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Understanding corporate governance dynamics, exploring agency issues, stakeholder perspectives, and best practices for robust board structures in commercial underwriting.
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Corporate Governance Best Practices:Implications for Commercial Underwriters Dr. Gail S. Russ Dr. Meredith Downes Associate Professors of Management Illinois State University
Corporate Governance • Core concern: How do we make sure that top managers are doing what they’re supposed to be doing?
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
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).
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
The Stakeholder Perspective • The board has broader responsibilities • Focus is on protecting key stakeholder rights • Shareholders • Employees • Vendors • Customers • Society as a whole
Best Practices • The board of directors • Executive compensation • Anti-takeover measures
The Board of Directors • Role is to monitor & evaluate top management • But, is the board a complete solution?
Best Practices:Board of Directors • Separate CEO & Chairman of the Board • Role duality gives CEO too much power
Best Practices:Board of Directors • Separate CEO & Chairman of the Board • Role duality gives CEO too much power • Appointment of lead outside director
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
Best Practices:Board of Directors • Active board members • Not a rubber-stamp board
Best Practices:Board of Directors • Active board members • Not a rubber-stamp board • Evidence that the directors are in contact with employees, vendors, & customers
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
Best Practices:Board of Directors • Board composition • Insiders versus outsiders
Best Practices:Board of Directors • Board composition • Insiders versus outsiders • “Having a board monitor itself is like having the fox watch the henhouse.”
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
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
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
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
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
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)
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
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
Best Practices:Board of Directors • Board committees • Key committees at least chaired by outsiders • Audit, compensation, corporate governance (nominating) committees
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
Best Practices:Board of Directors • Board committees • Compensation committee • Conduct formal evaluation of all company officers (including CEO) and set compensation
Best Practices:Board of Directors • Board committees • Corporate governance (nominating) committee • Create charter for board
Best Practices:Board of Directors • Board committees • Corporate governance (nominating) committee • Create charter for board • Conduct formal governance review using an external consultant
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
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
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
Best Practices:Board of Directors • Board committees • Audit committee • Select independent auditor • Not also employed for consulting work
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
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
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
Best Practices:Board of Directors • Board meetings • Frequency of overall board & committee meetings
Best Practices:Board of Directors • Board meetings • Frequency of overall board & committee meetings • Attendance
Best Practices:Board of Directors • Board meetings • Frequency of overall board & committee meetings • Attendance • “Executive” sessions • Lead outside director with term limit
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
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
Best Practices:Executive Compensation • CEO has substantial stock ownership
Best Practices:Executive Compensation • CEO has substantial stock ownership • Salary, bonuses, & stock options reward superior performance • not size of the company
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
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
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
Best Practices:Anti-takeover measures • Lack of provisions designed to thwart a hostile takeover • Golden parachutes
Best Practices:Anti-takeover measures • Lack of provisions designed to thwart a hostile takeover • Golden parachutes • Poison pill provisions
Best Practices:Anti-takeover measures • Lack of provisions designed to thwart a hostile takeover • Golden parachutes • Poison pill provisions • Greenmail