The dictionary defines principle as a fundamental truth that serves as the foundation for a larger system of belief or behavior — a sturdy, versatile thing that, when used correctly, can address a wide range of issues. So it's welcome news that The IIA and the Neel Corporate Governance Center at the University of Tennessee in Knoxville have developed a set of Guiding Principles of Corporate Governance. After all, corporations have a lot of issues that need addressing.
Shareholders want better returns, even as they preach about long-term stability over short-term results. Regulators want compliance with standards for financial reporting, cybersecurity, business conduct, sanctions, and more. Consumers want low prices, prompt service, and environmentally friendly products, or else they'll flay the company on social media. Employees want a raise and a viable career path, or else they'll quit.
Those are a lot of constituencies and demands that corporations have to juggle somehow, with a heap of legal liability if boards steer the organization wrong. So, yes, sound principles of corporate governance are a vital tool for directors to have.
"It's not like you can read a book and then say, 'Oh yeah, I know exactly what my corporate governance should look like,'" says Steve Albrecht, a long-time business professor at Brigham Young University and elsewhere who has served on the boards of SkyWest Airlines, Cypress Semiconductor, and numerous other public and private companies over the years. He sees the governance principles as a mechanism to help boards hold themselves and their organizations accountable to the various objectives (financial, operational, legal, ethical) they might have.
Sure, companies also can be held accountable by law enforcement, activist investors, or social media campaigns — but if matters have reached that point, the board is already losing. "All those ways to hold corporations accountable are from the outside, except for corporate governance, which is from the inside," Albrecht says. "And they all have negative consequences except for corporate governance." In other words, good corporate governance is about an organization's self-discipline before outsiders decide to intervene.
What Governance Principles Entail
The Guiding Principles of Corporate Governance were developed to serve as a foundation for a new American Corporate Governance Index on U.S. publicly held companies released this month. The index is based on a survey of chief audit executives at an array of U.S.-listed companies, creating a scorecard for overall corporate governance quality in the U.S.
The Guiding Principles reflect a compendium of viewpoints on corporate governance from sources ranging from the National Association of Corporate Directors, New York Stock Exchange, and Organisation for Economic Co-operation and Development to the Business Roundtable, The Committee of Sponsoring Organizations of the Treadway Commission, and the King Commission. Read through the nine points of the Guiding Principles, and a few themes emerge.
First, these principles are meant to establish durable practices — the muscle memory directors can use to guide their thinking, as they confront one issue after another. For example, Principle 3 talks about identifying key stakeholders and soliciting their feedback to make sure the organization's policies meet stakeholders' expectations. That's a practice boards need to be able to perform whether they're deciding on share buyback plans versus new investment (What do shareholders want right now? What will keep us competitive in five years?) or resolving dilemmas about ethical sourcing (Will our reputation among consumers be worth higher supply chain costs?).
Or consider Principle 6, that boards oversee the corporate culture of the business, assess the integrity of senior management, and intervene when culture and objectives are misaligned. As we keep moving into a more transparent world, where everything is available for all observers to see and dissect all the time, the alignment of values among a corporation and its stakeholders will matter more.
It won't suffice simply to declare your ethical values and culture of integrity; even Enron did that. Organizations will need to demonstrate their embrace of those things in a visible way. The board bears ultimate responsibility for that, and Principle 6 reminds directors to keep that duty top of mind.
"There are a lot of things boards have to do," says Taylor Simonton, currently audit committee chair for Master Chemical Corp., Advanced Emissions Solutions, and Surna. "If they don't already have principles in place … some things can get missed."
Second, the principles also define how the board should govern itself. Principle 4, for example, lists eight criteria about directors' commitment of time, evaluation of performance, director education, meeting in executive session, and even compensation structure. Call all of that guidance about how a board can keep itself in trim and healthy shape, so it can execute all those duties mentioned above or in some of the other principles.
Putting the Principles to Work
OK, let's say the board has read the principles and likes what it sees. How would directors go about putting the principles to good use?
One idea is to review the board committee charters and assess how well they capture the spirit of the Guiding Principles. For example, the principles stress the importance of directors devoting sufficient time to their duties, meeting in executive session, and rotating directors as needed to ensure the right balance of institutional knowledge and new perspective. All good points. So how do the board's charters translate those points into specific requirements for attendance, training, meetings without the CEO present, or limits on committee tenure?
More broadly, the Guiding Principles also can help a board hone its thinking about what committees it should have (beyond those required by law). The principles stress the importance of identifying key stakeholders and monitoring key risks — but those things vary from one company to the next. So can the board articulate why it does or doesn't have, say, an IT risk committee, or a public policy committee?
Every board would like to say yes, it can; but the Guiding Principles make it much easier for a board to say, "We started by measuring ourselves against the principles, and reached these decisions, which explain why our board is structured the way it is."
Larry Harrington, former head of internal audit for Raytheon and a past chairman of the board of The IIA, sees the Guiding Principles as a maturity model. Boards can use the principles to plot their location on that model, and map out steps for improvement.
That idea of a maturity model raises an important point: A board must want to improve to take full advantage of the principles. Otherwise, the principles are just more window dressing, like Enron's fabulous code of conduct. "The folks who really need the guidance don't pay any attention to it, and the folks who generally do a good job use it as a barometer for 'What else can I do better?'" Harrington says. "Because they do want to do better."