Seeing around corners: spotting problems before they become catastrophes is the special talent that directors have always needed, and will need even more so in the future.

• Author: Augustine, Norman R.

A few bad apples? Enron, Rite Aid, Waste Management, Sunbeam, WorldCom, ImClone, Xerox, Tyco, Adelphia, Global Crossing, Computer Associates, Cendant, Homestore, MicroStrategy....

The overwhelming majority of CEOs and directors whom I have known over the years have been competent, honorable, dedicated individuals--yet the growing list of troubled firms makes it increasingly difficult to argue that there is not a broad and even systemic problem affecting American business today.

Of particular concern is that the troubles of these and other firms, which go far beyond the consequences of normal business risks, have caused many individuals in other nations to question the fundamental premise of America's free enterprise system. Add to this the downward pressure on the stock market due to loss of investor confidence, the damaged reputations of CEOs and directors as a whole, and the impact on the personal lives of employees and investors, and one has the makings of a world-class crisis.

A question virtually every director in America is asking is, "Had I been serving on the board of one of these companies, would I have been smart enough to have seen this coming in time to have done something about it?" The truth is that there actually are not all that many arrows in a director's quiver--however, a few of those arrows have extremely sharp points. In fact, to a very considerable extent a director has but three principal lines of defense in protecting, as appropriate, the interests of shareholders, employees, customers, communities, and other stakeholders. First and foremost among these is the integrity of the senior management, especially the CEO--a person whom the board itself put in place. The second is the competence and diligence of the outside auditor--a firm which the board itself had the authority to put in place. And the third is the director's own knowledge and instincts.

But when the first two break down, the director had better have a superhuman ability to see around corners.

The proper approach

Importantly, there must be consequences for wrongdoing--if for no reason other than fairness to those who do ethically and legally manage their company's affairs, and to their shareholders. In cases where there is clear wrongdoing, the wrongdoers must be vigorously punished, but--and this is worth emphasizing--not their neighbors.

At Arthur Andersen, where a permissive attitude admittedly seemed to have pervaded much of the organization, it is still questionable whether the proper approach for the government was to attack the entire firm in a court of law or whether the purpose of good governance would have been better served to single out those specific individuals who broke the law and punish them--including sending them to jail, if appropriate. It is not at all clear that it has been beneficial to contribute to the destruction of an entire institution, including disrupting the careers and further contributing to the destruction of the savings of tens of thousands of employees, in the process of ferreting out a few or even a few handfuls of wrongdoers. An analogy would be to fire from their jobs every citizen in a city whose city council has been found with its hands in the till.

Some years ago, on the occasion of the 20th anniversary of Directors & Boards, I was honored to have been asked to write an article projecting likely trends in corporate governance in the years ahead ["The 20th Century Company Meets the 21st Century Board," Fall 1996]. Many of the predictions have actually proven to be true--but in the face of today's environment, they did not go far enough.

The past is prologue

I predicted, for example, that very few inside directors would be allowed to sit on boards; that directors' pension plans (remember them?) would realize their long-overdue demise; that meeting fees would be replaced with a simple retainer, augmented with some form of stock ownership; that board self-assessments would become commonplace; that staggered...