As the saying goes “A non-executive director is like a bidet. It’s pretty expensive, takes up a lot of space in the bathroom, and no one knows what it is really for”.
Development and the ‘feel good’ factor
The organisation Promotion of Non-executive Directors (PRO-NED) 1982 was a result of financial scandals like the Guinness take-over of Distillers and as such, the increasing need to impose more shareholder control over the activities of company directors. It produced a code of practice which provided for a category of persons suitable for appointment and also guidelines for NEDs in carrying out their duties. I was actually a member of the PRONED committee formed by the Bank of England and I remember a Scottish colleague questioning the acronym, since in Glasgow slang a ‘ned’ describes a person whose behaviour is rough, rude, or violent, derived dubiously from ‘non-educated delinquent’. But the acronym has stuck, nonetheless. My experience as an executive and business owner with NEDs has not been of violent or rude behaviour but rather of limited value. So here I put forward the unfashionable view that NEDs are like Potemkin villages designed to deceive by presenting a pleasing exterior to an empty building.
PRONED was followed by a series of reports (Cadbury, Greenbury and Hampel reports) whose committees were comprised of representatives from industry and investment sectors and were self-regulatory. This led to an enhancement by the London Stock Exchange with the adoption of a Combined Code that encapsulated the recommendations of the three reports in 1998 and the subsequent Higgs Report (2003) and the related Tyson Report that led to it. It was first issued in 1998 and reviewed and updated in 2003, 2006 and 2008. The most recently revised code in 2018, known as the Corporate Governance Code was administered by the Financial Reporting Council until the establishment of The Audit, Reporting and Governance Authority created to replace the Financial Reporting Council in 2023.
Is it all sound and fury signifying nothing?
I give this rather tedious account of the development of the concept of an NED to illustrate the enormous amount of time and effort that has been expended by distinguished persons sitting on committees and producing reports in attempts to get companies to behave properly and produce truthful and accurate financial reports. This now encompasses not just duties to shareholders but also duties to all kinds of groups, commonly known as stakeholders, and to the wider public and the future of the planet.
Actually, the role of a non-executive is not a specifically statutory one. The Companies Act 2006 does not define or even use the word non-executive directors nor differentiate them from their executive counterparts. They are just directors.
Section 172 says:
A director of a company must act in the way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole, and in doing so have regard (amongst other matters) to—
(a)the likely consequences of any decision in the long term,
(b)the interests of the company’s employees,
(c)the need to foster the company’s business relationships with suppliers, customers, and others,
(d)the impact of the company’s operations on the community and the environment,
(e)the desirability of the company maintaining a reputation for high standards of business conduct, and
(f)the need to act fairly as between members of the company.
The FCA takes the view that the role of a NED is consistent with the duties of directors included in UK company law and the description of the role of a NED in the UK Corporate Governance Code. Doesn’t the Companies Act say it all? Why all the contortions to try to prove that NEDs somehow bring something different and better to a boardroom than the simple descriptions in the Companies’ Act?
Has all this effort really had any effect? Or has it been, in the words of Horace “Parturient montes, nascetur ridiculus mus” (or ‘the mountains laboured and brought forth a mouse’)?
Good old British compromise (or fudge)
It’s all pretty polite and touchy, feely, and rather British. Sarbanes Oxley (SOX), the US Act, enacted in 2002 after the accounting scandals such as Enron, is far tougher. It forces U.S. directors to personally attest to the adequacy of internal controls, and face prison for breaches. But that doesn’t seem to have inhibited the much-publicised move for British companies to list and raise capital in the US.
The promise is that the Audit, Reporting and Governance Authority will be much tougher; but the government has retreated, under pressure from the industry, from imposing the kind of sanctions faced by US directors. And it has already run into criticism from the audit profession.
