10 reasons why corporate boards fail to monitor executives
This article is based on research by Ruth Aguilera
If something goes terribly wrong at a company, the board of directors is always the first to blame. Are boards ineffective and incompetent or are they simply performing a task they were never designed for?
Esade Visiting Professor Ruth Aguilera and her research colleagues have revealed the main reasons why boards of directors are highly ineffective at monitoring executives.
"There are many reasons why it is incredibly hard for boards to monitor company executives in the way we expect them to. We do not believe boards are naturally lazy, wicked or incompetent," says Aguilera. "The current structure of boards makes it almost impossible for even the most qualified and competent directors to monitor executives effectively."
Published in the Academy of Management Annals, the researchers analysed nearly 300 research studies that examined the effectiveness of board monitoring.
"Our conclusion is that it is unreasonable to expect boards to be effective at monitoring because there are simply too many barriers." In particular, they identify ten barriers that make board monitoring hard if not downright impossible.
10 barriers to effective monitoring
1. Firm size
Larger firms often have established policies and procedures that make it more challenging for boards of directors to offer meaningful advice or to advocate strategic change – mostly due to widespread information asymmetries.
2. Board size
The size of the board may create barriers that limit how effectively boards share and coordinate information among directors. As boards become larger, the costs of coordinating things as a group soar and it gets harder for directors to get to know one another well. They are less likely to forge trust and this hinders the board's ability to effectively fulfil its duties.
3. Firm complexity
When companies operate in multiple product and geographic markets, it is harder for boards to monitor executives effectively – once again due to the cost of accessing and processing that information. Directors of highly complex firms are faced with a higher cognitive load, which makes it much harder for them to fully grasp how the firm works and all of its activities.
4. Meeting frequency
Most boards meet less than once a month. Directors who only meet a few times per year are unlikely to work as strong team and to trust one another. As a result, corporate boards that meet seldom will find it harder to keep a tight watch over managers.
Powerful CEOs are also more likely to appoint directors of their choice
5. CEO power
CEOs are often barriers to effective monitoring given the influence they wield over the agenda and the procedures of board meetings. Powerful CEOs are also more likely to appoint directors of their choice and exert influence on the actions of the board. This barrier makes it harder for boards of directors to monitor executives effectively.
6. Diversity of directors
Diversity is key to boosting a firm's reputation and performance. Although most firms are trying to make their boards more diverse, this comes at a price: Groups that are diverse take longer to make decisions, forge trust more slowly and may also fall prey to common decision biases.
Groups that are diverse take longer to make decisions
7. Outside job demands
Top managers and directors are busy professionals with many competing demands for their attention. Corporate boards filled with directors whose time is taken up by multiple outside directorships are less capable of effectively fulfilling their roles and overseeing executives.
8. Norms of deference
There is a common unwritten rule that a director should defer to the CEO about what items should be discussed at meetings. These unwritten rules make it very difficult to monitor executives without making a bad impression on other directors.
9. Complexity of job demands
Research has shown that it is more challenging for managers to oversee highly diversified teams. Firms that are highly diversified require greater levels of information processing from their managers and directors, which can limit a director's ability to fulfil his or her monitoring role.
10. Similarity of outside job demands
If a director's job experience closely bears on the sector in which the firm operates, it will be easier for him or her to grasp what makes the company tick. Corporate boards, however, often have directors with little or no experience in the same industry, which makes it harder to monitor executives.
The findings suggest that perhaps scholars have focused on the wrong questions: "If boards are designed to fail and cannot monitor effectively, it does not mean they are worthless. We may just need to change our thinking about what we can reasonably expect boards to do well," says Aguilera.
Directors' main tasks are to proffer advice, bring resources and monitor management (this last task includes hiring and firing the CEO).
It seems that these three tasks are not necessarily complementary in terms of attention and skills. Should we have different or specialised directors whose role is simply to assess management and monitor its decisions? Is this something that should be built into codes of good governance? Should we change corporate charters to empower directors?