Boards in the United States are undergoing reforms in leadership, membership and performance evaluation. But are all the changes for the better?
Over the past four years, corporate boards in the United States have been under increasing pressure. Stimulated by high-profile scandals, investor dissatisfaction with board performance and questions about the level of executive compensation, regulators have introduced significant reforms in the rules governing boards. First, the U.S. Congress passed the Sarbanes-Oxley Act of 2002, which mandates that only independent directors can serve on the audit committee and also increases the requirements for the financial knowledge of directors, among other changes. Then the New York Stock Exchange and NASDAQ adopted new listing requirements, including implementing stricter rules for board independence and mandating regular executive sessions in which only outside directors meet. More recently, the U.S. Securities and Exchange Commission has proposed new reforms that would make it easier for outside shareholders who are disgruntled with a board’s performance to nominate their own slate of directors.
Of course, adopting new rules and regulations is one thing; whether the reforms actually change the way boards operate is another. Furthermore, during a period of great demand for change, it is important to focus on what actually contributes to the effectiveness of boards. A real danger exists that the mandated changes not only will fail to enhance how companies are governed but also will lead to a number of negative unintended consequences, including very high costs of implementation.
To investigate the impact of recent changes in boards, we conducted a study that compared the board practices and effectiveness of Fortune 1000 companies in 1998 versus 2003. (See “About the Research.”) We specifically looked at three areas: board leadership, the conditions governing board membership, and the performance evaluations of boards, individual board members and CEOs. We were particularly interested in determining whether any practices in those three areas were actually related to overall board performance.