Raising the bar on governance: are boards up to the task? As corporate misdeeds have raised questions around the roles and responsibilities of directors, boards are indeed changing. Some argue that the change hasn't been significant enough or swift enough.

It was not that long ago that a seat on a corporate board was considered a plum assignment. Such a position brought stature and modest financial rewards without requiring much time, effort or personal risk. The activities of the board were not particularly transparent, and that seemed just fine to most people. Some observers would liken the state of affairs as similar to the popular Las Vegas adage: "What happens in the boardroom stays in the boardroom."

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Today, however, due to a spate of high-profile scandals and other publicized cases of corporate misdeeds, the governance bar has been raised, for both company executives and board members. Corporate governance has gone from an esoteric to a general-interest topic, from the back pages of legal journals to the front pages of major newspapers. And along with its rise to prominence, there's been no lack of questions about the board's responsibility and just what is happening in boardrooms.

Indeed, boards and senior executives are now being more closely scrutinized and held to heightened standards of performance and ethics. As The Wall Street Journal noted in a Jan. 4 article on the demise of Robert Nardelli as The Home Depot's CEO and chairman: "In the post-Enron world, CEOs have been forced to respond to a widening array of shareholder advocates, hedge funds, private equity deal-makers, legislators, regulators, attorneys general, nongovernmental organizations and countless others who want a say in how publicly traded companies manage their affairs."

Given that Nardelli left with a $210 million parachute--while the company's stock price had dropped during his tenure--it's no surprise that shareholders are asking tough questions, especially directed to the board.

Now, most boards do understand that they are empowered and chartered by shareholders to oversee and govern the enterprise. Most board members take seriously the need to be very well prepared and knowledgeable and to deliver on shareholder expectations. And most recognize the need to work harder and smarter to make sure that the CEO is on target to have an accurate understanding of strategy and financial health to determine that the risks faced by the enterprise are understood and to monitor how well they are being dealt with by management.

Yet despite this increased awareness and effort, many boards still find themselves saddled with old methods and ways. Some feel they are in the dark when it comes to getting high-quality information. Many are still buried in data, without the resources to make sense of it all or to zero in on the information that really matters.

Most individuals involved with corporate governance express concern about the current situation and know that major corporate reforms in governance are needed. That was the message at the 4th annual Changing the Game Forum sponsored by the Center for Corporate Excellence last November, where a group of more than 60 directors, executives, academics and advisors gathered to examine the state of affairs in business ethics and corporate governance.

As cited by the Center's report on the forum: "With no change on the majority of issues over the past year, improvement on the state of corporate governance is currently at a standstill."

Indeed, said Dan Sweeney, president of the Center for Corporate Excellence: "In spite of a rash of new laws, regulations, standards and even prosecutions, significant progress is still lacking. We surely have a long way to go. It is clear that new regulations and standards are necessary to deal with the misdeeds. But, it is also clear that new regulations are insufficient to solve the problem."

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Sweeney added that directors and senior executives must not simply conform to these newly-mandated requirements. They "must take the initiative to lead their corporations to new levels of ethical behavior and proactively set new standards for ethical conduct for the business community."

At another such public event, one director rhetorically asked: "Do shareholders really understand how hard it is to know what is really happening in the companies we oversee?" And yet another director coined the acronym "DINK" for "Data is Not Knowledge"--to describe the massive problems with data overload and the information deficit that directors regularly confront.

The Governance Challenge

For the most part, recognition of the need for improvement has not yet translated into swift, significant, broad changes in corporate governance practices. In fact, it typically takes a crisis to jolt an enterprise into making the most sweeping and substantial changes. Tyco International Ltd. provides an example. After its former CEO and CFO were accused of stealing more than $150 million from the company, Tyco's new leadership undertook one of the most extreme makeovers in the history of corporate governance (see sidebar on page 53).

Unfortunately, absent a crisis, companies often find it difficult to make big changes in governance processes and even more difficult to make changes in board make-up. Some may be waiting for the pendulum of increased accountability to swing back in the other direction. However, continuing pressure from regulators, institutional investors and the legal system suggests that that won't happen anytime soon.

"While a scandal or ethical crisis might make it easier to get alignment, commitment and resources for reforms, I don't advise waiting for a meltdown," says Tyco Senior Vice President for Corporate Governance Eric Pillmore. If boards and business leaders are to improve their effectiveness, satisfy regulators and restore trust with investors and the public, they need to make changes and adopt new practices in the governance arena sooner rather than later.

What follows are some observations and insights from the front lines of governance improvement on how to approach this challenge.

* Become more capable. In a phrase, the board should focus on being "decision-ready" and being a team with the capabilities and knowledge to evaluate or contribute to any decision quickly and effectively.

For example, whether a board is being asked to weigh in on decisions about HR policies, major IT investments or executive compensation, it needs directors who understand those issues in depth. That knowledge can be obtained through experience, education and training, by adding board members with the appropriate backgrounds or through specialized, outside assistance.

