Thursday, October 3, 2013

Risk Averse Independent Directors

As I conduct workshops for directors I see that  the Companies Act 2013, has made independent directors jittery. In the garb of providing immunity, the Companies Act enhanced the accountability of independent directors and rightly so. If one takes up a responsibility, whether voluntarily or otherwise, he/she makes himself/herself accountable for his/her decisions. When an individual joins a Board he/she enters into an implicit contract with shareholders that he/she will act diligently to protect the interest of the company, meaning thereby that he/she will not be biased toward a particular group of shareholders. If, he/she fails in his/her commitment, he/she should be held responsible for the loss suffered by shareholders due to his/her negligence.
What is the expected impact of the new provisions of the Companies Act 2013 that hold an independent director responsible for the omissions and commissions by the company if it is established that the independent director could stop occurrence of those omissions or commissions had he/she acted diligently? Quite likely, extremely risk averse independent directors will stay away from Board membership. Some, who are not so risk averse will assume the role of policing the executive management and will be eager to record dissent to protect themselves from any liability that might arise in future. Those who have leadership qualities and who are able to devote time to the job shall act diligently.
Liabilities will arise for fraudulent activities of the company. No liability will arise if with hindsight it appears that a business decision should not have been taken. Therefore, independent directors should not get worried unnecessarily. Recording of dissent should be the last resort when the independent director believes that the proposal under consideration is blatantly wrong.
It is true that the role of the Board is to monitor the executive management. But in practice, independent directors role is to bring independent judgement in Board deliberations. Independent directors role is to encourage entrapreneurship in the company rather than bringing an additional layer of control that has the potential to damp the entrapreneurship spirit.
We create confusion when we consider executive directors as insiders and independent directors as outsiders. This divide within the Board is unfortunate. Transparency within the Board gets adversely affected with this divide. This also has dusfunctional affects becuse insiders become zealous to defend their decisions and outsiders examine decisions with the 'audit approach'. Board should work as a single unit. All Board members are insiders. Independent directors should appreciate that executive directors have better understanding of the business and the environment within which it operates. Executive directors should appreciate that thay cannot review their own decisions objectively and therefore, they are benfitted by the critical evaluation of their decisions by indpendent directors.
When questions, such as 'how close should I be with executive director and members of the top management' come from from indpendent directors we should accept that the divide real, at least in the mind of directors. The first task of everyone of us is to change this perception to improve corporate governance.

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