Jersey: The Role Of NEDs Against An Ever-Changing Regulatory Backdrop

Last Updated: 31 March 2017
Article by Sara Johns

Most Read Contributor in Jersey, October 2017

The importance of non-exec directors, while sometimes questioned, is fairly well established. The IoD's Guidelines for Jersey Directors go as far as to suggest that boards composed wholly of full time executive directors are potentially weak if they become insular, and that public companies should ideally have:

  • A minimum of three non-execs or one-third as non-execs for larger companies;
  • A minimum of two non-execs or one-quarter as non-execs for smaller companies; and
  • Similar considerations apply to private companies particularly those with institutional investors.

Clearly the expectation here is high: that NEDs contribute something extra, something more, thanexecutive directors alone can do.

So what are the duties and responsibilities of the 2017 NED and do they need to be superhuman?

Basic principles

Well, first and foremost, perhaps surprisingly in light of what we have just said, companies laws do not, on their face, generally distinguish between executive and non-executive directors when it comes to the duties owed to a company.

In Jersey, as you many of you will know, the Companies Law puts on a statutory footing the primary obligation of all directors of a Jersey company to:

  • Act honestly and in good faith with a view to the best interests of the company; and
  • Exercise the care, diligence and skill that a reasonably prudent person would exercise in comparable circumstances.

This statutory obligation is supplemented by the fiduciary duties imposed on directors by the customary law of the island (e.g. duty to exercise power for a proper purpose, duty to account for profits) but we have here the core duty most of you will be familiar with and it applies to all directors, regardless of whether they hold executive office in the company.

The first limb of this test is subjective.A director, acting honestly and in good faith with a view to the company's best interests, will not be in breach of this duty just because the court considers that what he did was not, in its own view, in the best interests of the company.

However, the second limb of this test is objective. It is based on what the reasonably prudent man would be expected to do in comparable circumstances.This objectivity means that a professional person, for example, may be subject to a higher duty than a layman when discharging the duty to exercise care, diligence and skill.Similarly, it seems that the steps exec and non-exec directors should be expected to take to satisfy this duty may vary depending on their different roles on the board.

This means, of course, that no two cases will be the same because each will be judged on its particular facts.However, there are some general observations we can make about might be expected of an NED.

English case law

As a starting point, English case law, which is not binding but tends to be persuasive in the Jersey courts, throws some light on where the emphasis typically lies for non-exec directors.

The English cases unsurprisingly establish that all directors have a continuing duty to acquire and maintain sufficient knowledge and understanding of the company's business to enable them to discharge their duties (Re Barings plc v Baker 2000).

But, it is clear that directors are also entitled, subject to the articles of the company, to delegate particular functions to management and trust their competence and integrity to a reasonable extent.

Whilst all directors have a duty to supervise the discharge of the delegated function, English case law emphasises this supervisory role when it comes to non-execs.For example:

  • Non-execs must, at a minimum, take "reasonable steps to place themselves in a position to guide and monitor the management of the company" (Daniels v Anderson 1995)
  • "It is plainly arguable that a company may reasonably at least look to non-executive directors for independence of judgment and supervision of the executive management"(Equitable Life Assurance Society v Bowley 2004)

So, whilst NEDS can look to others to perform particular tasks, they retain residual non-delegable responsibilities for supervision and control, and a collective responsibility to manage the company.It is therefore essential for NEDs to ensure they are properly informed about the company's affairs, both when they take up their appointment and while they remain in office.

In terms of this information, although NEDs may rely to a large degree on information and explanations supplied by the executive directors and senior management, they should not do so blindly.For example, NEDs are expected to satisfy themselves, by calling for appropriate information, that actions proposed by the execs will be in the best interests of the company.

UK Corporate Governance Code

These basic principles are supplemented in the UK by the Corporate Governance Code which applies to companies with a UK premium listing of equity securities, regardless of where they are incorporated.The Code also serves as a barometer of good corporate governance more generally.

