Select Committee on Treasury Minutes of Evidence

Examination of Witnesses (Questions 60-79)



  60. Can you be quite happy with somebody with 20, maybe, if they were able to handle it?
  (Mr Groom) I take your point, but I do not think you can put a numerical thing on it. In recent years, I have been involved in non-executive directorships in the SME sector, and it depends what you are doing, and I am sure it is true with a major company as well. In some of the things that I have done in the past I have had a very heavy involvement, and therefore to be taking on 20 would be quite ridiculous.

  61. But, back to Mr Wyman's point, this is all about perception, in your eyes, and the perception of the public, when they see somebody with 20 or 30 or 40 directorships, they say, "How can they possibly do the business and satisfy themselves, satisfy the company and satisfy the shareholders?" And until you come up with an answer on that for us then I think the perception problem is still going to be relevant?
  (Mr Wyman) I think the answer, if I may, is not a number, because the risk is not that we say, "Well, 20 is too many," we may say that three or four is okay, but if the person cannot devote the time that is necessary to those three or four we still have not cracked the problem. So I think it should be a requirement of any non-executive director to be able to demonstrate how they are going to devote sufficient time to the role that they have got. And it does vary, as Michael says, it varies enormously, on the complexity of the company, whether you are just on the board, whether you are on a couple of the committees, whether it is operating around the world and you need to go and visit round the world; the time commitment per company is very, very different. So, it is demonstrate that the role that you have got, within the company you have got, is one you have got the time for, I think, is the approach we should look for.
  (Mr Bishop) Research does show that, to give you a number, which you wanted, John, the average number of days individual non-executive directors spend is 26 per year, between 20 and 26, and if you say, "Well, do they work weekends, or not?" it is probably ten; but it is up to the person or the organisation taking them on to determine, that is Peter's point, whether they have got the time to spend and do what they want. And it is perhaps that what we should have is more formal procedures for appraising their performance, them having specific objectives and then their performance being appraised, are they actually adding value to the organisation, or are they just sitting there, doing nothing.
  (Mr Epsley) That is one of the key things, that CIMA have said, in a code of best practice, they have got to be vigilant and they have got to work hard, they have got to be prepared to question; and, getting the information, it is not just going to end up on the table when you walk in the door at the board meeting, you have to be vigilant, you have to be proactive, and proactivity then comes back to the ability to spend the time within the company. And, whether it is three or whether it is ten, that is going to depend upon the person's circumstances at that time in their work cycle; someone young, it may be only one, for someone getting to the more twilight of their years, it could be ten, we do not know. It is quality and code of best practice that is important, not numbers or rules, because the moment you move back to that, rather than the principles of vigilance, there are problems. And the OECD brings out four very clear guidelines on that.

Mr Plaskitt

  62. You are asking for more people, of higher quality, to spend more time, and how realistic is this? You are going for a people-based answer. I keep bringing you back, are there not structural things you need to put in place, because otherwise you are looking for something which probably is not there?
  (Mr Mallett) Part of the support we are looking for, if we had a code of best practice, would be to try to look for areas where we could improve, if you like, the benchmark that non-execs are striving for.


  63. So there is work to be done on that?
  (Mr Mallett) Yes.

  64. Can I just put one, which I meant to ask. Full-time executives, is it desirable for a full-time executive to have a multiplicity of non-executive appointments in other companies?
  (Mr Wyman) My personal view would be that, by definition, a multiplicity would be very—

  65. Well, more than one, (since you put the numbers the last time).
  (Mr Wyman) The answer is, no, to the question as asked; but is it desirable for some executive directors on any board to have current experience of other boards, I would say the answer is, yes, provided they are able to devote the time to the two jobs, the executive job and the non-executive job.

  66. So it is a limited number?
  (Mr Wyman) Yes.
  (Mr Adams) Would you draw a big difference between a full-time director of a public company serving as a non-executive on another public company, and that director being, let us say, a member of a quango, because of his, or her, experience; or, in my case, as Technical Director of ACCA, I have just been appointed to the Board of the Global Reporting Initiative, which is looking at sustainability reporting, and that will require my leaving my job probably 12 days a year to contribute to this. Now that is in a non-profit-making context. But I think directors, full-time executives, give up time for various reasons.

