Responsibility, Role, and Structure

Mention the phrase board of directors to the average investor, and they are likely to conjure up images of nicely dressed men and women standing around a mahogany table, smiling congenially. This is entirely understandable; many annual reports prominently feature glossy photographs of just such a scene. Now, ask the investor to describe the primary responsibility of the board of directors and very few will be able to give you a definitive answer.

Purpose, Authority and Responsibility of the Board of Directors

The primary responsibility of the board of directors is to protect the shareholders’ assets and ensure they receive a decent return on their investment. In some European countries, the sentiment is much different; many directors there feel that it is their primary responsibility to protect the employees of a company first, the shareholders second. In these social and political climates, corporate profitability takes a back seat the needs of workers.

The board of directors is the highest governing authority within the management structure at any publicly traded company. It is the board’s job to select, evaluate, and approve appropriate compensation for the company’s chief executive officer (CEO), evaluate the attractiveness of and pay dividends. recommend stock splits. oversee share repurchase programs. approve the company’s financial statements. and recommend or strongly discourage acquisitions and mergers.

Structure and Makeup of the Board of Directors

The board is made up of individual men and women (the directors) who are elected by the shareholders for multiple-year terms. Many companies operate on a rotating system so that only a fraction of the directors are up for election each year; this makes it much more difficult for a complete board change to take place due to a hostile takeover. In most cases, directors either, 1.) have a vested interest in the company, 2.) work in the upper management of the company, or 3.) are independent from the company but are known for their business abilities.

The number of directors can vary substantially between companies. Walt Disney, for example, has sixteen directors, each of whom are elected at the same time for one year terms. Tiffany & Company, on the other hand, has only eight directors on its board. In the United States, at least fifty percent of the directors must meet the requirements of independence, meaning they are not associated with or employed by the company. In theory, independent directors will not be subject to pressure, and therefore are more likely to act in the shareholders’ interests when those interests run counter to those of entrenched management.

In General Electric’s 2002 annual report, the issue of director independence was addressed: At the core of corporate governance, of course, is the role of the board in overseeing how management serves the long-term interests of share owners and other stakeholders. An active, informed, independent and involved board is essential for ensuring GE’s integrity, transparency and long-term strength. As a result of the 2002 changes, 11 of GE’s 17 directors are ‘independent’ under a strict definition, with a goal of two-thirds.

Committees on the Board of Directors

The board of directors responsibilities include the establishment of the audit and compensation committees. The audit committee is responsible for ensuring that the company’s financial statements and reports are accurate and use fair and reasonable estimates. The board members select, hire, and work with an outside auditing firm. The firm is the entity that actually does the auditing.

The compensation committee sets base compensation, stock option awards, and incentive bonuses for the company’s executives, including the CEO. In recent years, many board of directors have come under fire for allowing executives salaries to reach unjustifiably absurd levels.