corporate governance best practices: implications for
TRANSCRIPT
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Corporate Governance Best Practices:
Implications for Commercial Underwriters
Dr. Gail S. RussDr. Meredith Downes
Associate Professors of ManagementIllinois State University
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Corporate Governance
• Core concern: How do we make sure that top managers are doing what they’re supposed to be doing?
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The Agency Perspective
• Separation of ownership & control Principals & agents Misalignment of interests
• What’s good for the managers may not be what is good for the owners
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The Agency Perspective
• The Agency Problem: The misalignment of agents & principals’
interests leads to agents (managers) pursuing strategies that are not in the best interests of the principals (stockholders).
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The Agency Perspective
• The Agency Problem: The misalignment of agents & principals’
interests leads to agents (managers) pursuing strategies that are not in the best interests of the principals (stockholders).
Focus is on protecting shareholder rights
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The Stakeholder Perspective
• The board has broader responsibilities Focus is on protecting key stakeholder rights
• Shareholders• Employees• Vendors• Customers• Society as a whole
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Best Practices
• The board of directors• Executive compensation• Anti-takeover measures
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The Board of Directors
• Role is to monitor & evaluate top management
• But, is the board a complete solution?
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Best Practices:Board of Directors
• Separate CEO & Chairman of the Board Role duality gives CEO too much power
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Best Practices:Board of Directors
• Separate CEO & Chairman of the Board Role duality gives CEO too much power
• Appointment of lead outside director
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Best Practices:Board of Directors
• Separate CEO & Chairman of the Board Role duality gives CEO too much power
• Appointment of lead outside director• Former CEO does not continue to sit on the
board
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Best Practices:Board of Directors
• Active board members Not a rubber-stamp board
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Best Practices:Board of Directors
• Active board members Not a rubber-stamp board
• Evidence that the directors are in contact with employees, vendors, & customers
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Best Practices:Board of Directors
• Active board members Not a rubber-stamp board
• Evidence that the directors are in contact with employees, vendors, & customers
• Board composition Size Age Diversity Expertise
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Best Practices:Board of Directors
• Board composition Insiders versus outsiders
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Best Practices:Board of Directors
• Board composition Insiders versus outsiders “Having a board monitor itself is like having
the fox watch the henhouse.”
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Best Practices:Board of Directors
• Board composition Insiders versus outsiders “Having a board monitor itself is like having
the fox watch the henhouse.” The majority should be independent
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Best Practices:Board of Directors
• Board composition Insiders versus outsiders “Having a board monitor itself is like having
the fox watch the henhouse.” The majority should be independent Should have formal resolution requiring this
AND a written definition of independence
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Best Practices:Board of Directors
• Board composition What is meant by “independent”?
• No material relationship with the company, either directly or as a partner, shareholder or officer of a firm that has a relationship with the company
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Best Practices:Board of Directors
• Board composition What is meant by “independent”?