  67. I am going to hand on to Andrew, but I think you have missed the point, because we are looking at the role of non-executives, and the role they play in alerting the board and others if anything has gone wrong with the company?
  (Mr Adams) Your question was, should a full-time executive go off and do that elsewhere, and, I think, in common with my colleagues along here, the answer is, I think there is probably a valuable aspect to that, and it brings in new experiences and refreshes the organisation.
  (Mr Bishop) Not only that, there is a very big demand for high-quality people in full-time executive roles to carry out the role of non-exec., because they are the people who are up to speed with the business issues and the technical issues, and they ask the difficult questions.

  68. We have had submissions from some very experienced people who take different views from you, so that is interesting, to help us along with the inquiry; but there seems to be unanimity from yourselves on that issue?
  (Mr Groom) I think, where we are not very clear is on the platforms that it should be limited and it should not damage the main role in either camp, whether it is executive or non-executive.
  (Mr Adams) And it would be very helpful for financial institutions to take a view and express their view; if they feel that the spread of NED activities is too great, they should be expressing that view to the board.

  69. It is like a definition of "reasonable" in law, very hard; so we are looking really for more precision from you?
  (Mr Epsley) I was just going to say, on that issue, this is where the code of best practice is there, that if there is a true selection process by stakeholders, and we have also suggested that the FSA get involved in this, it would be up to them to determine, in that particular circumstance, if a full-time chief executive officer did have the resources, the time and the knowledge that was expedient in that company. So I think you cannot just make a broad brush stroke that no chief executive officer, full-time, can be a non-executive director, I think you have to look once again at the principles, rather than just ticking boxes and making rules, "No, that's out, that's out; yes, in." Thank you, Mr Chairman.

Mr Tyrie

  70. It seems to me that the cross-fertilisation, which comes from a limited amount of multi-board directorships, is an absolutely essential feature of the health of our system in the UK. I say that in parenthesis. My question is on non-executive directorships, it is a two-part question. The first part is, to what degree do you think non-executive directors should be personally liable for what may turn out to be negligence on their part?
  (Mr Groom) I am very clear, they should be liable. I do not know whether my colleagues agree.
  (Mr Epsley) I support that. I would say that we do not want to create within the unitary board system different types of directors, holding different types of responsibilities; they are collective, as a board of directors, and they fall or rise by that particular position.

  71. You see, earlier on, you were saying, I think, rightly, what we want, and James summed it up very well when he said we want more people spending more time and you want them to be better people; these are people who are doing other things at the same time, by definition, they are non-executive, they are not full-time executives. We want the best we can find, but the best do not want to find themselves carrying huge responsibilities, if they take on non-executive directorships, where the downside risk is total, total loss of reputation, possibly getting sued for a greater part of what they have earned previously in their full-time occupation, and where the upside is relatively small, 20,000 or 30,000 a year on a non-executive directorship: why do it?
  (Mr Groom) We support, and have for many years, a concept of proportional liability, whereby, if there is a failure in a company, the courts are able to apportion where the blame should lie; and, quite clearly, in the case of a non-executive director, in my view, he should have responsibility, if he has been negligent. But if there is proportional liability, that is something that would ameliorate, to some extent, the point you are making, and the director would then be able to take into account, "Am I prepared to take that risk, or am I not?"

  72. Is it not the case that, out there, in the market, among non-executive directors at the moment, the point that I have raised is one that is increasingly salient, and that non-executive directors, and would-be non-executive directors, are probably already being lost, because they are too concerned to take on these responsibilities because of the personal liability that may entail?
  (Mr Bishop) I do not think they are being lost, I think they take on a different role, they take on a role as an adviser on a particular aspect of the organisation's business; and in those circumstances there is danger of them becoming a shadow director and acting in a quasi-director role.
  (Mr Wyman) You are entirely right, if I may just say; a number of people who either are or would have expected to become non-executive directors have said to me, in the past three months, "In the light of everything that has happened, the reputational risk"—I do not think it is a liability risk, I think it is a reputational risk—"is simply not worth it, and I will find other ways of earning a living that don't bring that risk."