* Evaluate and critically assess. There's nothing like a little peer pressure to encourage people to toe the line. Fortunately, because major listing exchanges require or suggest that listing companies conduct board self-evaluations, it's possible to use a self-evaluation process to apply the "right" kind of peer pressure. These assessments, required by the New York Stock Exchange and strongly suggested by Nasdaq, must evaluate the board's performance as a whole, the performance of committees and the committee chairs, and, perhaps most importantly, the performance of individual directors.

The peer-oriented evaluation process requires board members to ask themselves and each other tough questions: Are they in tune with the organization, the marketplace, the company's challenges? When performed effectively, this evaluation can put constructive pressure on board members to create a culture where the silent or empty seat is no longer tolerated, and it is unacceptable to fail to make a contribution or add value.

* Become better informed and more knowledgeable. Relevant, accurate, timely and transparent information is essential for effective governance. Board members cannot be satisfied to rely only on the CEO for information. Instead, they must proactively seek out information they need to make informed decisions, tapping sources both inside and outside the company, especially when making assessments of executive performance.

* Strengthen board processes and structures. To help develop effective board processes and structures (such as subcommittees), it's helpful to take a fresh look at the responsibilities of the board. A simple and effective governance model categorizes the board's work into four areas:

Direction -- helping sort through strategic alternatives; contributing insight as the course gets set;

Navigation -- using metrics to gauge progress; monitoring risks and challenging key assumptions;

Execution -- evaluating, facilitating and supporting activities that create value; helping initiatives move from concept to results; and

Validation -- looking back, evaluating and reporting; comparing results to initial targets; learning from the past.

Keeping this four-part framework in mind when developing processes and organizing activities can help boards plan and execute their responsibilities more efficiently and effectively. The framework can also be applied as a common reference point to keep their efforts aligned. Management must be willing to work with the board to keep it engaged, prepared and ready to contribute as needed.

* Treat the board as a resource. The old view of a board as little more than a legal or regulatory necessity is not only outdated, it's outright wrong. A highly engaged, knowledgeable, capable board can be a tremendous asset. Some may worry about the blurring of the board's and management's roles, but the reality is that the board and management have always had overlapping spheres of influence, roles and responsibilities.

Clearly, directors are not supposed to substitute themselves for management. But being informed about operations does not mean that directors are usurping management's responsibilities. It means that they understand what is and should be happening for the organization to achieve its strategic objectives. The crucial point is that board members need to understand performance--which is not the same thing as managing performance.

What are investors looking for in boards? What are executives looking for in the boards that they report to? And what are the directors themselves looking for? More than ever, what all of these stakeholders want is to have the most appropriate people in the seats--people who bring integrity and ethics to the table, as well as knowledge, experience, and demonstrated capabilities. And they want directors who will ask, and get answers to, the tough questions.

In the long run, companies that can field boards with these qualities will have better opportunities to reap the benefits of improved business performance while maintaining investor confidence and public trust.

Lee Dittmar is a Principal with Deloitte Consulting LLP, a global professional services firm. Dittmar leads the Enterprise Governance practice, specializing in board effectiveness, integrated GRC & performance management and IT strategy. He can be reached at [e-mail].

RELATED ARTICLE: Extreme Corporate Governance Makeover at Tyco

In 2002, after former Tyco CEO Dennis Kozlowski and former CFO Mark Swartz were accused of stealing more than $150 million from the company (they were found guilty in June 2005), Tyco's new leadership undertook one of the most extreme makeovers in the history of corporate governance. Ed Breen became the new CEO in July 2002; in August, Eric Pillmore stepped into the newly-created position of senior vice president, Corporate Governance; and the entire board of directors was replaced by March 2003. What's more, nearly 300 members of the corporate team were let go.

This "cleaning house" was just the beginning of Tyco's efforts to establish a truly effective governance program. Since that time, Tyco has adopted--having actually developed--many leading governance practices.

Its many dramatic reforms include a corporate governance reporting structure in which four executives, including the CEO, report to the board or a board subcommittee; an independent corporate audit function; an ombudsman program in which an impartial dispute resolution professional reporting to the board's audit committee provides independent, confidential assistance to Tyco employees; the establishment of performance and integrity-related education and training; and the establishment of values and behavior-based performance reviews.

A key component of Tyco's efforts to improve its corporate governance practices is increased accountability and responsibility at the board level. For example, four executives are directly accountable to the board: the CEO, the senior vice president of corporate governance, the head of audit and the ombudsman.

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Another pervasive change at Tyco is an explicit emphasis on values and behaviors. "Our new leadership review process makes it real," says Eric Pill-more, who has led much of Tyco's ethical overhaul. "Tyco's performance review process emphasizes not only financial results but also the means by which results are achieved. This approach begins at the board and runs throughout the organization."

RELATED ARTICLE: TAKE AWAYS

** Corporate governance has gone from an esoteric to a general-interest topic. While directors were once largely ignored, questions are being raised about just what is happening in boardrooms and board responsibility.

** Recognition of the need for improvement has not yet translated into swift, significant change in governance practices, and it typically takes a crisis to force change.

** Steps that can be taken to improve boards include reviewing the board's work in four areas: direction (sorting strategic alternatives); navigation (gauging, monitoring, challenging); execution (concept to results) and validation (evaluating, comparing, learning).