By Emmanuel Oluwashetire
Pull Quote: Many companies, under the leadership of their boards, are mistakenly focusing on the art of value protection.
Today’s business landscape is dominated by risks and frequent disruptions. Competition is intensifying the world over – as new industries emerge. The composition of key business stakeholders and responsibilities of good corporate citizens continue to expand.
In the current dispensation, no business is immune from disruption. For this reason, today’s businesses must constantly innovate, be agile and develop cutting edge strategies. Otherwise, they would cease to exist.
Thus, a cultural shift is required with greater emphasis on innovation, value creation and efficiency. These realities have brought about increased responsibilities for board members of businesses. Gone are the days when being a board member was just another avenue for passive income as many board members are realizing there’s more on their plate.
Our recent past is replete with the failure of businesses all over the world. Many of the failed businesses were those earlier christened “too-big-to-fail.” Policymakers in different parts of the world responded to the failure of the corporations with various regulations, many of which were aimed at promoting ethical business conducts and ensuring long-term viability of businesses, especially the publicly-listed ones.
Two notable regulatory responses include the Sarbanes-Oxley (SOX) Act of 2002, enacted in the United States, and the Dodd-Frank Wall Street Reform and Consumer Protection Act enacted in the US in 2010. While the SOX Act was a policy response to the reckless financial scandals that rocked some public companies such as the defunct Enron Corporation, Tyco International Plc and WorldCom in the early 2000s; the Dodd-Frank was enacted to promote the financial stability of the US following the 2008/09 recession.
The two US federal laws have increased responsibilities of top management and corporate boards. In light of the wave of regulatory and stakeholder demands in the US and across the world, many companies, under the leadership of their boards, are mistakenly focusing on the art of value protection. The best performing boards of today are often characterised by vibrant audit committees – whose roles include performing oversight on financial reporting and ensuring strong internal controls. These boards have a relatively higher number of independent directors; adhere largely to ethical business practices and sufficiently disclose potential conflicts of interest.
But is regulatory and ethical compliance all it takes to ensure corporate longevity and sustained growth in today’s business world? Not really. Whilst regulatory and ethical guidelines are necessary to curtail greed at top management level and promote improved transparency in corporate activities, these functions do not address issues pertaining to the constantly evolving business environment. Recall the distressing words of Stephen Elop, former CEO of Nokia, during the acquisition of the company by Microsoft. He tearfully noted that, “we didn’t do anything wrong, but somehow, we lost.” It is not news that Nokia failed to evolve, suffering the same fate as Kodak, Xerox and Blockbuster.
Failing to learn from the failures of these businesses, I have repeatedly observed that many corporate boards give inadequate attention to value creation. The importance of value creation as a matter for today’s boards cannot be overemphasized. Constant value creation has a lot to do with strategy, innovation and risk management. Whilst I do not intend to go into extensive discussions on the importance of these factors in this article, it is useful to point out that corporate boards need to demonstrate sufficient involvement in strategy formulation, execution and monitoring as well as oversight of firm-wide risk management efforts.
And just to put some context to the risk management factor, it is necessary to note that risk management is not just about protecting the value already created. Risk management, in contemporary context, examines the imperative of value creation for continued business growth and sustainability. Put differently, managing risk to gain competitive advantage is one of the core functions of risk management.
Whilst it is true that the Global Financial Crisis (GFC) was triggered by corporate greed and weaknesses in the internal controls of some financial institutions, I dare to think the crisis could have been averted or curtailed if the boards of those financial institutions were more aware of and responsive to the underlying risks of derivative securities, which played a central role in the GFC.
Derivatives are complicated financial products. Although they were created in the 1970s, their unregulated use became widespread around the late-2000s. Despite the proliferation of the securities as speculative tools, many Wall Street financial advisors openly admitted they didn’t even understand the new products they passionately sold and hugely profited from. Even some of the best global regulators found the products very sophisticated; therefore, they could not provide adequate mitigants to their attendant risks.
Misuse of these “innovative” financial products wiped out wealth at global proportions. Once the value of the underlying assets that the securities were based on fell, financial institutions were left with “toxic” derivatives and mounting liabilities. I believe that a more sophisticated, involved and probing board could have guided their companies appropriately, thereby preserving national, regional and global financial stability.
Therefore, boards that want to lead global businesses must objectively identify expertise, experience and traits crucial to the success of their businesses. The appointment of members of the executive management (especially the CEOs) must be based on meritocracy. Similarly, boards need to be rightly constituted with expertise and experience that are crucial to the success of their business.
Value creation needs to become a dominant part of every board activity. Doing this requires a good understanding of the industry the company is operating in. Boards must think ahead and balance short-term business goals with long-term goals. They also need to keep a close eye on their competitors and emerging patterns of competition.
These are not exhaustive prescriptions. Boards of directors of companies would need to figure out peculiar ways by which they can navigate in today’s dynamic business landscape to continue to create shareholder value.
Emmanuel Oluwashetire is a risk Management Consultant.