The Combined Code on Corporate Governance: Composition and
structure of a board
This article is based on UK law.
The Code states that:
“The board should include a balance of
executive and non-executive directors (and in particular
independent non-executive directors) such that no individual or
small group of individuals can dominate the board’s
decision-taking” – main principle A.3.
The provisions supporting this say that at least half the board,
not counting the chairman, should be independent non-executive
directors. This means that a board of nine needs to have at least
four independent non-executives to balance four executive
directors, with the chairman being the ninth director. A board of
eight that wants to comply with this guidance needs to have four
independent non-executives, matching three executives and the
chairman.
An exception is made for a “smaller company”, defined as a
company outside the FTSE 350 for the whole of the year before the
year being reported on. Those smaller companies are urged to have
at least two independent non-executive directors. (Indeed, they
will need two if they are to comply with the Code’s requirements
for board committees – see our OUT-LAW guide The Combined Code on Corporate Governance: Board
committees.)
Again, these principles and provisions are for guidance only: a
company is free to explain why it believes such numbers of
independent non-executives are excessive or not right for its own
particular circumstances.
The Code clearly gives a strong role to the non-executives. They
should meet regularly, as a body, with the chairman, but without
the executive directors; and at least once a year they should meet
on their own under the leadership of the senior independent
director (see below) to appraise the chairman’s performance. They
may outnumber their executive colleagues, whom they are expected
“to constructively challenge”.
If the executive directors are interested in any matter that
goes to the board, the non-executives may effectively be left in
control. This situation is increasingly seen where a bid for the
company is received from the management team, or from a private
equity group with management involvement. The executives can play
no part in the decision and it will be for the independent
directors to decide alone whether to recommend the bid to
shareholders.
What does all this mean for the structure of the board? Does it
effectively create two tiers? The Code is keen to stress that it
still believes in the unitary board. The non-executives are not
meant to comprise a separate supervisory body on, for example, the
German model. Executive and non-executive, independent and chairman
are all members of the single decision-making board at the heart of
a UK company.
The senior independent director
Where independent non-executive directors do sit on the board,
one of them should be chosen as senior independent director. This
creates an alternative point of contact for major shareholders who
may have made little headway in discussions with the chairman,
chief executive or finance director – or who may have concerns
about the performance of such individuals. The senior independent
director also takes the lead in annual appraisals of the
chairman.
The post caused some controversy when first proposed by Higgs.
It was argued that shareholders would be confused: should they talk
to the chairman or the senior independent? And was there not a risk
that, if they talked to both, different messages would be given –
or a different spin given to the same facts? Also, chairmen saw the
senior independents as muscling in on their patch. In practice,
however, few problems have arisen. As long as care is taken over
their selection, there seems no reason why the senior independent
should not enjoy a good working relationship with the chairman.
