Essay: Non-executive director

A non-executive director is a part time director on the board of directors of a company who does not form part of the executive management team. They are directors who act in advisory capacity only and often comprises of senior retired directors or members of other industries. Frequently, they attend monthly board meetings to bring in fresh ideas to attract the newer market, offering the benefit of their advice and to contribute committees concerned with sensitive issues such as pay. Independence of non-executive directors are crucial as their role are not to ‘tow the line’ and have to be different to think out of the box. However, they are bound by various restrictions and this idea may not be possible to execute.
Non-executive director’s role differ from executive director who takes part in the daily management of the company’s business. In this respect, they involve the senior management of the company under the leadership of the chief executive officer. Large companies are usually more complex hence more member in the board of directors must delegate substantial control of the company’s activities to its management. For many years that the non-executive directors have been in existence since the inception of corporations which mostly the directors were non-executives because they were also the owner of the company. They were later appointed from the royal family or amongst the elite or outstanding ones and it became an honorary position. This was done to bait potential investors and to boost the status of these companies.
When the Enron scandal was revealed in late 2001 , non-executive directors were suddenly acknowledged the level of public scrutiny. The downfall of Enron demonstrated delinquency on the part of company executives and the accounting bodies like Arthur Anderson. Enron was followed by a series of high-profile bankruptcies which flooded the American market.  The public’s trust in capital markets was undermined as thousands of ordinary employees and shareholders lost their savings and pensions, along with their in-built faith in the supremacy of US capitalism.
One survey of UK chairmen showed that only 10 per cent recognized the possibility of a corporate governance failure in their own company.  The advantages of an approach based on principles as opposed to rules were rehearsed over and over again, and the Accounting Standards Board’s efforts in preventing the transfer of debt off balance sheets by using a network of affiliates drew praise from all quarters.
But the UK government soon decided that the situation was too serious for the “if it is not broke, do not fix it” approach. It started a series of consultations under the title of “Post-Enron initiatives”. Chancellor Gordon Brown and Patricia Hewitt, the secretary of state for trade and industry, set up a coordinating group on audit and accounting issues. They gave Derek Higgs the task of examining the role and effectiveness of non-executive directors and they called on Sir Robert Smith to lead a review of the Combined Code guidance for audit committees. As a consequence of these reviews findings, the Combined Code is now implemented to avoid Enron like events from happening again.
All this prompted a fury of agitation among accounting bodies, institutional investors, consultancies, accountants in business, private individuals and many others. The Higgs report which was published in January 2003,  drew mixed reactions from the public. The final corporate governance rules under the financial reporting council are based on the Higgs report. The problem arises when the company or the non-executive directors may be unaware of the wider context of corporate governance beyond that which affects them directly in their day-to-day work.
Non-executive directors have grown in importance over the years with the introduction of Corporate Governance in the UK markets during the 1980s and 1990s focused on the role of the directors and the standards that can be anticipated from them.  This is because of occurrence of high profile corporate financial scandals which involves inadequate disclosure, highly established CEOs and auditing failures which made it apparent that the UK corporate governance system was lack in protection of investors. Similar situation happened in Polly Peck founder in the UK who was charged with 66 counts for theft, fraud and false accounting and was sentenced to 10 years in jail.
The increasing lack of investor confidence in the honesty and accountability of listed companies, occasioned in particular by the sudden financial collapses of two companies, Asil Nadir’s Polly Peck consortium had lead Adrian Cadbury to publish Cadbury Report  on corporate governance in December 1992. The report mainly stressed on four sections which are the roles of the board of directors, duties of the board and it’s composition, role of non-executive directors, dealing with their remuneration and finally addressing questions of financial reporting and financial controls.
Cadbury Report suggest the company board should include non-executive directors of sufficient caliber on deciding key matters instead of senior manager as non-executive directors are not bound by biasness or prejudice. Non-executive directors should be appointed for specific terms and reappointment should not be automatic. Furthermore, their appointment should be through a formal process and both this process and their appointment should be a matter of the board as a whole.
However, the classic view of non-executive directors was that they did not act as an effective check on management. First, the reason is executive directors that often played a significant role in nominating and therefore appointing the non-executive directors whilst more than often the shareholders did not involve in this board nomination process and they typically just voted to rubber stamp the board’s management. Such non-executive directors were grateful to and felt beholden to the executive directors, as it was the reason they are on the board in these company.
Secondly, the executive and non-executive directors are mostly bonded friendships, collegiality or family meant that their loyalties might first to be the executive directors and not to the best interest of the company. Finally, these non-executive directors usually had no or a very small equity interest in company and no significant resources of time and effort to understand the company and to monitor closely the executive directors’ activities although they are paid for their board membership and meeting attendance.
Cadbury Report also recommend non-executive director to head the remuneration and appointment committee and to monitor the progress of a company. With such heavy responsibility of a non-executive director, they should be appointed wisely and must be independent. The Cadbury Report was then followed by a Report of the Study Group on Directors’ Remuneration initiated by the UK Confederation of Business and Industry on corporate governance known as the Greenbury Report  chaired by Sir Richard Greenbury in 1996.
The Final Report of the Committee on Corporate Governance in 1998 was chaired by Sir Ronal Hampel and known as the Hampel Report. The Greenbury and Hampel Reports were based on the foundations of the Cadbury report with some major refinements like the remuneration committee should comprise solely of non-executive directors with relevant experience and also stipulated that an annual report should be provided to shareholders.