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8. When things go wrong

Boardroom Best Practice

In this chapter

Executive Summary

  • The board must remain in charge and provide the lead, not the advisors.
  • Response should always be rapid and proportionate and guided by the principle of full disclosure, regardless of short-term considerations.
  • To be prepared for the assault of the unhappy shareholder, boards must be their own fiercest critic, think the unthinkable and take the message seriously (it is free advice).
  • Litigation risks are real. All directors must approach their task responsibly, taking independent advice and giving adequate time and consideration to the issues. Such an approach will discharge their responsibility.
  • Always ensure that comprehensive directors’ and officers’ (D&O) liability insurance is available.

8.1 Crisis management

That crises will occur is inevitable and boards should be prepared to deal with them. However, the more successful the company, the harder it is to generate enthusiasm for crisis planning.

The best planning is specific and related to identifiable risks, even if it turns out that the actual crisis is unrelated to anything seen on the risk register. Advance planning should be led by the risk committee, if one exists. If not, either the appropriate board entity should take the lead, for example the audit committee, or the lead should be given by the full board.

Applying the principle of making your friends before you need them, the best advice is to build good political and regulatory connections in your most important markets. Take care however that political links are non-partisan and encompass all political interests likely to be relevant not just now but in the future.

Response should be rapid and proportionate. The speed and quality of response in the first few hours/days of a crisis will have a lasting impact.The board must lead the agenda; don’t leave it to advisors, government or the press. First-class advisors are important and boards should never be embarrassed about taking and paying for the best advice. However, having advisors does not relieve the board of responsibility for its decisions. The board should remain in charge at all times.

Behaviour in a crisis

  • First establish whether this is a crisis of character or competence. That will dictate what you say and how you
    say it
  • Your response should be transparent and truthful. If you don’t yet know the truth, say so and don’t speculate
  • Take action as soon as possible; any delay will be seen in a negative light
  • First reactions will have long-term consequences; listen to external voices but make your own choices
  • Which of your managers have the temperament and skill to deal with specific crises? These will not necessarily be the man or woman at the top
  • Never declare victory; it is for opinion outside the company to decide whether the crisis is over
  • Remember that a company can be made great through the way it responds to a crisis.

8.2 Shareholder activism

Shareholder activism can be divided into two broad categories, the active investor and the shareholder activist.

Thus, at one end of the spectrum are institutional shareholders, often with a long-term holding strategy. Their interventions will most often be challenging yet supportive. Nevertheless, there have been occasions when institutional investors have been responsible for unseating incumbent CEOs, most often in the context of pressing for a more rapid implementation of existing strategy.

The reason for this development is simply that with a market increasingly comprising indexed funds, these funds do not have the opportunity to sell the shares — they must remain holders and therefore require a level of engagement and influence on management to protect their interests.

At the other end of the spectrum are the so-called “activist investors” who take opportunistic positions in existing companies, having identified unrealised value resulting from a poor strategy or suboptimal management. Again, these investors have appeared because they are chasing yield in a low interest rate environment — one that has prevailed for at least a decade.

Boards should assume that most shareholders of any size occupy a position somewhere on this spectrum. The issues that attract the attention of activists may be a combination of unambitious strategy, an under-geared balance sheet and long-tenured management.

The board should therefore bear in mind the following advice:

  • Be your own fiercest critic. Anticipate the case that might be made against you, keep all your options constantly under review and prepare your response.
  • Think the unthinkable. How does the incumbent contemplate the kind of disruption that the objective, dispassionate outsider can envisage as necessary?
  • The board needs to disengage from its emotional investment in the status quo and the current strategy in order to match the objectivity of the analytically driven activist.
  • When approached by an investor-turned-activist, take what they say seriously. They will have done their homework. It is free advice.
  • Increasingly, the focus of attention will be the board itself — its leadership, composition and effectiveness.
  • Be open-minded when confronted with a demand for board representation. Each request should be considered on its merits. The board’s response should be framed by the investor’s attitude to the long-term health of the business.

8.3 The human dimension

Directors must be prepared to experience some tension and to manage the way in which they question the executives and interact with fellow directors. Things cannot always go well, for example, when their personal relationship with colleagues and/or the chairman has fractured or their role and the way they discharge it is in question.

In this instance, the director should consider the true nature of the problem. Is it a matter of personal relationships and is the situation recoverable? More importantly, is the breakdown so severe that the director’s contribution is now ineffectual or negative?

If the director finds him or herself out of step with the board’s ethos and modus operandi, then an honest conversation with the chairman or senior independent director is essential. Preserving the collaborative spirit of the board is important, but the value of the grain of sand in the oyster should not be lost.

8.4 Liability

Directors’ liability used to be a significant consideration for those proposing to join a board. When meetings were infrequent and the asymmetry of information was acute, this was a legitimate worry.

In these days of more frequent meetings, enhanced professionalism at board level and greater levels of commitment and involvement, these worries have receded somewhat. Add to this the increased due diligence undertaken by directors before joining a board and one might assume the issue has gone away.

On the contrary: the increasing availability of legal remedy to shareholders through class or derivative actions, allied to a high level of public scrutiny and expectation, means that litigation risks are real.

8.5 Legal consequences

In all legal systems, directors are expected to execute their duties in good faith and with due diligence, at least to a standard expected of a person with their particular experience. It is sometimes said that if directors meet these expectations, then they need not worry about legal liability. In other words, directors are allowed to be wrong, but not reckless or negligent. Provided their opinions are properly thought through, honestly held and expressed, then the director’s duty is normally considered to have been discharged.

This does not prevent a director or a board facing legal action from shareholders and others seeking to prove negligence. Legal actions of this kind, often originating with investors hoping to replicate a US-style of jurisprudence, have recently been made easier by developments at both European and national levels.

Potential directors should be alert to the risks, but not alarmed. Approaching the director’s task responsibly — by devoting adequate time and giving all issues full attention — is the best defence.

8.6 D&O insurance

Proper behaviour will ultimately defeat a legal assault, but what happens in the meantime? Defending actions brought against directors will be an expensive and troubling business. The provision of directors’ and officers’ (D&O) liability insurance, paid for by the company, is of real comfort here — and directors should always insist on it.

This will ensure, at a minimum, the payment of all legal expenses and fees incurred in defending an action. The responsible director should have little to fear if a good D&O policy is in place.