  73. Have we not got a very big problem here?
  (Mr Wyman) Yes.

  74. What are we going to do about it; you have suggested proportionality, and I have not thought about it but are there other takers for proportionality, and is that a feasible and workable system?
  (Mr Adams) We have always supported proportionality, from the perspective of auditor liability; certainly, that there needs to be an assessment of fault.
  (Mr Wyman) But I have always been told it is not feasible to introduce it, by the lawyer, but that is one point; but the other point is, it does not deal with reputational risk. I think we can do two things to alleviate the position, and it is a risk/reward situation. I think we can increase the number of days that non-executive directors are expected to spend, and I know that will create its own problem, but, at the same time, that puts them in a position to do the job that they are there to do; and then, secondly, clearly, that may require the remuneration to match the greater amount of time that they spend. And, I think, if you do those two things, you may well find that the risk/reward ratio gets back into perspective. They are only liable if they are negligent, and they should be able to do a good job. I do not think we have created a system where, by definition, it is impossible to be effective as a non-executive director.

  75. We are not going to solve the problems, here, now, but we have raised the liability issue, we have raised the reputational issue, both of which I wanted to put into the public record today, but we are still left with a serious problem, that could turn into a crisis, if we are not careful, the loss of large numbers of otherwise able non-executive directors, which I would have thought is extremely concerning. You have mentioned improve the remuneration; of course, some non-executive directors, one way or another, have a financial interest in the performance of the firm, through options, or some other scheme. What view do people take on the growth of the consequential moral hazard problem?
  (Mr Wyman) I think there is a huge problem for both executive and non-executive directors, and the Auditing Practices Board published a paper, a few months ago, on Aggressive Earnings Management, pointing out that, if directors had huge financial incentive for short-term financial performance of a company, it is very difficult to expect them to be entirely objective in forming their judgements. I think it is a big issue, and I think it needs to be looked at. As far as non-executive directors are concerned, I think there is a fundamental problem with non-executive directors holding options in companies, if they are short-term options, and I think we need to look at that, because, again, if their financial interest is too dependent on short-term performance they lose the independence that they are supposed to have.

  76. Have other people got answers?
  (Mr Bishop) There is a different view, but it is not necessarily mine, or our organisation's, that in the US a lot of non-execs are paid in shares, but there is, in this country, an obligation, under the Combined Code, to see that they are financially independent of the company and that they do not have close relationships with the company, or they have not been employed by the company, to be deemed independent; and PIRC have a view on this, as have Hermes and others. But it does come down to, there is a moral hazard, it is significant, and one of the reasons for the creation of audit committees was, if you like, to ring-fence and put a buffer between the auditor and the finance director, who was rewarded by short-term measures of performance, by stock options, and so on. And this is why the role of the non-executive, sitting in that audit committee, is now much more important, and their position should be enhanced.
  (Mr Adams) We have talked about some of this. I do think though that the further we go down the route of creating an independence code for non-executives, in the same way as we have an independence code for financial statement auditors, the more we take up some of the points I made earlier about lead non-executives, and so on. We are then getting back really to the role of the non-executive; is it to act as a watchdog and a police person on behalf of the external shareholders, or is it to add insight and wisdom and creativity to what the company does, to enable the company to add value. And the more one goes down the route of isolating the non-executive, putting them in a box, giving them powers to demand information, etc., I think one has to find that balance there, because, as far as I understand it, the role of the non-executive, ideally, would face in both directions, towards adding value to the company, on behalf of the shareholders, and I am not sure that you can do that by instituting very—

Mr Beard

  77. Could I ask just one question on what was said there, the audit committee, do they really work?
  (Mr Adams) I feel, and I think we have said in our submission, and I think that Peter, in the English Institute, said in their submission, there needs to be more transparency about the work of audit committees, and they need to be given a more public voice in what is going on. It is difficult from outside to know whether they do or do not work.

Mr Cousins

  78. To come to our friends from the Management Accountants, in your evidence to us, you do say that this code of best practice for non-executive directors should be prepared by the Financial Services Authority?
  (Mr Mallett) With a group of relevant stakeholders, yes.

  79. I think you would recognise that, if the Financial Services Authority, being a statutory body, were to have such a code, that would open up the possibility of civil legal challenge against non-executive directors for their performance against that code?
  (Mr Mallett) I think we saw it more in the kind of vogue of the Combined Code that is adopted by the listing authorities.


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