“Taking these measures as a package with the draft audit reform bill outlined a few weeks ago, the government’s approach has a half-hearted and lopsided feel to it,” says ICAEW Chief Executive Michael Izza. “Lessons from Carillion and other recent company failures have been ignored, with little emphasis now on tightening internal controls and modernising corporate governance.”
The ‘all nice chaps really ‘ approach
Phew! Thank goodness. UK NEDs can continue to enjoy a nice (not so little) earner without any personal risk of being sued or imprisoned. The idea that non-executive directors (NEDs) are a useful addition to the way that companies are managed has grown from small beginnings to become a massive industry in its own right. There are dozens of websites and programmes to help aspiring NEDs to find roles; and to provide advice and training programmes for them. The FT even offers a Non-Executive Director Diploma which is described as ‘a formally accredited, post-graduate level qualification for current and aspiring non-executive directors’. It costs £7,000 and has additional benefits like helping to write a credible CV, training in being interviewed to be a NED and of course ‘networking’ Being an NED is now a profession in its own right. But are NEDs, in reality, just bidets?
Without US style SOX sanctions there is no tangible evidence that NEDs are anything other than jobs for the boys and girls who cannot actually improve the performance of companies on whose boards they serve, or, more important, prevent catastrophic failures. The collapse of the Royal Bank of Scotland, on whose board sat serried ranks or Scotland’s great and good is a good case. But did things get better as a result. Carillion, whose collapse was predicted by analysts who seemed to know more about the company’s financial condition than the board, whose non-executives included people with considerable business experience, did. Or indeed Royal Mail, whose nice sounding non-executives appear not to have challenged the quite appalling persecution of sub post masters.
Many reasons for failure
The reason for these failures may be many. All the information given to you as an NED is filtered down by the executives, like the CEO. You get what you are given and have no access to the people actually doing the work. Voluminous board papers inhibit rigorous questioning, which is not encouraged. Would you really want Mr or Ms Awkward on your board?
Of course, remuneration of the NEDs is a topic of concern raised by head hunters who get their revenues as a percentage of salaries of those they hunt and put on the wall. They are not paid as much as their US counterparts. But does handsome remuneration impair their independence? Who would wish to give up a couple of NED posts at £70,000 a pop. And would not the reputation of an NED who was regarded as ‘difficult ’rather inhibit their selection to other appointments to add to their portfolio? Maybe they should be paid nothing except expenses and thus can walk away from a disagreement without cost. Most of them have other well paid executive jobs anyway. That leads me to wonder whether NEDs for hire are of the best quality or only there for the lunches. Are shareholders of a company whose CEO holds 3 or 4 external NED posts, happy for that person to spend a lot of time away from their company that pays their wages? As a shareholder I’m not. I want my CEO to work 24/7 for me not someone else.
Can someone please tell me about success?
Those and numerous others are the downsides and bad cases. What about the successes? Reviewing the self-congratulatory websites that extol the virtues of having NEDs I see the words ‘strategic vision, ‘long term focus,’ ‘innovation’, ‘performance metrics’ ‘allocation of resources’, and ’external connections’. Certainly, external connections can be useful, as the regular recruitment of MPs and former civil servants with inside knowledge proves. If they can help you land that £10 million government contract they will have earned their £70k. But, that apart, I wonder whether the UK’s poor record of long-term investment and productivity justifies such grand descriptions of an NED role. Do NEDs often ask why the money spent on share buy backs is not being spent on expansion or new investment? I don’t know but I guess not, since share buy backs are ways to boost earnings related bonuses, something that NEDs are probably reluctant to discuss, or of which they may even approve.
There is certainly more public evidence of failure than of success. It would be very interesting to do some research and hear executive directors extol the benefits and value of their NEDS. Or would they (very privately) tell us that they have them because they have to. So, they choose ones that both look good on paper from the external perspective and are unlikely to be a too much of a nuisance. If the rules say we have to have bidets let’s just choose the ones that cause the least effort to install. We may only guess.
All about investment funds 