diversity on the board, including gender diversity. In its 2011 green paper
the European Commission stated that a diversity of expertise and backgrounds is essential if the board is
to function efficiently. The Commission highlighted a variety of professional backgrounds, national or
regional backgrounds and gender diversity as the most significant considerations when assessing
diversity. An earlier UK report, the 2003 Tyson report on the recruitment and development of non-
executive directors, highlighted the benefits that diversity can bring:
(a) Talent
A company committed to diversity has the best chance of finding and employing the best available
talent rather than artificially limiting itself.
(b) Broad range of knowledge
No one individual director can be knowledgeable and informed about all aspects of business given the
information and expertise necessary for boards to govern listed companies effectively. Management
literature suggests that groups make better decisions if the available information is more diverse,
provided the group understands who knows what and takes advantage of the knowledge. One example
is having foreign nationals on the board, which should enhance knowledge of the global environment
within which most listed companies operate. Diverse boards should avoid the 'group-think' that can
occur when boards have similar backgrounds.
(c) Greater range of constituencies
Diverse boards can reach out more effectively to a broader range of constituencies to help them deal
with problems. They can also send positive signals to different stakeholder groups and contribute to a
better understanding of the stakeholder groups that underpin commercial success.
(d) Independence and judgment
A board with a broad range of experience is more likely to develop independence of mind and a probing
attitude. It can also enhance corporate decision-making by having sensitivity to a wider range of risks to
its reputation.
(e) Corporate citizen
Greater diversity can enhance a company's reputation as a corporate citizen that understands its
community.
However, some studies have found that diversity can result in lower cohesion and trust unless members
are trained to work together and boards are effectively led.

Gender diversity
Much of the debate about diversity has focused on the issue of the proportion of women on boards.
The Davies report on women on boards in the UK in 2011 highlighted the following arguments in favour
of greater female representation.
(a) Improving performance
Studies suggest that female non-executive directors contribute more effectively than male non-
executives, preparing more conscientiously for board meetings and being more prepared to ask
awkward questions and to challenge strategy. Studies also suggest that a gender-balanced board is more
likely to pay attention to managing and controlling risk.
(b) Accessing the widest talent pool
In Europe and the US women account for approximately six out of ten university graduates and in the
UK women make up almost half the labor force. Businesses will not perform to their maximum capability
if they do not utilize this pool of talent effectively.
(c) Being more responsive to the market
Surveys suggest that in the UK women hold almost half the wealth and are responsible for about 70% of
household purchasing decisions. As women are often the customers of the company's products, having
more women directors can improve understanding of customer needs. Large companies in consumer-
facing industries have a higher proportion of women on their boards than big companies in other
sectors.
(d) Achieving better corporate governance
Studies have shown that boards with a significant number of women on them demonstrated better
governance behavior in a number of ways. A Canadian study provided evidence that gender balanced
boards were more likely to measure and monitor strategy, adhere to ethical guidelines and ensure
better communication with a focus on non-financial performance measures such as employee and
customer satisfaction, diversity and corporate social responsibility.
The Davies report made a number of recommendations which, it was hoped, would promote an
increase in the number of female directors:
- FTSE 350 companies setting out the percentage of women they aimed to have on their boards, with
larger companies aiming for a minimum 25%
- Quoted companies being required to disclose the proportion of women on their boards, in senior
executive positions and female employees in the whole organization
- Listed companies establishing a policy concerning boardroom diversity, including measurable
objectives for implementing the policy
- Disclosures in the corporate governance report about progress in achieving diversity and also the work
of the nomination committee in promoting diversity; investors should pay close attention to what
boards are doing
- Other recommendations included advertising non-executive positions and search firms drawing up a
code of conduct; recruitment should utilize not only executives within the corporate sector but also
women from outside the corporate mainstream, including entrepreneurs, academics, civil servants and
women with professional service backgrounds, with training opportunities being provided as required.

