Flying blind: why boards must heed the big picture; As a means of sending a clear signal to their senior leadership, boards must tie compensation to key success factors, not just financial results.

Traveling frequently on business is no picnic. If you're like me, you've had more than a few flights rattled by turbulence or poor visibility. You need skilled pilots and the benefit of superior aviation technology to effectively negotiate the blind spots ahead.

CEOs, CFOs and corporate boards, take note: In the current environment, many public companies persist in flying blindly over the horizon. More than ever, they need a sharpened vision of the future and the means of achieving success for themselves and their shareholders. And that picture becomes vastly clearer when boards pay as much attention to non-financial factors as they do to the bottom line.

In recent years, governments and regulators have responded to changes in the capital markets by tightening rules to enhance disclosure and oversight at public companies. In the U.S., we think primarily of the impact of The Sarbanes-Oxley Act of 2002, but new codes of corporate conduct have been stitched into the fabric of governance throughout Europe, Canada and Asia over the past few years, or are about to be.

Still, these tougher regulations take aim primarily at some of the more extreme problems of corporate malfeasance, such as fraud and the falsification of accounts. To many of us in global business leadership, the broader question--Are board members, senior corporate managers and investors really monitoring the right indicators of long-term corporate health?--has remained largely unanswered.

Corporate governance, both in the U.S. and abroad, tends to concentrate on transactional matters and current snapshots of financial performance. When they fail to pay sufficient heed to all key factors driving sustainable results, corporate boards simply aren't doing their job. While I've seen this first-hand in my years of practice and experience, it isn't just my view. A global survey of 249 company directors and senior executives conducted earlier this year by Deloitte and the Economist Intelligence Unit backs it up.

We spoke to some of the leading business executives in order to ascertain the current state of corporate governance globally. Our intent was to identify the size of the gap between financial/non-financial indicators, and our survey did indeed reveal a curious dichotomy: Boards are keenly focused on the short-term financial results their companies must report to the public. Yet they are surprisingly disconnected from the long-term indicators of success that their management should be reporting to them.

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It's a substantial gap. Nearly 86 percent described their tracking of financial results that represent past performance as either "excellent" or "good." On issues of non-financial conduct, it was a decidedly different story. Only 34 percent felt likewise about their ability to monitor non-financial factors, such as customer satisfaction, product and service quality, operational performance and employee commitment.

What do we make of this governance gulf? There are plenty of valid explanations for such an unbalanced approach. Top managers who consistently deliver favorable financial results are usually rewarded by boards of directors. That attention to measurable financial success often neglects the notion of non-financial factors as vital contributors to corporate sustainability. That's just human nature, or so the argument might go.

That rationale escapes me. All key factors affect profitability--good and bad, financial or non-financial. Outstanding quality, well-managed operations that hum and strong employee commitment bring customers back for more and invite stakeholder investment. Conversely, inconsistent or poor quality, inefficient operations and employees with one eye on the clock and one foot out the door can ultimately chase customers away.

Can the same be said of other important drivers of success, including integrity and corporate culture, business strategy, supply chains, alliances and community relationships? Absolutely. To my mind, they are as essential to charting a course of stability and future success as the revenue stream. Though financial statements may, in time, reflect the quality of these necessary business ingredients, too often weaknesses don't become apparent until the damage has already been done.

Boards and their management teams understand the problem. Marketplace pressures always put an executive's feet to the fire. About 97 percent of those polled said they are aware of reputational risks attached to placing overriding importance on financial results alone. The need to build stronger global presence, deliver new goods and services and raise the level of customer influence and satisfaction were also cited by more than 90 percent of the respondents.

Then there's the practical reality of expanding the corporate long view; 73 percent acknowledged they are under increasing pressure to measure non-financial factors. It's not hard to see why, with newspapers and other business media sources full of reports about corporate scandal and wrong-doing. So the spirit is willing. But the mechanism is weak.

We found another complication in adapting to a broader corporate barometer of success--the shortage of recognized measurement tools. Non-financial measures tend to be less developed or structured. Too often, they are soft and inexact. Of course, some indicators are easier to measure than others. Workplace safety, for instance, is one component of operational performance and employee commitment that's easier to assess. Most non-financial indicators, though, might be more difficult to weigh.

Does that really matter? Even if there is no regulatory requirement compelling companies to report non-financial factors, the marketplace will demand answers when stakeholders are blindsided by poor performance, scandal or collapse. To make things right, 92 percent of those polled believe that boards and CEOs are responsible for monitoring both financial and non-financial measures of success. Furthermore, 82 percent said their companies would be spurred to reassess how they monitor and measure non-financial performance if demanded by the board. Those are dramatic and telling statistics. And it puts the onus on boards to be better judges of the less tangible aspects of corporate success.

With so much at stake, boards can take several actions to govern more effectively. They must pay greater attention to the key drivers of performance and diligently monitor how well they are being applied. They need to make those drivers a fundamental part of the board's business--and ensure management is responsible for them. They also need to pay attention and closely monitor key drivers of performance. To improve the current lack of effective management systems, board members must create better tools to monitor and measure performance, and they have to set specific performance targets, both financial and non-financial.

And, perhaps most importantly--and as a means of sending a clear signal to their senior leadership--boards must tie compensation to key success factors, not just financial results.

Consider the results of one highly visible test of corporate success. More than 20 percent of the 1999 Global Fortune 500 were no longer on the list in 2004. That's a significant shift--and a cautionary tale for corporate governors, and one that their chief executives should not ignore.

It's exhilarating to watch a company spread its wings and take flight. It's even more gratifying when that flight is well planned and well executed, incorporating all of the principles required to build market prominence. When guided by strong ethics and robust governance, companies that focus on all key drivers of success are more likely to fly right, across every dimension, including the bottom line. We've seen some terrific examples of companies executing flawlessly. They're the ones to watch as we try to maintain that lofty elevation year after year.

William G. Parrett is CEO of Deloitte Touche Tohmatsu.