A new kind of captured board: what we should be worrying about: the 'management knowledge-captured board.'.

• Author: Mule, Ann C.
• Position: DIRECTOR EVALUATION

It MAY SEEM OVERLY OBVIOUS, but we will say it anyway. Boards of directors need people who know what they are doing. They also need people who have the objectivity to then follow through and make the best decisions for shareholders. What boards need are industry-expert independent directors.

We believe, as longtime governance advisors, that this issue is critically important. It is essential that most publicly traded U.S. companies have one or more independent directors with industry expertise represented on the board. Recent academic studies, Delaware litigation, and activist shareholder campaigns--and reason--support this view.

Good-governance advocates have long sought to dismantle the "management-captured board," in part, by stressing the importance of board independence. Sarbanes-Oxley, Dodd-Frank, and the stock exchange corporate governance listing standards have largely codified an intensified board independence regime for public companies. The underlying belief was that board independence would strengthen a board's ability to challenge management as appropriate from both a board monitoring and advising perspective. As a result, when seeking to Fill a board seat many U. S. boards have searched for director candidates who are current or former CEOs or other C-suite executives who were "independent" without regard as to whether or not that individual was knowledgeable about the company's business or industry.

Consequently, some boards are now comprised of all independent outside directors--none of whom possess industry expertise--and an inside CEO who is the only director with industry expertise. In our view, this situation presents a real danger of another type of management-capturcd board: the "management knowledge-captured board." In this situation, the independent board members may be inadvertently and unknowingly de facto deferring to the CEO, particularly as to decisions that require a deep knowledge of the industry or industry risk.

Attribute most in demand

Directors and governance commentators are beginning to focus on this issue. A recent survey by PwC and a joint survey by Deloitte and the Society of Corporate Secretaries & Governance Professionals found that the most sought after new director attribute is industry expertise. Simon Lorne, former general counsel at the U. S. 'Securities and Exchange Commission, discussed in DIRECTORS & BOARDS last year the importance of director industry expertise and whether the focus...