Recently, there has been a lot of discussion centered on what board structures should look like with respect to the number and types of committees. As today’s boards strive to oversee new risks and improve responsiveness, such questions abound: Have increased cyber risk threats prompted the need for a risk committee? Does it make sense to have an executive committee to conduct business for the board between full board meetings?
There are others who question whether the three standard board committees of audit, compensation and nominating/governance can be reduced to two by merging nom/gov and compensation. These questions are fair to ask, and they also reflect some moving parts within the conventional board committee wisdom. First let’s establish some facts and assumptions about corporate board committees.
Corporate law empowers boards to establish board committees and to delegate certain responsibilities to them. The committees and their duties are set forth in the bylaws or established by board resolution and subsequently published in a committee charter that is available to shareholders. Common law rule also allows for specified board approvals through these committees, although certain matters cannot be delegated to committees where a resolution of the entire board is appropriate.
Typical examples of those situations are matters involving shareholder action, any amendment to the bylaws of the corporation, or the declaration of dividends. In addition to common laws, there are stock exchange listing requirements and SEC regulations that guide audit, compensation and nominating committee requirements. However, as we shall confirm, many companies have gotten creative on how they structure those required committee duties.
Assumptions are exactly that: someone’s belief, without proof, of what has occurred. But they are important as we dig deeper into the philosophy and value of board committees.
One important observation is that most of the “heavy lifting” of a board’s duties is now done in the committees. There was a time when most thought that the only truly tasked committee was the audit committee. Sarbanes-Oxley and stock exchange listing requirements further emphasized those audit and risk responsibilities. Then, the introduction of Say on Pay, along with the responsibility to disclose compensation risk, mandated a more sophisticated and structured compensation committee agenda.
As many of us have seen over the last 10-plus years, added investor oversight and media infatuation with CEO annual payouts have hyped executive compensation to an entertainment art form. Interestingly, the complex nature and scrutiny of the compensation committee has prompted a light-hearted debate among directors about which committee is more challenging to serve. Some will claim, “The compensation committee is the new audit committee.”
The nom/gov committee was traditionally thought of as the ugly stepchild, exemplified by a much lower committee chair fee and a lack of appreciation for how important board composition and CEO succession was to investors. Institutional shareholders have made it extremely clear that their No. 1 concern in 2017 is board composition, and many have stated that they expect boards to respond with effective board evaluations and serious efforts to build diversity of thought, gender, age, ethnicity and skill sets into public company boards. Watch for nom/gov committee chair fees to grow closer to other major committees in coming years.
I can remember some interesting debates when I chaired Corporate Board Member’s Academic Council, where corporate governance-savvy professors would make the argument that you can’t form a committee every time the board feels the need to focus on a particular corporate challenge. They weren’t speaking about special committees, which are not permanent, but formed to oversee a critical transaction like a merger, acquisition, or an internal investigation around fraud or an SEC investigative inquiry. At the time, they were referencing proposed committees like a technology or strategy committee. Their point, which is still relevant, was to make sure it warrants permanent committee status and that you have enough board members to fill extra committees, especially if it requires only independent directors.
Sentiment around the role of committees seems much different today. Companies and boards are much more open to considering “unconventional” board committees that address critical issues for different industries. The Dodd-Frank Act certainly gave credence to new committees when it required financial institutions to have a risk committee. Many people thought that, with the added risk of cyber attacks, all companies should consider risk committees so that audit committee agendas (which were often already overwhelmed) could focus on financial reporting-type issues, and a risk committee could address other risks like cyber, compensation or reputational risk. The debate about the merits of a risk committee continue, but nothing has slowed the consideration of new board committees.
Today, it is tough to keep track of all the new board committees that have been formed at public companies. According to Equilar data on the Russell 3000 companies, there are over 800 registered board committees with names other than the standard audit, compensation or nom/gov. Some of those are just popular iterations of the core committee names like Audit, Compliance & Enterprise Risk Committee or Compensation & Management Development Committee, but many of them are new committees addressing what the board feels are important issues that their industry and company should be focused on. Examples include Airline Safety Committee; Clinical Quality Committee; Environmental, Safety & Sustainability Committee; and Technology & Innovation Committee (just to name a few). Outside of the more recent discussions about Risk or ESG committees, it seems like the most popular formal committee formations are the finance, strategy or executive committees.
The proliferation of the Executive Committee is interesting in that it receives authority from the full board to make decisions or perform routine functions between board meetings. The Executive Committee often includes the CEO, board members and possibly other senior officers, and it allows companies to respond more quickly to certain operating challenges with board input and support. Executive committees are common in the financial services industry and seem to be gaining favor in other industries as well.
Let’s not forget that all committees ultimately report to the full board, either for confirmation or approval. At the same time, the bottom line is that there should be no reason a board can’t structure itself in whatever permitted form is best suited to meet the challenges and needs of that company, provided all regulatory and independence requirements are met.
TK Kerstetter is the CEO of Boardroom Resources LLC and is a second generation pioneer of governance thought leadership and board education. He can be reached at tkkerstetter@boardroomresources.com.