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Preparing for an independent director-led board
We are entering a phase in our corporate governance history where more independent directors (IDs) are expected to lead corporate boards with majority voting control at board meetings.
This will be largely precipitated by the revised Code of Corporate Governance issued in August 2018, which requires that “Independent directors make up a majority of the Board where the Chairman is not independent” (Provision 2.2), and “Non-executive directors make up a majority of the Board” (Provision 2.3).
Provision 2.2, which comes into effect on 1 January 2022, ups the ante from the 2012 Code requirement that IDs comprise at least half of the board where there is no independent chair.
Companies have been actively taking steps to comply with the 2012 Code requirement over the years. The Singapore Directorship Report 2018 issued by the Singapore Institute of Directors reported that, of the 516 companies (78.2 per cent of the companies in the study) that fell within the purview of the 2012 Code Guideline 2.2, there was a 72.1 per cent compliance rate as of 2018, up from the 60.8 per cent compliance in 2016.
Greater ID representation
Greater ID representation on boards comes with several considerations.
First, it is important that companies do not compromise the strength of their boards just for the sake of compliance with the Code. Many companies may have actually trimmed their board sizes by reducing the number of executive directors to meet the current requirement, as opposed to appointing more IDs.
While there is nothing wrong in itself with taking such an approach, it is necessary to make sure that the residual board remains an appropriate size. Board members who remain must also continue to collectively have the appropriate skills and knowledge to take the company forward and not be overstretched.
Second, the removal of directorial responsibility and accountability from key executives may make them less vested in proposals which they put forward. Without a vote on the board, they may be less motivated to push through plans which are in the best interests of the company.
There is hence a need to make sure that IDs are ready to step up to the plate and have the necessary know-how to manage and draw on the strengths of executives who are no longer members of the board. Then, there are related “face” and morale issues for executives who are removed from their directorial positions that need to be managed, as boards are refreshed.
Third, IDs should make sure that they are properly trained and equipped to fulfil their roles as majority decision-makers on boards. According to the report 35 per cent of Singapore listed companies have boards with a majority of IDs. This percentage should increase as we approach 2022 when Provision 2.2 of the Code comes into effect.
Anecdotally, on many boards, IDs tend to focus more of their attention on issues relating to compliance and accountability, and less on strategy and policy. The latter is often left primarily to the executive directors, with IDs playing a more supportive role as a sounding board. When IDs participate in the decision-making process, many do so in the perceived comfort of the fact that the majority of the board, comprising executive directors (who are the ones behind proposals), have the final say.
This arrangement and the dynamics of the decision-making process will need to change when IDs form the majority of the board. IDs need to be prepared to take a more active role in questioning, assessing and defending decisions on strategy and policy that are presented to them. They can no longer hide behind the executive directors and claim lack of knowledge, expertise and clout.
More independent chairmen
The requirement to increase the proportion of IDs on boards can be skirted somewhat through the appointment of an independent chair. We already see an uptake in the trend among listed companies appointing independent chairs in the latest directorship report. In 2018, 23.1 per cent of listed companies reported having an independent chair, up from 18.4 per cent in 2014.
There is also a need to ensure that we have IDs with the necessary training and competence who are sufficiently confident of taking on the chairman role. Companies that have a long-tradition of having executive chairs will have to adjust and adapt to having an ID, who may not be as familiar with the day-to-day operations of the company, serving as chair.
Time to get started
Having an effective board with the appropriate level of independence and diversity of thought and background is critical to the success of a company. The shift towards having a majority of independent or non-executive directors on boards clearly bodes well for greater transparency, accountability and protection against abuse of power by management and controlling shareholders.
Companies should start preparing now for ID-led boards and IDs should look at how to best prepare themselves to take the lead. This is an opportune time for directors to carefully assess the composition of their boards and to take steps to put together the best possible team to take their companies forward.
The writer is a member of the Singapore Directorship Report 2018 Working Committee and the Directors Bulletin Committee of the Singapore Institute of Directors.