Editor: Corporations are driven in large part by the strategic plans they have in place. What role should the directors play in developing those plans?
Hill: Any action taken by a corporation should be made in conjunction with a strategic plan. This raises the question of what the board's role should be in developing that plan. The board needs to be fully engaged so that each member understands the strategic plan and the risks associated with it. Strategic plans are a constantly moving target, so the board needs to be engaged in their evaluation and revision on a regular basis.
It is important to note that boards of directors have different cultures. The way that a board is selected in terms of expertise often determines how much benefit they will bring to the process of strategic planning. Many boards focus on risk in terms of internal controls, however, an integrated risk management program also considers internal cultural implications and can be more effective. This can also help align the strategy with the organization's appetite for risk, minimize operational surprises and loses, and rationalize capital expenditures.
The board should be actively involved and should bring additional expertise. In most instances where I have been involved the board has brought on separate counsel and individual financial advisors to assist with the process. This is done to ensure an understanding of the transaction and that there are no conflicts. Boards take those precautions in large part because of their culture and their appetite for risk.
Briskman: Prior to joining CBS Iserved as general counsel for Aetna, which was one of the most beneficial experiences I have ever had because they take enterprise risk management and compliance very seriously. We went through an exercise of risk analysis and prioritization. As a result, the company's culture developed so that the board and operational people were able to identify the risks associated with particular actions. That process was beneficial in setting the right culture at Aetna.
This enterprise risk management drove the board's engagement in our strategic planning. For instance, we had a process in place where the board would examine the rate of return and internal capital costs associated with each proposed acquisition. The board was able to review the best, most likely and worst case scenarios. If the board approved a transaction, the proponents of the deal would sign off on the numbers. This created accountability from the beginning of the transaction. The board was then able to compare actual results with the proposed figures on a daily, monthly or yearly basis. With this accountability, strategic planning and compliance in place, the board is now in a better position to deal with risks as they arise.
Editor: How long did it take to develop this approach and get it engrained into the company's culture?
Briskman: It was in place at Aetna before I joined the company, but it became real in 2002 when the new CEO and Chairman endorsed it. They determined that it was an important function which they communicated down to every level of the organization. They also allocated the needed resources to the program.
This endorsement, or message from the top, began the process to have business units buy into compliance. In order to change their view of compliance officers as moles or traffic cops, the company situated the compliance function within each business unit. These people served as an early warning system. More importantly, since they were members of the business units, the other business people did not view them as intruders. They were seen as colleagues carrying out the chairman's directives. It became a company culture; not a mere corporate directive.
Editor: Should directors also be involved in the review of the strategic plans?
Hill: Absolutely. They need to do that on a regular basis. Many boards look to their directors as experts in particular areas. That allows us to ask questions and get feedback. Once we present our views, management decides on how to proceed. Boards need to be involved at these levels because there is too much at risk to just sit back.
Editor: What is the right level of involvement of directors in strategic planning and risk assessments?
Hill: Boards no longer have the luxury of deferring this role to a committee. The full board must be engaged in strategic planning, especially after the passage of Sarbanes-Oxley. My experience is that directors do not want to sit on boards where some members are more engaged than others because each director will have the same level of risk if things go wrong. Therefore, it makes sense for everyone to be engaged across the board.
Atkins: Each annual plan presented to the board has built in assumptions. For example, if a company expects to grow at a certain percentage that assumption is built into the plan. A disengaged board member will not be able to fully participate in that annual review because he will not know the underlying assumptions and will not be able to ask important questions if one of those targets is missed.
Briskman: I agree. In today's environment directors are being given a lot of information and expected to provide guidance in a short period of time. Some of these deals are very complex and directors need to be fully engaged to provide sound answers. Secondly, boards should have full-day strategic planning sessions to understand the assumptions underlying the strategic plans. That way they will understand how the business works and can make the necessary linkages. For instance, if the CEO approaches the board with a proposed acquisition, the board will have enough familiarity with the company's strategies to determine how this deal fits into the overall strategic plan. That process works because it gives the board comfort and knowledge. It makes the whole strategic planning process more efficient.
