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for governance practice in the companies in which they invest. By making their views more public and contributing to the various working parties, such as the Flint review, they are having a growing, if not direct, influence on governance practice.

The International Corporate Governance Network18 (ICGN) has expanded its guidance on the responsibilities of shareholders. Their work aims to:

provide an investor-led network for the exchange of views and information about corporate governance issues internationally

examine corporate governance principles and practices

develop and encourage adherence to corporate governance standards and guidelines

generally promote good corporate governance.

As the Ernst & Young 2005 survey found, and subsequent reviews have confirmed, shareholders feel strongly that the transparency and adequacy of information they review can be improved.

Board effectiveness

The Code aims to improve the transparency of a company’s governance procedures. It is the directors who have legal duties to the shareholders and moral and ethical responsibilities to the wider stakeholder groups. Governance practices are focused on ensuring and enhancing the accountability of those directors. The review of the effectiveness of the board and its individual members is at the heart of that accountability. It is through the process of considering issues such as the existence of a dominant leadership that non-executive directors provide the appropriate challenge. All directors must act in the long-term interests of the company and not their own ego or self-interest. To act otherwise will give early warning to the shareholders of any unhealthy imbalance in authority – a significant contributory factor in some of the major frauds and collapses at the beginning of the decade.

Review of board performance under the Code

The Combined Code includes a further disclosure requirement to confirm that ‘a formal and rigorous annual evaluation of [the company’s] performance and that of its committees and individual directors’ has been undertaken. The board performance review, introduced to the Code by the Higgs review, asks the board to consider not just what its achievements were, but also how they were achieved.

Best practice is to set clear business targets and objectives, and measure activities against these; many companies clearly align the personal objectives

18 www.icgn.org.

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Is the UK model working?

of staff with business objectives and then monitor and remunerate according to their achievements. Leading companies include process or behavioural objectives, as well as task-based ones, to ensure that business results are not achieved ‘at all costs’ and that good results will be sustainable rather than short-lived. In the same way that staff are given personal assessments and business units are reviewed, it follows naturally that the performance of the board itself and its directors should be subjected to the same scrutiny.

It is interesting that only board ‘performance’ is to be reviewed, while it is the ‘effectiveness’ of internal control which the Turnbull guidance focuses on, and the effectiveness of internal financial control on which SOX requires opinions. Requiring boards to make greater disclosures and increasing the extent to which they are accountable may be an uncomfortable process.

Boards should have a balance of skills and experience and directors should be committed and contribute effectively, but what does this mean? The expectation is that directors (particularly non-executives) will raise appropriate challenges to ensure that the best courses of action are being followed in the long-term interests of the company.

Guidance is provided on the board performance review, which:

asks companies to state how their evaluation is carried out

confirms that it is the responsibility of the Chairman to select an effective process and to act on its outcome

suggests the use of an external third party to conduct the evaluation will bring objectivity to the process

includes a list of indicative questions (leading many companies towards a questionnaire-based review).

Soundings taken by Grant Thornton from discussion groups amongst directors suggest that this subject is proving to be a hot topic, with many boards resorting to a mix of outside consultancies and self-assessment techniques such as questionnaires. In practice, many are questioning whether the output really provides sufficient challenge. It is perhaps not surprising that it is the review of the effectiveness of the Chairman which is proving by far the most difficult.

In a survey by RSM Robson Rhodes, Board Evaluations – Ensuring Your Board Achieves Its Full Potential released in 2006, the disclosure of 283 of the FTSE 350 companies’ annual reports were reviewed and it was found that 264 had undertaken an evaluation.

What gets covered in a board performance review can be broken down into:

the provision of information to the board

the composition of the board in terms of background and length of service

the behaviour in board meetings

the results of meetings in terms of decisions reached.

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The Code’s guidance recognises how increased objectivity is likely to result from having external input, so it is surprising that only a third of companies in the FTSE 100 had used external facilitation and as few as 18 per cent in the FTSE 250. Anecdotal feedback suggests the apparent reluctance of boards to expose themselves to independent review, despite the growing number of consultancies now offering the service, is at least partly due to the relative immaturity of the market, and the lack of genuine experience from which to draw and add value. In addition, for the smaller company, the cost of bringing in an external adviser may be difficult to justify.

The form of external review varies considerably. The more enlightened companies may invite behavioural psychologists to observe the dynamics during board meetings. They may even allow proceedings to be interrupted to give timely feedback on ineffective behaviour.

Another level of assessment will be to arrange for interviews of board members to be carried out by independent advisers and the results to be fed back objectively. Among the advantages of this approach are that views are often more freely expressed, and it allows the board to explore the issues giving rise to divergent views. At the very least, an external adviser can be engaged to develop a questionnaire which the Chairman can then use in his interviews with directors.

The Robson Rhodes survey anticipated that more companies would use external facilitation in the future, as boards become more comfortable with the process. The requirement is for a rigorous process to be undertaken. Increasingly, shareholders are more likely to question the rigour of the purely questionnaire-based approach, whether this is facilitated or not.

Results of evaluations

What disclosure is there of the results of the board review process? There is usually acknowledgement that the process has been completed and that this was achieved with or without external help. The Robson Rhodes survey found that less than 43 per cent of both FTSE 100 and FTSE 250 companies discussed the topics covered in the evaluation, while 27 per cent of FTSE 100 companies and 16 per cent of FTSE 250 companies went beyond the basic requirements and disclosed that they believed their boards were effective.

The requirement for boards to take a rigorous look at how well they operate and to challenge themselves to improve, though straightforward to implement, is yet the most personally challenging to the directors. If they are not prepared truly to be judged on their effectiveness, shareholders should consider critically the balance of the long-term rewards they seek against the shorter-term risks being taken by the directors.

Ultimately, it is the shareholders who make the assessment of a board’s effectiveness by means of their continuing shareholding. But clearer, more

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