Are Corporate Directors Becoming
Liabilities Exceed the
Benefits of Being a Director
By Peter Cohen
January 9 2005
In the last week, some
corporate directors have written checks out of their personal accounts
to settle suits against the companies on whose boards they served.
Earlier this week, 10 former WorldCom directors paid a total of $54
million -- $18 million from their own pockets representing 20% of
their net worth. Today is was announced that 18 Enron directors
agreed to pay $168 million, 10 of them paid $13 million from their own
pockets, to settle their portions of securities class action suits.
These events probably mark the beginning of a trend that will cost
directors of other bankrupt companies more money.
While these directors
no doubt made these payments to avert the risk of even higher ones,
their decisions alter the cost/benefit analysis for current and
potential corporate directors. It is no longer enough to show up at
quarterly meetings, enjoy the CEO’s hospitality, and collect checks
and stock grants. With the increased scrutiny resulting from
Sarbanes-Oxley, the risks – and potential legal fees – required to
serve as a corporate director are increasing. And many directors will
conclude that the potential costs exceed the benefits.
This could make it
increasingly difficult to recruit directors with the skills needed to
serve effectively – further weakening an already hamstrung governance
This raises a
fundamental question of why corporations have directors in the first
place. In theory, directors are supposed to assure that a company’s
managers are acting to increase the value of the firm – and if not –
to take corrective action. The simple reality is that most directors
are appointed by the CEO and therefore have multiple incentives to
preserve that CEO’s position.
directors with the business experience needed to add value are so busy
with their main jobs that they may not have the time to understand and
make important contributions to key business decisions. As a result,
there is a danger that boards do not evaluate rigorously corporate
resource allocation decisions.
Directors are caught
in a system that makes it difficult – if not impossible – for many of
them to protect shareholder’s interests. With insurance covering less
of their potential costs, directors are finding that they bear a
larger personal responsibility for a company’s failure to act in the
shareholder’s best interests while exercising very limited control
over the company’s conduct.
There are no ideal
solutions to this problem.
One alternative might
be to replace the notion of ‘directors as shareholder intermediaries’
with ‘shareholders as directors who represent their own interests.’
Under this scheme, directors would be selected based on two criteria:
They were among the company’s largest shareholders;
These big shareholders were investing a large
percentage of their wealth (or their funds under management) in the
investors would have an incentive to know more about the company’s
operations and would use their clout as big shareholders to influence
might be to create a class of professional directors with the business
knowledge and experience to offer useful advice. Such professional
directors would serve full time as directors on a small enough number
of boards that they could invest the time to challenge in a meaningful
way the corporation’s actions. And they would be paid out of a
shareholder insurance fund created by a pool of shareholders – rather
than by the corporation. These professional directors would be graded
– and receive incentives -- based on the long-term shareholder value
created or destroyed by the companies on whose boards they served.
ultimately emerges, I believe it will grow clear to corporate
directors that they are part of a system in which it could become
unprofitable to participate. This suggests it’s time for a change.
Peter S. Cohan & Associates