Editor: What training programs should companies have in place so that board members are able to participate in the strategic planning and make informed decisions?
Hill: Orientation for board members should involve spending time in each of the operational units. It is really important for directors to understand all aspects of the business. In addition, board members should participate in regular training. At Home Depot each board member is required to visit at least 12 stores each year and provide feedback on those visits. We also have functional visits where one or two directors spend at least a full day with one of the functional departments. This allows us to understand the company at a deeper level of operation. Companies should implement similar processes so directors can fully understand the constantly changing business environment. A board member who only sits through board meetings cannot be expected to have a meaningful understanding of an organization without this level of involvement.
Atkins: It is also important for directors to take time for self education. They are serving as stewards of the shareholders' investments. Therefore, they need to have an objective view of the operations to ensure that the best interest of the shareholders is always considered. As a director I always try to listen to the analyst calls of competitor CEOs and compare them with what our CEO does. This needs to be done with an informed, objective frame of reference so you can understand how the company's strategic plan measures against that of your competitors.
Editor: Delaware requires board directors to be significantly involved and not just acquiescing to what the CEO wants to do. Did you want to comment on that?
Hill: Boards need to be fully engaged and should not defer important board decisions to a committee or the CEO. If there is a committee making these decisions, other board members may not be involved to the level needed and will rely on their colleagues' recommendations. The current regulatory environment does not make it easy (or prudent) for you to completely defer to a committee important decisions.
Briskman: It depends on the board and company. One way to determine if a board is engaged is to see if it has rejected any proposals made by management. If a CEO makes a proposal and the board rejects it, that is evidence of a board that does not rubber stamp every deal.
Editor: What are boards doing to ensure consistency with the Federal Sentencing Guidelines?
Briskman: If a company needs to look at the Sentencing Guidelines in anticipation of a charge or sentence, that is an indication of some difficult times ahead. Alternatively, the recommendations made in the Guidelines can help ferret out problems and eliminate issues so that the company is not faced with a potential criminal charge. They have a prophylactic effect.
When the amendments were issued, management at Aetna recognized that the Board needed further involvement and training. To implement that, we required our board members to go through modular training which included compliance, antitrust and political contributions training. We also had our ethics department train directors in the same manner new employees are trained. Then we had an entire day on corporate governance and compliance training related to Sarbanes-Oxley. We wanted to comply and demonstrate that our efforts were real and effective and that the board was participating in setting the tone for compliance.
Editor: How important is process in setting a compliance program?
Briskman: The focus on process goes back to the Caremark case where the court determined that the board breached its duty of loyalty to the shareholders because it did not review a contract before approving a merger. The hindsight test that evolved is so tough that directors need to show that they substantively knew what they were doing and that there was a process in place so that the right safeguards and information were available to directors. Often times that process test is just as important as the substantive test.
Hill: At every board meeting we receive updates from our corporate governance committee and general counsel. This is important so that we are well informed and can spend the time necessary to deal with potential issues.
Briskman: There are limits to what can be achieved with enterprise risk management. For every potential deal there is a competitor willing to proceed without any reps, warranties or protections. Completing that deal on time is a high priority. At the same time, the risk profile may indicate that you should not complete the deal because the target company has ongoing asbestos liability which the board has determined you would never take on. In those instances you are faced with the difficult decision of going through with the deal or allowing the competitor to take it because of hesitation on your part.
Hill: When AK Steel acquired Armco the board's analysis indicated that Armco had issues with its pension plan. The board ultimately determined that we should move forward despite that risk because the deal was critical for our strategic plan.
Atkins: Boards need to provide sound business judgment in those cases and balance the competing interests. Where the deal is critical to the success of the business, the board should be willing to consider the deal despite the risk because not following through may give another party a competitive advantage.