In Your Face

The Role of the Non-Executive Director

We have seen a plethora of high profile corporate scandals over the past few years; Enron, WorldCom and the current SEC investigation into foreign exchange dealings to name but a few. The US administration took fright, and introduced the Sarbanes-Oxley rules; which, in very simplistic terms, mean that executives have to sign in blood as to the accuracy of their accounts. These rules apply to all US listed companies, their non resident subsidiaries and those non US companies that have listings (eg via ADR’s) in the USA.

The UK, knowing that whatever happens in the USA eventually happens here, commissioned Derek Higgs to review the role and effectiveness of non-executive directors and Sir Robert Smith to review audit committees.

These two reports were “morphed” into the Combined Code, which applies to all reporting years beginning/after 1 November 2003. In the usual British manner, unlike Sarbanes-Oxley (which is mandatory), the Combined Code allows companies to depart from its provisions; so long as they explain why.

Disregarding this opt out clause; in my view the Combined Code is a welcome clarification as to the role, and duties, of the non-executive director. There has been a feeling within the UK that the role of the non-executive director has not been clearly defined; and as such neither the Board (both executive and non-executive), nor the investor fully understand as what the non-executive should do and can do. Additionally, it has been felt that some non-executive directors take up too many positions at the same time, as a way of making an easy living; secure in the belief that only the executive directors are responsible for the strategy and management of the company.

Here is a brief overview as to the main points in the Combined Code, relevant to non-executive directors (NED’s):

 NED’s are the custodians of governance, they should challenge strategy and scrutinise performance.

 NED’s should have job descriptions, these should be prepared by the Nomination Committee.

 Appointments need to be justified.

 One of the NED’s should be available to interact with shareholders, and should attend meetings between management and major investors.

 Remuneration should be commensurate with the position, and be designed to attract the best candidates.

 The Nomination Committee should be responsible for appointing NED’s, its terms of reference should be published in the annual report.

 The training needs of current and future directors should be addressed by the Chairman.

 NED’s should be appointed from a wider range of backgrounds, based on merit.

 NED’s should be independent, and challenge the company orthodoxy.

 The performance of the Board should be reviewed annually.

 NED’s should serve two three year terms.

 Executives should hold only one NED position.

I shall watch with interest to see which companies embrace the code, and which use the op out clause.

Those of you who wish to study the subject of corporate governance in detail, should find the following links to be relevant:

 The Combined Code (2003)
 The Higgs Review (2003)
 The Turnbull Report (Internal Control) 1999
 The Cadbury report (1992), Greenbury Report (1995) and Hampel Report (1998)
 The Financial Services Authority’s Listing Rules (2002)
 Corporate governance codes in other countries
 Information on the Company Law Review (2001)
 The Myners Report on Institutional Investment in the UK
 The Tyson report on the recruitment and development of non-executive directors (2003)
 The responsibilities of institutional shareholders and agents-statement of principles (2002)