• Five year “cooling off” period before can be considered independent:
– Former employees of the firm– If formerly part of an interlocking directorate in which an
executive of the firm sat on the compensation committee of the firm employing the director
– Same applies to directors with immediate family members in the above categories
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Best Practices:Board of Directors
• Board members (insiders & outsiders) Limits on number of other board memberships
• Average director spends 176 hours a year for each board position
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Best Practices:Board of Directors
• Board members (insiders & outsiders) Limits on number of other board memberships
• Average director spends 176 hours a year for each board position
CEOs should not serve on each other’s boards (interlocking directorates)
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Best Practices:Board of Directors
• Board members (insiders & outsiders) Limits on number of other board memberships
• Average director spends 176 hours a year for each board position
CEOs should not serve on each other’s boards (interlocking directorates)
Directors & their firms barred from doing consulting, legal, or other work for the firm
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Best Practices:Board of Directors
• Board members (insiders & outsiders) Limits on number of other board memberships
• Average director spends 176 hours a year for each board position
CEOs should not serve on each other’s boards (interlocking directorates)
Directors & their firms barred from doing consulting, legal, or other work for the firm
Significant stock ownership of firm by directors
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Best Practices:Board of Directors
• Board committees Key committees at least chaired by outsiders
• Audit, compensation, corporate governance (nominating) committees
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Best Practices:Board of Directors
• Board committees Key committees at least chaired by outsiders
• Audit, compensation, corporate governance (nominating) committees
Preferred: Key committees composed entirely of independent directors
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Best Practices:Board of Directors
• Board committees Compensation committee
• Conduct formal evaluation of all company officers (including CEO) and set compensation
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Best Practices:Board of Directors
• Board committees Corporate governance (nominating) committee
• Create charter for board
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Best Practices:Board of Directors
• Board committees Corporate governance (nominating) committee
• Create charter for board• Conduct formal governance review using an
external consultant
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Best Practices:Board of Directors
• Board committees Corporate governance (nominating) committee
• Create charter for board• Conduct formal governance review using an
external consultant• Nominate board members
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Best Practices:Board of Directors
• Board committees Corporate governance (nominating) committee
• Create charter for board• Conduct formal governance review using an
external consultant• Nominate board members• Board term limits
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Best Practices:Board of Directors
• Board committees Corporate governance (nominating) committee
• Create charter for board• Conduct formal governance review using an
external consultant• Nominate board members• Board term limits• Elections
– One class of directors– Each director stands for re-election each year
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Best Practices:Board of Directors
• Board committees Audit committee
• Select independent auditor– Not also employed for consulting work
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Best Practices:Board of Directors
• Board committees Audit committee
• Select independent auditor– Not also employed for consulting work – Do not seek SEC exemption to do so
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Best Practices:Board of Directors
• Board committees Audit committee
• Select independent auditor– Not also employed for consulting work – Do not seek SEC exemption to do so
• Rotate auditors – at least rotate the lead auditor, if not the entire firm, every 5 years
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Best Practices:Board of Directors
• Board committees Audit committee
• Select independent auditor– Not also employed for consulting work – Do not seek SEC exemption to do so
• Rotate auditors – at least rotate the lead auditor, if not the entire firm, every 5 years
• CEO & CFO should not be former employees of the auditing firm
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Best Practices:Board of Directors
• Board meetings Frequency of overall board & committee
meetings
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Best Practices:Board of Directors
• Board meetings Frequency of overall board & committee
meetings Attendance
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Best Practices:Board of Directors
• Board meetings Frequency of overall board & committee
meetings Attendance “Executive” sessions
• Lead outside director with term limit
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Best Practices:Board of Directors
• Board meetings Frequency of overall board & committee
meetings Attendance “Executive” sessions
• Lead outside director with term limits Risk assessment function
• Reports identifying risks & methods of addressing
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Best Practices:Board of Directors
• Board meetings Frequency of overall board & committee
meetings Attendance “Executive” sessions
• Lead outside director with term limits Risk assessment function
• Reports identifying risks & methods of addressing Access to internal information
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Best Practices:Executive Compensation
• CEO has substantial stock ownership
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Best Practices:Executive Compensation
• CEO has substantial stock ownership• Salary, bonuses, & stock options reward
superior performance not size of the company
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Best Practices:Executive Compensation
• CEO has substantial stock ownership• Salary, bonuses, & stock options reward
superior performance not size of the company
• AND penalize poor performance
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Best Practices:Executive Compensation
• CEO has substantial stock ownership• Salary, bonuses, & stock options reward
superior performance not size of the company
• AND penalize poor performance• No modification of performance goals
No re-pricing or swapping stock options
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Best Practices:Executive Compensation
• CEO has substantial stock ownership• Salary, bonuses, & stock options reward
superior performance not size of the company
• AND penalize poor performance• No modification of performance goals
No re-pricing or swapping stock options• Expense stock options
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Best Practices:Anti-takeover measures
• Lack of provisions designed to thwart a hostile takeover Golden parachutes
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Best Practices:Anti-takeover measures
• Lack of provisions designed to thwart a hostile takeover Golden parachutes Poison pill provisions
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Best Practices:Anti-takeover measures
• Lack of provisions designed to thwart a hostile takeover Golden parachutes Poison pill provisions Greenmail