Thursday, October 18, 2012

Harvard Business Review Raises Questions Regarding Mission Of Corporate Boards

Enron had an ideal Board according to current models of governance.  It was filled with outside directors and few insiders were on important committees.  This article was written in a response to recent criticisms of Goldman Sachs Board which is loaded with insiders. The Goldman Board is an anomaly according to the current model of the ideal Board. It should be loaded with outside directors. This raises a question regarding the role of Boards in corporate governance.  One view is that the Board represents the principals who are the shareholders. Managers are regarded as agents. Board governance is supposed to resolve the agency conflict by insuring that managers maximize shareholder value.  That view became dominant after an article by Jensen and Meckling in 1976.

Legally, corporate Boards are responsible for the long term survival of the corporation.  Shareholders are free to sell their shares if they are unhappy with corporate performance.  In fact most shareholders are actually renters and not owners.  The percent of long term shareholders of corporate shares has dropped dramatically in recent years.  Perhaps it would be better if Boards were more familiar with the corporation that they govern, or at least in the industry in which the corporation competes.  The Goldman Board may be the best model for firms in the financial industry. Goldman survived while many of its industry peers did not.  Moreover, creditors supplied most of the funding on Goldman's balance sheet. Perhaps they are the true principals rather than shareholders. Shareholder friendly Boards on other banks may have been a problem by providing financial incentives that were not in the best interest of shareholders, or the long-term survival of the corporation.

In any case, there is no simple answer to questions regarding the best organization of corporate Boards.  The worse case scenario, that we observe in corporations like HP, is that Boards do not agree on the corporate mission and they become dysfunctional.  They also provide little governance when they are a rubber stamp for management.

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