Corporate governance is dead; long live corporate governance

Corporate Governance turned up a blind alley some 15 years ago. It lost its initial focus on directors delivering the long-term health of their business and degenerated into a series of compliance-fixated, and short-sighted box-ticking exercises. This irritates even more an already angry and disenchanted public who see the consequent erosion of the credibility of their organisations in the private, public and not-for-profit sectors because of the lack of directoral professionalism.

The many international arguments tend to centre on the poor ethical behaviour of directors.  And people can become very irrational when focussed on ethics.  However, I argue from my experience of boards and directors in some 40 countries that the presenting problems are not ethical alone but more based on ignorance of the legal roles of directors coupled with a lack of induction into these roles, and the non-development of directors’ critical thinking abilities in formulating Policy and developing Strategy.  Put another way – directors do not see their roles as professional or even important.

It was not meant to be thus.  Sir Adrian Cadbury published his seminal report On the Financial Aspects of Corporate Governance in the UK in 1992.  It was a game-changer and was copied quickly over 400 times in many countries to form the framework for many Corporate Governance Codes.  But it had structural flaws, particularly by being so closely associated with accountancy and financial services, its sponsor.  This has led to an internationally skewed view of ‘corporate governance’.  The Report did not consider seriously the rest of the private sector, let alone the public sector or the not-for-profits.  The slavish copying of the initial Code by so many, including the NHS,  has made it easier to see corporate governance as a mere box-ticking exercise leading to risk averse ‘compliance’ through non-decision making.

I worked with Sir Adrian Cadbury before 1992 and talked and corresponded with him on the development of corporate governance effectiveness until his death in 2015.  He encouraged me to write ‘Stop The Rot:  Reframing Governance for Directors and Politicians’ and in his last letter to me urged that I ‘ensure strongly that you focus on the entrepreneurial, risk-taking aspects of good corporate governance and not on the Codes and compliance’.  These he saw as continuing to harm the development of effective corporate governance.

So I stress that the key role for any director and board is to ensure the future of their organisation by taking thoughtful risk.  This is characterised by the ‘Directors’ Dilemma’ – how do we drive our business forward whilst keeping it under prudent control?  This is the fundamental question for any board.  It reflects more than 3,000 years of continuous meaning of the word governance in our society.  It derives from the Greek kubernetes, the steersman of a ship.  This direction-giving role is complemented nowadays by the term cybernetics (from the same root) concerning the feedback and learning mechanisms showing whether the direction is effective.  The careful balancing of this dilemma is what an effective board does.  And this is why I bat on about ‘the Learning Organisation’ and ‘the Learning Board’ in my work.

Back to Basics

Beyond the Directors’ Dilemma we both agreed that the current basis of good governance is found in sections 171 to 177 of the UK’s Companies Act 2006.  It covers all registered organisations in the UK – private, public and not-for-profits.  Few people realise this and few directors know their legal duties.  They are:

1. To act within the powers of their constitution

2. To promote the success of their company

3. To exercise independent judgement

4. To exercise reasonable care, skill and diligence in their decision making

5. To avoid conflicts of interest

6. Not to accept benefits from third parties

7. To declare interests in proposed transactions.

Duties 1, 5, 6 and 7 set the legal limits in which directors deliver their duties.  Duties 2, 3 and 4 are the active verbs that deliver day-to-day competence for any director.  Yet so few directors know these that the notions of competence and professionalism are seldom achieved.  Most directors are ‘accidental directors’.

So why do these Seven General Duties not form the basis of any enforceable Corporate Governance Code?

A clue is that so many government enquiries into corporate disasters (Carillion, Oxfam, and BHS are just current examples) end with a bland statement that whatever the immediate cause ‘the underlying problem was the weak corporate governance and consequent culture in the organisation’. Then nothing happens.  An increasingly angry public demands legislative action and the consequences seem inevitable – new legislation is agreed, the politicians feel that their work is done and hand the learning and enforcement to new regulators.  But regulators are bureaucrats not practitioners and so begin to design Codes that they can enforce regardless of their validity in practice.  Directors and managers then game these rules and the inevitable happens with decreased risk-taking, more compliance and less organisational effectiveness by thoughtful risk-taking.  Effective corporate governance has gone missing.

What do Parents, Politicians and Directors have in Common?

A rational member of the public would assume that the legislated Seven General Duties must be fundamental to the selection, induction, assessment, and developmental process of any director.  They would be wrong.  Like parenthood or becoming a politician or director there is a deep and paradoxical public assumption that one needs no special preparation and training for these crucial societal roles and that, miraculously, on being given the title the person acquires automatically the necessary knowledge, skills and attitudes to be instantly competent.  This is nonsense.  Yet for directors such continuing directoral incompetence ensures that our organisations, the cement of our society, underperform to the detriment of that society. 

Often new directors have a quick talk by the Chairman and Company Secretary, given a huge pile of previous board papers with little explanation, and are expected to turn up to four or five board meetings a year with little hope of their adding value to an already underperforming board.  Yet the Directors’ Dilemma is always irresolvable in a dynamic world – which is why directors have to take their role professionally.

Otherwise they will assume that Code compliance is sufficient and then under-perform.

‘Directing’ is an active verb not a passive job title

It is insufficient just to remember the seven general Duties.  A true director must live them 24 hours a day.  Directing is the crux of organisational learning – both of what is occurring in the political, physical, social, economic, technological and trade environments and what is occurring internally to ensure both the effectiveness and the operational efficiency of the organisation.  Yet a board cannot do all this, especially in a limited time budget so their interface with the executives is crucial. Most boards over-manage their executive team rather than supervise them from the boardroom table.  Few accidental directors recognise this.

The Future Reframing of Corporate Governance – bringing four new players into the definition of Corporate Governance

Too much of the current emphasis and blame is laid on directors.  For any national system to work we need to bring four new players, and responsibilities, into the learning system so that they too have acknowledged Duties:

• Owners

• Legislators

• Regulators

• Public Oversight

None of these have any prescribed corporate governance duties under current legislation yet all are gaining increasing legal rights.  So directors are cracking under such pressures.  What is needed now is a new national system of continuous learning within each of the five parties, and between them with the emphasis on the public oversight of the whole.

This is the challenge if we are to have effective private, public and not-for-profit organisations and so restore the public’s trust.

Professor Bob Garratt is an International Corporate Governance & Board Development Consultant. He has 30 years of international consulting on board and director review and development in Europe, US, China & South East Asia, Africa,  and Australia/New Zealand.  He is a Visiting Professor at Cass Business School, University of London; and Professor Extraordinaire, University of Stellenbosch where he is Chairman of the Centre for Corporate Governance in Africa.

His latest book, 'Stop the Rot', encourages deep reconsideration of the international development of “corporate governance.