THE CHAIRMAN, CEO AND NEDs

Chairman and CEO
Ultimate leadership of the organization consists of a number of strands, most importantly:
- Leading the board of directors – the chairman
- Leading the management team at and below board level – the chief executive officer or CEO

Role of chairman
The UK Higgs report provides a thorough analysis of the role of the chairman. Higgs comments that the
chairman is 'pivotal in creating the conditions for overall board and individual director effectiveness,
both inside and outside the boardroom'. The chairman is responsible for:
(a) Running the board and setting its agenda
The chairman should ensure the board focuses on strategic matters and takes account of the key issues
and the concerns of all board members. He should ensure the contributions of executives and non-
executives are co-ordinated and good relationships are maintained.
(b) Ensuring the board receives accurate and timely information
We shall discuss this further later in the Text, but good information will enable the board to take sound
decisions and monitor the company effectively.
(c) Ensuring effective communication with shareholders
The chairman should take the lead in ensuring that the board develops an understanding of the views of
major investors. The chairman is often the public face of the company as far as investors are concerned.
(d) Ensuring that sufficient time is allowed for discussion of controversial issues
All members should have enough time to consider critical issues and not be faced with unrealistic
deadlines or decision-making.
(e) Taking the lead in board development
The chairman is responsible for addressing the development needs of the board as a whole and
enhancing the effectiveness of the whole team, also meeting the development needs of individual
directors. The chairman should ensure that the induction programme for new directors is
comprehensive, formal and tailored.
(f) Facilitating board appraisal
The chairman should ensure the performance of the whole board, board committees and individuals is
evaluated at least once a year.
(g) Encouraging active engagement by all the members of the board
The chairman should promote a culture of openness and debate, by, in particular, ensuring that non-
executive directors make an effective contribution to discussions.
(h) Reporting in and signing off accounts
Financial statements in many jurisdictions include a chairman's statement that must be compatible with
other information in the financial statements. The statement provides an opportunity for the chairman
to demonstrate that they are acting in the shareholders' best interests, and to provide an independent
view of the company's affairs. The statement can also explain how the chairman is exercising their role
and highlight other aspects of corporate governance that might be of concern to the shareholders.
The chairman may also be responsible for signing off the financial statements.

Higgs goes on to provide a description of an effective chairman, who:

- Upholds the highest standards of integrity and probity
- Leads board discussions to promote effective decision-making and constructive debate
- Promotes effective relationships and open communication between executive and non-executive
directors
- Builds an effective and complementary board, initiating change and planning succession
- Promotes the highest standards of corporate governance
- Ensures a clear structure for, and the effective running of, board committees
- Establishes a close relationship of trust with the CEO, providing support and advice while respecting
executive responsibility
- Provides coherent leadership of the company

Role of CEO
The CEO is responsible for running the organization’s business and for proposing and developing the
group's strategy and overall commercial objectives in consultation with the directors and the board. The
CEO is also responsible for implementing the decisions of the board and its committees, developing the
main policy statements and reviewing the business's organizational structure and operational
performance. The CEO is the senior executive in charge of the management team and is answerable to
the board for its performance. They will have to formalize the roles and responsibilities of the
management team, including determining the degree of delegation.

(a) Business strategy and management

The CEO will take the lead in developing objectives and strategy having regard to the organization’s
stakeholders, and will be responsible to the board for ensuring that the organization achieves its
objectives, optimizing the use of resources.
(b) Investment and financing
The CEO will examine major investments, capital expenditure, acquisitions and disposals and be
responsible for identifying new initiatives.
(c) Risk management
The CEO will be responsible for managing the risk profile in line with the risk appetite accepted by the
board. They will also be responsible for ensuring that appropriate planning, operational and control
systems and internal controls are in place and operate effectively. The CEO has ultimate ownership of
the control systems and should take the lead in establishing the control environment and culture.
(d) Establishing the company's management
The CEO will provide the nomination committee with their view on the future roles and capabilities
required of directors, and make recommendations about the recruitment of individual directors. They
will also be responsible for recruiting and overseeing the management team below board level.

(e) Board committees

The CEO will make recommendations to be discussed by the board committees on remuneration policy,
executive remuneration and terms of employment.

