Board Leadership

The original version of this NACD Blue Ribbon Commission report was issued in 2004. In the world of corporate governance, seven years is a long time. When we led the Commission, a number of key events were fresh in our minds. It was only two years after the dot-com bubble burst and the spectacular events surrounding corporate malfeasance at major enterprises such as Enron, World Com, and Tyco. 

The Sarbanes-Oxley Act of 2002 (SOX) was relatively new and only beginning to be implemented. Many U.S. boards had no form of independent board leadership. 

It was in this context that the 2012 Commission did its work. In our original report, we strongly advocated the need for independent leadership of boards. If the board needed to be independent to perform its duties on behalf of shareholders and the larger society, we maintained that it required leadership that was also independent. 

In retrospect, we are tremendously pleased at how events have unfolded. Today, the overwhelming majority of major U.S. corporations have independent board leadership, either through the establishment of a lead (or presiding) independent director, or through the separation of the CEO and chairman of the board roles. In some cases, where the roles are separate, but the chairman is an executive, a lead director role has also been established. We believe that the strengthening of independent board leadership in the future will reflect continuing changes in the corporate governance environment, such as the following: 

• Economic turmoil has caused boards and their leaders to focus more on strategy and risk. In the years immediately following the enactment of SOX, boards were focused on compliance and the related new stock exchange listing requirements pertaining to governance. Unfortunately, this attention on “checking the boxes” on internal board matters may have contributed to an unintended consequence: many boards failed to anticipate a major external business risk—the problems in financial markets that led to the financial panic of 2007-2009, and triggered an economic recession that the country is still struggling to recover from. As a result, the independent board leadership role today is no longer as internally focused as it was a decade ago. Boards are more concerned with strategy and risk management and so are their leaders. 
• The passage of the Dodd-Frank Act in 2010 has made boards and committee leadership more transparent. Many of the voluntary best practices recommended in the 2004 report are now, in effect, mandatory. The most obvious example is the Dodd-Frank provision which essentially mandated independent leadership for all listed company boards. The rule requires companies to disclose whether they combine the CEO and chair roles, and explain why. If they have an independent lead director they need to explain this director’s leadership role. Although the rule implies a preference for a non-executive chair, the alternative of a lead director was also allowed. In our view this preference is another example of the risks of legislating corporate governance practices since legislators and their staffs frequently have no intimate understanding of the issues of corporate governance. 
• Shareholder activism continues unabated. Although a federal court struck down a rule that would have mandated shareholder access to proxies to nominate directors, the decision was based on procedural issues and if these are addressed by the SEC the decision may be reversed. In any event, the activism of shareholders continues unabated. For example, an increasing number of boards have become declassified (meaning annual elections for directors). Annual elections increase the visibility of board effectiveness and therefore the importance of board leadership. 

All of these trends enhance the need for boards to operate effectively. Our view remains that independent board leadership is vital for meeting the need for board effectiveness. 

While the debate about the need for independent board leadership seems to have been resolved, the debate on the preferred structure for that leadership has not. Some executives, directors, and governance experts advocate the separation of chairman of the board and CEO roles. Others argue against separating the jobs and advocate the use of the lead independent director structure and role. Interest groups have developed supporting the superiority of one or the other of these structures. 

We continue to believe in the recommendation we made in the 2004 Commission report. Either of these structures can and will work, and neither is inherently superior. In fact, the academic research literature consistently shows no relationship between leadership structure and board or enterprise performance. This is consistent with our own experience and research, which indicates that the critical issue is not what structure is adopted, but how that structure is enacted. Specifically, the focus needs to be on the behavior of the independent board leader and the relationship that evolves between that leader and the CEO, the other directors, and management in general. Ultimately, in our view it is the relationships and behavior that determine the effectiveness of board leadership, more than the particular structural option that is chosen. 

In that light, we were pleased when the Dodd Frank Act required disclosure and explanation of board leadership structures rather than to mandate a particular structure. We believe that those rating agencies and outside advocates that rate boards negatively for failing to separate the chairman and CEO jobs are, frankly, misguided. In our view it is the dynamics of leadership as opposed to the structure that makes the difference. 

We still believe that there is an imperative for boards to establish an explicit form of independent leadership, but we also believe that different boards should be able to pick the structure and approach that suits them best. This choice should be driven by the history of the board and the company, the dynamics of board-management relationships, and the availability of suitable candidates for different types of leadership roles. There is no “one-size-fits-all” solution!  

We are pleased that the work of our Commission has held up over time and that NACD has chosen to reprint the report seven years later. We hope that in the coming years, directors and managers will find this work as valuable as they have to date.