Corporate governance in South Africa differentiates between non-executive directors (“NED”) and independent directors (“ID”) of companies.Pitfalls of a non-executive director

  • An ID is defined as a person who has no interest, position, association or relationship with the company or its executives.
  • NEDs by definition are neither full-time executives nor IDs.

We will refer to both of these as NEDs in the outline below of the seven pitfalls awaiting non-executive directors.

Many senior corporate executives, as they come to the end of their current career, think of taking on one or more NED roles.  Perhaps they could earn an income and add value through their extensive experience while remaining actively involved.

What’s not to like about this?

Not so fast.  There are several things that you should consider before taking the plunge.  We deal with seven pitfalls awaiting non-executive directors, but there are undoubtedly more.

1       Liabilities as a director

The single most important overarching framework of responsibilities, be it as a director of a JSE-listed group or a small family-owned business, are:

  • Firstly, the directors can be held personally liable for any losses or debts sustained by a company as a consequence of their reckless trading.
  • The second way in which directors can be held accountable is by having criminal charges laid against them for fraudulent trading under the Companies Act.
  • Thirdly, the Companies Act requires the court to declare directors delinquent if they trade recklessly or fraudulently.
  • Fourthly, creditors can hold the board of directors personally responsible for the company’s debts.

2       You’re an outsider, looking in

Spending a few hours per month, if that, as NED on the business of the company, makes you an outsider.  The board and committee papers will contain the filtered information that the CEO and management want to disclose.  In most cases, only the CEO and CFO serve on the board.  You have to accept their explanations.

Unless you build relationships with all the members of executive management, you are unlikely to get to the bottom of every matter.  These inter-personal skills are certainly different from those you employed when you were in charge yourself.

Properly prepare for each meeting.  If the board or committee papers are not issued timeously, ensure that your concern is dealt with and minuted.

3       NEDs seldom form a cohesive group

It will, in the long run, be important to ensure that you are not the only NED on the board. As part of a small number of NEDs, you are all outsiders compared to the “insiders” comprising the fulltime executives.

These executives not only know more about the business than you do, but they also know each other better than they know you, or you know them.

The group of NEDs, on the other hand, is generally not as cohesive a group as the executives. This is because you don’t meet that often and don’t know each other that well.  To deal with this requires a level of emotional intelligence that not all these NEDs may necessarily have.

In many cases amongst JSE-listed companies, you will find that two or three persons all serve as NEDs on different boards as well.  This is not illegal and provides some sort of cohesiveness amongst them.

4       Conflicting roles of NEDs

As a member of the board, you have a fiduciary duty of care and oversight.  You are expected to work with the executives in furthering the success of the company, even though you are equally responsible before the law should reckless or fraudulent activities occur.

You may or may not be on the audit committee or the remuneration committee, but as a board member, you receive all committee reports.  Sometimes hard questions need to be asked of the executives on the board following receipt of the report of the audit committee, based on the reports it received from either or both the internal and external auditors.

On the other hand, you have to evaluate, resolve and agree on the remuneration benefits of the executive team.  It has happened that they have threatened to walk out unless they can rely on excellent benefits. Simultaneously, shareholders are known to be critical of underperforming and over-remunerated executives, and the NEDs on the board bear the brunt of their criticism.

Either way, don’t become too friendly with the CEO or CFO.  Keep your distance.

5       Maintain your independence

As NED you must at all times maintain your independence.  This applies at different levels of your relationship with the company on whose board you serve.  Here are a few:

  • Don’t overstay your independence. The period of service as a director could easily lead to developing a sense of camaraderie and friendship with the executives.  Most companies have their directors retire by rotation every three years.  Carefully consider if you should stand for re-election after three years.
  • Size of directors remuneration. Assess the relative importance of the annual package from the company against your overall level of wealth and cash reserves. If you have to earn the fees to stay alive, you are not independent anymore.
  • Avoid having your ear bent by senior executives whom you may know at another level. Do not discuss company matters outside of the boardroom.
  • Never roll over and vote with the majority, without first doing your homework. Be polite but firm in requesting more details on a particular matter, or propose that it stands over till more details are submitted by the executives.  If this is not possible, vote against the resolution and ensure that your dissenting vote is minuted.

6       Conflicts of interest

Issues involving the actual or potential conflicts of interest of all or some of the executives of the company, will have to be dealt with from time to time.  Do not shy away from any controversial matter.  Ask the right questions in a firm but polite manner. Do not succumb to collegial pressure to drop or close the matter.

If need be, propose that the NEDs discuss and resolve the matter as an ad hoc committee.

7       Apply sound corporate governance

As NED you must have a good understanding of the Companies Act as well as the King IV Report on Corporate Governance for SA.

Most company secretaries have a legal background and usually ensure that matters are dealt with in a proposer manner.  However, this does not preclude the NEDs from understanding the legal and corporate governance aspects that apply.

A PDF version of this article is available here.