Division of responsibilities
All governance reports acknowledge the importance of having a division of responsibilities at the head
of an organization to avoid the situation where one individual has unfettered control of the decision-
making process. The simplest way to do this is to require the roles of chairman and CEO to be held by
two different people, for the following reasons.
(a) Demands of roles
It reflects the reality that both jobs are demanding roles and ultimately the idea that no one person
would be able to do both jobs well. The CEO can then run the company. The chairman can run the board
and take the lead in liaising with shareholders.
(b) Authority
There is an important difference between the authority of the chairman and the authority of the chief
executive, which having the roles taken by different people will clarify. The chairman carries the
authority of the board whereas the chief executive has the authority that is delegated by the board.
Separating the roles emphasizes that the chairman is acting on behalf of the board, whereas the chief
executive has the authority given in their terms of appointment. Having the same person in both roles
means that unfettered power is concentrated into one pair of hands. The board may be ineffective in
controlling the chief executive if it is led by the chief executive.
(c) Conflicts of interest
The separation of roles avoids the risk of conflicts of interest. The chairman can concentrate on
representing the interests of shareholders.
(d) Accountability
The board cannot make the CEO truly accountable for management if it is led by the CEO.
(e) Board opinions
Separation of the roles means that the board is more able to express its concerns effectively by
providing a point of reporting (the chairman) for the non-executive directors.
(f) Control over information
The chairman is responsible for obtaining the information that other directors require to exercise proper
oversight and monitor the organization effectively. If the chairman is also chief executive, then directors
may not be sure that the information they are getting is sufficient and objective enough to support their
work. The chairman should ensure that the board is receiving sufficient information to make informed
decisions, and should put pressure on the chief executive if the chairman believes that the chief
executive is not providing adequate information.
(g) Compliance
Separation enables compliance with governance best practice and hence reassures shareholders. That
said, there are arguments in favor of the two roles being held by the same person.
(a) Creation of unity
Having a single leader creates unity within the company. Having two leaders that disagree can create
deadlock.
(b) Acquisition of knowledge
The holders of both posts need considerable knowledge of the company. A non-executive chairman may
struggle to acquire this knowledge due to constraints on his time. The UK Corporate Governance Code
also suggests that the CEO should not go on to become chairman of the same company. If a CEO did
become chairman, the main risk is that they will interfere in matters that are the responsibility of the
new CEO and thus exercise undue influence over them.

Role of non-executive directors

The UK's Higgs report provides a useful summary of the role of non-executive directors.
(a) Strategy
Non-executive directors should contribute to, and challenge the direction of, strategy. They should use
their own business experience to reinforce their contribution. The Walker review on corporate
governance in UK banks and other financial institutions highlighted the challenge stage as an essential
part of board discussions: 'The most critical need is for an environment in which effective challenge of
the executive is expected and achieved in the boardroom before decisions are taken on major risk and
strategic issues.'
(b) Scrutiny
Non-executive directors should scrutinise the performance of executive management in meeting goals
and objectives and monitor the reporting of performance. They should represent the shareholders'
interests to ensure agency issues don't arise to reduce shareholder value.
(c) Risk
Non-executive directors should satisfy themselves that financial information is accurate and that
financial controls and systems of risk management are robust. (These may include industry specific
systems, such as in the chemical industry.)
(d) People
Non-executive directors are responsible for determining appropriate levels of remuneration for
executives and are key figures in the appointment and removal of senior managers and in succession
planning.

The UK Higgs report suggests that non-executive directors have 'an important and inescapable
relationship with shareholders'. Higgs recommends that one or more non-executive directors should
take direct responsibility for shareholder concerns, and should attend regular meetings with
shareholders. One method of enhancing the contribution of non-executive directors is to appoint one of
the independent non-executive directors as senior independent director to provide a sounding board for
the chairman and to serve as an intermediary for the other directors and shareholders if they have
concerns they cannot resolve through other channels.

Advantages of non-executive directors (NEDs)

Non-executive directors can bring a number of advantages to a board of directors.
(a) Experience and knowledge
They may have external experience and knowledge which executive directors do not possess. The
experience they bring can be in many different fields. They may be executive directors of other
companies, and have experience of different ways of approaching corporate governance, internal
controls or performance assessment. They can also bring knowledge of markets within which the
company operates.
(b) Perspective
Non-executive directors can provide a wider perspective than executive directors who may be more
involved in detailed operations.
(c) Reassurance
Good non-executive directors are often a comfort factor for third parties such as investors or creditors.
(d) Contribution
The English businessman Sir John Harvey-Jones pointed out that there are certain roles nonexecutive
directors are well suited to play. These include 'father-confessor' (being a confidant for the chairman
and other directors), 'oil-can' (intervening to make the board run more effectively) and acting as 'high
sheriff' (if necessary taking steps to remove the chairman or chief executive).