The Code identifies the specific role of non-executive directors as being to:

  • Constructively challenge and develop proposals on strategy
  • Scrutinise the performance of management in meeting agreed goals and objectives, and monitor the reporting of performance
  • Satisfy themselves as to the integrity of financial information and that financial controls and risk management systems are robust and defensible
  • Determine executive director remuneration and play a prime role in succession planning, including appointing and removing executive directors

Jersey IoD Guidelines

If we map this against the IoD's guidelines for Jersey directors, we see similar themes emerging:

  • Engaged sceptic; an independent view
  • Widen the horizons within which the board determines strategy (bringing wider general experience and specialist knowledge)
  • Encourage debate, question policy proposals and recommendations of the executive directors to ensure decisions are properly thought out and justified
  • Monitor management performance
  • Ensure high standards of financial probity and risk management
  • Ensure adequate systems to deal with directors' conflicts of interests

Summarising

Summarising this, some fairly traditional themes emerge as the core focus of the modern day non-exec: independence, guidance, strategy, management oversight and financial / risk management.These remain the basic expectations and criteria NEDs are judged by.

But is this really where the NED truly adds value in 2017 and beyond?

Some five years ago now, The Korn/Ferry Institute carried out a survey: "What Makes an Exceptional Independent Non- Executive Director".

At the time, the report identified three new, specialised characteristics of the NED of the future.While the role still involves testing, evaluating and probing, the report suggested that the complexity facing boards had increased and that the required competencies had evolved accordingly.Taking a brief look back on this is instructive.

The first of these three new specialised characteristics of the NED of the future related to:

Risk - as we have seen, this one has been borne out in practice and is now firmly on the radar of NEDS under the Corporate Governance Code, the Jersey director guidelines and many other commentaries.

Boards are now faced with an increasingly complex regulatory and risk environment.Navigating the challenges this presents, requires not only technical knowhow but also the leadership skills to help drive a strong risk culture within an organisation.

Accordingly, risk – operational, financial and reputational risk - is increasingly at the forefront of the role played by NEDS in providing strategic oversight at board level.Part of the NED's job has become to "think the unthinkable", so that strategies can be developed for heading trouble off at the pass.

The second of the new specialised characteristics of the NED identified in the Korn/Ferry report was Financial Expertise.The general lack of financial expertise on many boards has been repeatedly cited as a contributing factor to the global financial crisis and so promoting the highest standards of financial integrity in an organisation has moved much higher up the wish list in terms of the contribution made by NEDs.

Again, this one has been borne out, with more and more boards engaging NEDS with true financial literacy, who can understand financial complexity and respond quickly to volatile markets.

The last of the three new specialist characteristics of the future NED identified in the 2012 report related to Technology.By this I mean not just being computer literate or cyber security aware, but truly understanding the impact of technology in driving new business models and new corporate strategies.

The report identified the need for NEDS with specific knowledge and experience to help frame the strategic discussion around IT. It predicted the need for a rapid increase in the demand for NEDs able to spot opportunities, identify threats and increase diversity on the boards of the future.

Last year, however, a PWC report entitled Directors and IT looked at how companies currently manage IT oversight.

PWC surveyed 800 public company directors and identified an "IT confidence gap" at board level. They concluded that although many directors want to understand the risks and opportunities related to IT, they sometimes don't have enough understanding and often lack a well-defined process to enable them to deliver truly effective oversight in this area.

And yet, one wonders if there is an element of denial in the board room that this gap exists.

Of the 800 public company directors PWC spoke to:

  • Only 37% believed it is very important to have someone with IT strategy expertise on their board, and
  • Only 18% said they spent more than 10% of their board and committee hours in 2015 discussing oversight of IT risks and opportunities (in fact, down from 19% in 2012).

Instead, the report showed that IT expertise was being bought in - with 45% of boards engaging outside IT consultants, 80% of them on a project-specific basis.

Now of course there are arguments for and against committing a board seat to a director with IT expertise, possibly at the cost of someone with a broader skill set and wider operational and leadership experience.

But based on these statistics, it seems that many boards still do not regard IT as being a strategic competency that needs to be an integral part of the continuing corporate, financial and risk management matrix of their organisation.

I have to say I find this surprising because, in my view, what happens online is fast becoming central to the governance equation. My prediction is that we will see more and more new generation, tech savvy NEDs at board level and that their contribution will become a key value-add that stakeholders will expect their non-exec director base to bring to the table.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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