Were corporate boards of directors asleep at the switch when the financial crisis hit?
Were corporate boards of directors asleep at the switch when the financial crisis hit? jgroup/iStockphoto.com
The United States and the rest of the world appear to be slowly emerging from the worst economic crisis since the Great Depression. Now comes the debate over what lessons we should take from the experience. In a series of reports over the next few weeks, NPR will be considering the future of capitalism itself.
Boards of directors are supposed to safeguard shareholder interests by advising management and questioning bad judgment.
This system didn't protect the financial sector from disaster. But, according to Jack Kessler, it wasn't because board members were asleep at the switch.
"We had very strong input from the directors, and they were very intelligent, well-informed, who had opinions of their own," says Kessler, an Ohio real estate developer who was a director on the board of JPMorgan Chase for years until an age limit forced him to step down two years ago.
A board straddles a strange place within a company; directors are both creatures of the company, as well as advocates for those outside of it. They are paid by the company and sometimes even nominated by management. On the other hand, they're elected by shareholders and are supposed to act as independent-minded advisers.
Kessler says he knows boards draw criticism for having too cozy a relationship with management, but he says that JPMorgan's board was by no means a rubber-stamping operation.
The weekend before meetings, he and other board members were sent reams of documents about the bank's business. And when they met — usually more than eight times a year — they often challenged JPMorgan CEO Jamie Dimon.
"I think we felt we could bring up any issues, and we did," Kessler says. JPMorgan fared better than some of its Wall Street rivals, like Bear Stearns and Merrill Lynch.
Still, there were things Kessler admits the board missed, and he says that serving on a financial services board became more difficult as the banks' businesses got more complex. Despite his involvement in real estate, for example, he says he didn't foresee how massive the meltdown in that sector would be.
Critics of recent bank boards say they lacked the expertise to advise the companies, and that they overlooked some of the big risks banks took in recent years.
"I think the problem with the boards is these boards, in some instances, were not particularly expertise in the areas they were asked to monitor," says Charles Elson, director of the Weinberg Center for Corporate Governance at the University of Delaware. He says that recently financial boards also relied too heavily on the banks' own risk assessments instead of digging on their own.
After companies such as WorldCom and Enron imploded in accounting scandals, Congress passed a law creating risk monitors within companies. But in a perverse way, Elson says, the new monitoring system helped create a false sense of comfort that the risks were both understood and managed.
A good board, however, would have pressured management to explain their new lines of business and disclose those risks better, he says.
Richard Mahoney, a former board member of insurance giant MetLife and former chief executive of Monsanto, says the Enron accounting scandal nearly a decade ago changed the culture of most corporate boards. Directors were blamed for overlooking massive problems at companies, and directors like him became scared not to question management on more details.
"A lot of boards just self-corrected," Mahoney says. "But apparently some of the bank boards were not listening."
Corporate reformers hope the aftermath of the financial crisis will inspire some new changes — both a shift in policy and a newfound vigilance among investors. Some activists want to make it easier to oust board members for making mistakes or granting too much in executive pay, for example. And so far, proposals on Capitol Hill focus on adding more transparency into how executives are paid.
But now that the government owns large stakes in companies like General Motors and Citigroup, banking lobbyists and shareholder advocates alike say both Washington and private investors will likely keep a closer eye on how corporate boards work.