Problems with non-executive directors

Nevertheless there are a number of difficulties connected with the role of non-executive director.
(a) Lack of independence
In many organizations, non-executive directors may lack independence. There are in practice a number
of ways in which non-executive directors can be linked to a company, as suppliers or customers for
example. Even if there is no direct connection, potential non-executive directors are more likely to agree
to serve if they admire the company's chairman or its way of operating.
(b) Prejudice
There may be a prejudice in certain companies against widening the recruitment of non-executive
directors to include people proposed other than by the board or to include stakeholder representatives.
(c) Preferences of best directors
High-caliber non-executive directors may gravitate towards the best-run companies, rather than
companies which are more in need of input from good non-executives
(d) Enforcing views
Non-executive directors may have difficulty imposing their views on the board. It may be easy to dismiss
the views of non-executive directors as irrelevant to the company's needs.
(e) Time available
Perhaps the biggest problem which non-executive directors face is the limited time they can devote to
the role. If they have valuable experience, they are also likely to have time-consuming other
commitments. In the time they have available to act as non-executive directors, they must contribute as
knowledgeable members of the full board and fulfill their legal responsibilities as directors.

Legal and regulatory framework governing the board of Directors

Legal rights and responsibilities
The legal duties of a director are a baseline for directorial action and a concern since breach can leave a
director open to criminal prosecution and imprisonment (e.g. corporate manslaughter).

Objective
The law is there to protect the owners of the company. It exists because of the nature of a fiduciary
relationship where one person acts on behalf of another. The law provides a framework for directors'
actions in upholding the best principles in this owner/manager relationship.
Power
Directors do not have unlimited power. Directors do however have unlimited liability in the sense that
even though they may delegate actions to management below, in a legal sense they cannot delegate
liability for the outcome.
Fiduciary duties
Being aware of the objective and the power vested in directors leads to consideration of the nature of
the fiduciary relationship.
• Articles of association: the articles of association provide a framework for how directors operate
including the need to be re-elected on a 3-year rotation.
• Shareholder resolution: this curtails director action in a legal sense.
• Provisions of law: these could be health and safety or the duty of care.
• Board decisions: it is the board that makes decisions in the interests of shareholders, not individual
directors, but rather a collective view.
• The duty to act in good faith: as long as directors' motives are honest and they genuinely believe they
are acting in the best interests of the company they are normally safe from claims that they should have
acted otherwise.
• The duty of skill and care: this care is a specific fiduciary duty. The law requires a director to use
reasonable skill and care in carrying out their tasks.

Performance evaluation of directors

The purpose of the performance review should be to ensure that:
- the board is fulfilling its role and carrying out its responsibilities effectively
- the board committees are also fulfilling their roles effectively
- individual directors are contributing effectively to the work of the board and its committees
- the collective skills and experience of the board members remain appropriate for the needs of the
company.

UK Corporate Governance Code on performance evaluation

The UK Corporate Governance Code states that the board should undertake a formal and rigorous
annual evaluation of its own performance, the performance of the board committees, and the
performance of each individual director. The Code includes the following provision: ‘Individual
evaluation should aim to show whether each director continues to contribute effectively and
demonstrate commitment to the role (including commitment of time…). The chairman should act on the
results of the performance evaluation by recognizing the strengths and weaknesses of the board and,
where appropriate, proposing new members be appointed to the board or seeking the resignation of
directors.’ The performance review of the chairman should be carried out by the NEDs, under the
leadership of the senior independent director. The directors’ report in the annual report and accounts
should state how the performance evaluation of the board as a whole, its committees and its individual
directors has been conducted.

Nigeria Corporate Governance Code on performance evaluation.

The Corporate Governance Code in Nigeria states that the board should establish a system to undertake
formal and rigorous annual evaluation of its own performance, the performance of committees, the
chairman and individual directors.
The board is expected to state the criteria and key performance indicators as well as targets to be used
in the evaluation of the board, its committees, the chairman and individual committee members.
To facilitate the performance evaluation of the board, its committees or individual directors, the board
may engage the services of external consultants.
The chairman has responsibility to oversee the performance evaluation of the chief executive officer
(CEO). In turn, and based on agreed criteria or performance indicators, the CEO carries out the
evaluation of executive directors.
Any director whose performance is determined to be unsatisfactory may either undergo further training
or may be removed in accordance with established procedures.

Continuing Professional Development (CPD)

The following offers guidance on directors' CPD requirements:
• To run an effective board, companies need to provide resources for developing and refreshing the
knowledge and skills of their directors, including the NEDs.
• The chairman should address the developmental needs of the board as a whole with a view to
enhancing its effectiveness as a team.
• The chairman should also lead in identifying the development needs of individual directors, with the
company secretary playing a key role in facilitating provision.
• NEDs should be prepared to devote time to keeping their skills up to date.

