Three things directors must learn from a time of scandals

A board director’s job is getting more complex. But they need to maintain their own clear lines of sight into the businesses they oversee.

The market has seen corporate governance firmly back in the spotlight over the past year, and not in a way that makes comfortable reading for Australian directors.

Since the financial services royal commission, there has been a marked shift in views on corporate accountability for when something goes wrong; whereas previously damage could be cauterised at the senior executive or CEO level, increasingly shareholders and influential stakeholders expect the board to take ultimate responsibility.

Sometimes this can lead to unfair outcomes. Having an active board that constructively challenges management is no guarantee that there will not be a major failure, with its roots deep in the organisation, far away from the reach of non-executive directors.

This is especially the case in large, complex organisations where having a clear line of sight over tens of thousands of employees is practically impossible. This is made even more difficult by the regulatory complexity that Australian Securities and Investments Commission chair Joe Longo has spoken about, which not only hinders corporate compliance and watchdog enforcement but often crowds out boardroom discussion on productivity and innovation.

Equally, most directors understand that their job is not an easy one, nor should it be – to steward their organisations through increasingly choppy economic, social and technological waters. And this is at a time when the economic outlook remains volatile, societies are increasingly polarised, ideas and language are weaponised to advance agendas, and technology is equally spun as a panacea or, alternatively, an existential threat to our way of life.

There must be a rebalancing of public debate, though, to recognise that non-executive directors are by their very nature part-time and not working day to day in the businesses they oversee. This professional distance offers a unique perspective, and one that is enhanced by a portfolio of non-executive director roles that cross-pollinate learnings from different sectors.

What is clear is that directors must lead, acting in the best interests of their organisation, with shareholder value front of mind.

Sometimes this is misconstrued as suggesting that only shareholders matter, or as an apology for corporate misconduct.

Understand that a strong culture in one area of the business does not mean that there are not dangerous pockets elsewhere.

Nothing could be further from the truth. Directors can and must take a long-term view that recognises that shareholders are never the winners when corporate reputations are damaged due to poor outcomes for stakeholders – whether that be customers, employees or the communities in which they operate.

Standing back from the past year, there are at least three key themes for boards and directors.

First, tolerance for corporate misconduct is very low given many in the community are highly stressed, both financially and mentally. Directors need to be attuned to this, and require management teams to quickly address such issues, particularly where they are long-standing. As commissioner Kenneth Hayne implored, directors should not be afraid to say “fix this, and fix it now” rather than accept a management response that could be viewed as merely muddling through.

Avoid the temptation to try to message a way out of a crisis. Communication is always critical, but stakeholders – including the media – are very finely attuned to responses that hint at window dressing or avoid tackling the root cause of a problem. As The Australian Financial Review’s Chanticleer columnist Anthony Macdonald has observed, an organisation will often come unstuck due to the “S” or the “G” rather than the “E” in ESG.

Second, the dynamic between the board and the CEO must be one of mutual respect but also constructive challenge. As much was made clear in the landmark Australian Prudential Regulation Authority governance review into the Commonwealth Bank. While loyalty is an enviable quality in a personal setting, professionally, that loyalty must lie to the company rather than any individual, even an ostensibly high performing CEO.

The failure to have at least one suitable candidate able to step into the breach, even temporarily, in the case that a CEO leaves suddenly, exposes the company to too high a risk. Succession planning can’t be kicked down the road, or beholden to the individual preferences or life plans of incumbents. The board chair must play a critical role throughout.

Third, culture matters. Decisions that are made, or not made, are important cultural signals, particularly to employees. When those decisions are made or relate directly to the CEO or senior executive, the reverberations are deeper. Directors should avoid the temptation to defer to a CEO who has led a business with strong year-on-year growth or who is seen as a darling of the market.

“Trust but verify” must be the mantra for directors.

Build relationships throughout the organisation, not just with the senior executive who you will mostly deal with. Frontline workers and middle management will often have insights that reveal weaknesses in a strategy or that a material risk could be better managed. And understand that a strong culture in one area of the business does not mean that there are not dangerous pockets elsewhere.

None of this is to say that corporate governance in Australia is fundamentally flawed.

We continue to be ranked as one of the most robust and well-run economies. Indeed, the Australian Institute of Company Directors is often asked to speak to senior officials from governments in our region to learn from the Australian experience, and the AICD has more members than any other director institute in the world, demonstrating their commitment to ongoing development.

What is essential, though, is to continually learn, and to heed the warning, attributed to Mark Twain, that history doesn’t repeat itself, but it often rhymes.

This article first appeared in the AFR on 21 November 2024: Corporate governance issues: Three things directors must learn from a time of scandals