When May Boards Prudently Delegate

This is a great time to be a board member of any organization because governance is being re-thought and fine-tuned. A basic tenet of this rethought and fine-tuning is that the first and best line of defense against corporate mismanagement is independent oversight by independent directors.

Boards of all organizations, not just publicly held companies, direct management rather than manage the organization. To do so, boards must delegate. The issue is “when may boards prudently delegate?”

Because a board directs rather than manages and because management manages under that direction, a board must determine reliability and competence of management for each matter that the board delegates to them. The best way to determine reliability and competence is to ask questions. Accordingly, the purpose of the questions must be to test management’s reliability and competence.

The same questions should be asked separately of different persons, trying to include, where appropriate, someone independent of management. Possible persons independent of management include the person serving the internal auditor function, representatives of the external auditor, outside legal counsel, and outside experts with experience in the matters under consideration.

The consistency of the different answers should be compared. The answers among different constituencies will unlikely be the same. For example, management is more likely to view certain business issues more positively than the external auditor or chief legal officer. On the other hand, the external auditor and chief legal officer are more likely to view risks of liability as more material than management.

The skill is to learn when to stop asking questions. Nothing is more bothersome to management than irrelevant, unnecessary questions. As a general rule, directors should stop asking questions and accept the answers when those answers are consistent. On the other hand, directors should delve deeper when the answers to the questions are inconsistent.

Directors and management should expect that there will be some tension between them during this process. Management needs to understand that directors must ask questions to determine whether management is reliable and competent for the matters delegated to them. The board should understand that management will fear “being micro-managed” or “not being trusted.”

A way to relieve this tension is for the board to have regular executive sessions separately with different members of management so that it becomes part of the routine operation of the board. A board should consider meeting regularly with the CEO, CFO, chief legal officer, internal auditor, and representatives of the external auditor.