Objectives of CPD
• To ensure directors have sufficient skills and ability to be effective in their role.
• To communicate challenges and changes within the business environment effectively to directors.
• To improve board effectiveness and, through this, corporate profitability.
• To support directors in their personal development.
• The overall purpose of these objectives is to provide benefits to the individual and the employing
organization.

Board committees

Many companies operate a series of board sub-committees responsible for supervising specific aspects
of governance. Operation of a committee system does not absolve the main board of its responsibilities
for the areas covered by the board committees. However, good use of committees seems to have had a
positive effect on the governance of many companies. Higgs found evidence that committees had given
assurance that important board duties were being discharged rigorously.

The main board committees are:

- Audit committee – arguably the most important committee, responsible for liaising with external
audit, supervising internal audit and reviewing the annual accounts and internal controls.

- Nomination committee – responsible for recommending the appointments of new directors to the
board. We have discussed their work above.

- Remuneration committee – responsible for advising on executive director remuneration policy and the
specific package for each director.

- Risk committee – responsible for overseeing the organisation's risk response and management
strategies.

Corporate governance guidance has concentrated on the work of the audit, remuneration and
nomination committees. The Higgs report recommends that no one individual should serve on all
committees. Most reports recommend that the committees should be staffed by non-executive directors
and preferably independent non-executive directors. We shall now consider the role of non-executive
directors to see why their role is deemed to be so significant.

Remuneration committee

A remuneration committee of independent non-executive directors negotiates and recommends

remuneration packages for executive directors or senior managers. The committee members do not
have a personal interest in the remuneration structure for senior executives, because they are not
remunerated in the same way as executives. They receive a fixed annual fee.

Audit committee

An audit committee of independent non-executive directors can monitor financial reporting and
auditing, to satisfy themselves that these are carried out to a satisfactory standard, and that executive
management are not ‘hiding’ information or presenting a misleading picture of the company’s financial
affairs. The work of the audit committee therefore provides a check on the work of executive managers,
such as the finance director. The committee can also monitor the effectiveness of the auditors, to satisfy
themselves that the auditors carry out their work to a suitable standard.

Risk committee

A risk committee of the board should be to satisfy itself that executive management have a suitable
system of risk management and internal control in place, and that these systems function effectively.
This is another check on executive management.
Nominations committee

A nominations committee makes recommendations about new appointments to the board. The views of
executive directors are important in this aspect of the board’s work, particularly when a vacancy for a
new executive director occurs. However, independent non-executives should have some influence in the
nominations process, to make sure that new appointments to the board will not be selected ‘yes men’
and supporters of the CEO or chairman.

The reasons for having board committees

There are two main reasons for having board committees.

- The board can use a committee to delegate time-consuming and detailed work to some of the board
members. Committees can help the board to use its resources and the time of its members more
efficiently.

- The board can delegate to a committee aspects of its work where there is an actual or a possible
conflict of interests between executive directors (management) and the interests of the company and its
shareholders. However, to avoid a conflict of interests, board committees should consist wholly or
largely of independent directors. This means independent non-executive directors.

REVIEW QUESTION

You have recently received a phone call from an aunty of a friend of yours, Doyin. She is the managing
director of a manufacturing firm that has been expanding over the last few years. Its success has been
noticed in the press, and as a result she has been asked to become a non-executive director of a listed
company based near to her own company's headquarters.

Doyin's company does not have any non-executive directors on its board and she is somewhat uncertain
about their role. In particular, she has been told that the distinction between independent and non-
independent non-executive directors is important, but does not understand what it means and why it is
significant. She recalls reading somewhere in a newspaper that non-executive directors are meant to
'keep the peace' between the executive directors and the shareholders. She doesn't understand why
there should be a conflict and is worried about what she'll have to do. Doyin has also been asked
whether she wants to be paid partly in shares or share options, in line with the way executive directors
are paid in the listed company.

Required:

Write a letter to Doyin:

(a) Explaining the distinction between independent and non-independent non-executive directors.
(b) Assessing the main areas for a potential conflict of interest between the shareholders of a listed
company and its executive directors, and explaining how the use of non-executive directors should help
to deal with this problem.

(c) Discussing the issues connected with paying NEDs in shares or share options of the company.