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Above Board Summer 2010

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ABOVE BOARD (Summer 2010)

Although many are predicting that the worst of hard economic times are behind, the unprecedented financial crisis is likely to have ramifications for corporate governance and its regulation in Australia for some time yet.

Various inquiries and regulatory reforms have been initiated in 2009 as a direct and indirect response to the causes and effects of the economic situation. The James Hardie decision has also led many directors to reflect on their responsibilities as a director and the performance of their duties.

Over the last six months, a number of organisations have approached Directors Australia requesting us to conduct an objective audit of their corporate governance processes and systems, and ensure that all directors have current knowledge about their governance roles and responsibilities.

In this edition of ‘Above Board’, Directors Australia looks at:

I’d also like to take this opportunity to welcome Carolyn Penklis as Recruitment Manager for Directors Australia. Carolyn was a senior executive with a leading national recruitment firm for many years and has extensive experience in providing specialist recruitment services across a range of industry sectors. Directors Australia is one of very few firms nationally that focuses solely on director recruitment, and we have an extensive on-line database of highly qualified directors interested in joining boards.

We hope you enjoy this edition of ‘Above Board’.

Kerryn Newton
Managing Director

Directors Australia Pty Ltd
Board Consultants and Director Recruitment

T: 0408 735 529 | F: 07 3221 5187
PO Box 3018, South Brisbane BC, Q 4101
www.directorsaustralia.com

Penalties handed down in the James Hardie decision

In April 2009 three former executives and seven non-executive directors of James Hardie were found in breach of their duty of due care and diligence under the Corporations Act. The case centred on the board's approval of a misleading 2001 press release regarding the adequacy of funding for victims suffering asbestos related diseases.

In August 2009 the NSW Supreme Court handed down penalties for the breaches. The former non-executive directors were banned from managing a company (which includes being a company director) for five years and fined $30,000 each. The former CEO received a 15 year ban and fined $350,000.

All directors unsuccessfully argued that they should be exonerated from liability under a rarely invoked provision of the Corporations Act on the basis that there was no finding of dishonesty. Justice Gzell refused this relief noting that a “finding of acting honestly does not follow automatically from the absence of an allegation of dishonesty”.

The decision indicates the courts’ willingness to apply tough civil penalties for corporate breaches, and a reticence to exonerate directors and officers from liability.

The court also refused to treat differently one of the directors who had only attended three board meetings before the meeting in which the press release was approved. In this regard the court noted that approval of the draft release didn’t require the benefit of background material made available to other directors.

An appeal had been lodged.


A new inquiry into the level and type of guidance provided to directors regarding their roles and responsibilities

The Commonwealth Government has asked the Corporations and Markets Advisory Committee (CAMAC) to examine what guidance is currently available for both executive and non-executive directors to fully understand their role and responsibilities.

The ministerial request of CAMAC notes the increasing expectations placed on non-executive directors as a result of decisions such as James Hardie, and observes that the ASX Principles of Good Corporate Governance Practice and Recommendations do not provide any guidance to non-executive directors about what is expected of them.

In particular, the Minister has requested that CAMAC examine the guidance and codes of conduct available overseas for corporate directors, especially in the United Kingdom.

CAMAC is required to report to the Minister by 31 April 2010.

Enhanced shareholder approval requirements for director and executive termination payments

A bill is currently before the Commonwealth Parliament to amend the termination payment provisions of the Corporations Act 2001. The effect of the bill is to lower the threshold requiring shareholder approval for termination payments. Currently, shareholder approval is only required if the payment is greater than seven times a director’s ‘annual remuneration package’.

The bill reduces the threshold to benefits of more than one times the narrower base of an ‘annual base salary’. In addition, the approval requirement will be extended beyond directors to include certain executives.

The definition of benefit has also been expanded, and the new provisions will apply to new or varied contracts.

Commentators are suggesting that the intent of the bill will be frustrated by mechanisms such as ‘golden handshakes’ being replaced with ‘golden hellos’, and base salaries being substantially increased. There is also a concern as to increased costs of compliance and debate as to whether boards will seek to gain upfront shareholder approval for termination payments.


The Productivity Commission’s “two strikes” proposal regarding shareholder approval of executive remuneration

On 30 September 2009 the Productivity Commission released its draft report on executive remuneration in Australia. The Commission’s stated motivation for its inquiry was a widespread perception that executives have been rewarded for failure or simply ‘good luck’.
The Commission concluded that the central role of boards in setting remuneration should not be removed through prescriptive regulatory measures such as pay caps. However, the Commission has proposed a number of reforms in remuneration setting and board accountability.

One of these reforms, a so-called ‘two strikes’ policy, aimed at encouraging shareholder engagement in remuneration setting, has not been well received by corporate Australia. Under this proposal if a company receives a ‘no’ vote of 25% or more shareholders on its remuneration report (that is, the annual public report on remuneration of directors and senior executives), then the company should be required to respond to shareholders in the subsequent year on how it has addressed their concerns. If two consecutive remuneration reports receive substantial ‘no’ votes from shareholders, then all non-executive directors should face re-election.

Concerns raised regarding the proposal include: the minority shareholder threshold; the potential for the mechanism to be open to abuse and manipulation; and potential disruption to the stability of a company's board.

The Commission has called for submissions on its proposals, and expects to hand down its final report in December 2009.

Proposed regulatory overhaul of the not-for-profit sector

In a draft report handed down in early October, the Productivity Commission proposed a major regulatory overhaul of the not-for-profit (NFP) sector to streamline regulation and compliance costs. The NFP sector is extremely diverse encompassing organisations from local hobby clubs to large industry associations.

NFPs play a significant role in providing a wide range of services, and it is estimated the sector contributed approximately $43 billion to the national GDP in 2006/07. However, many NFPs struggle to fund administration and compliance, particularly where they receive government funding and greater accountability applies.

The Productivity Commission's proposals include:

  • uniform regulation to overhaul the “complex and inconsistent” rules that currently govern the sector;
  • establishment of a national NFP Registrar for Community and Charitable Purpose Organisations;
  • a government Centre for Community Service Effectiveness to evaluate NFPs that offer government-funded community services; and
  • a joint working party to assist NFPs access finance.

The Senate Standing Committee on Economics had also recommended an overhaul of the sector (including the creation of a single independent national regulatory regime and a two tiered financial reporting obligations) in its 2008 inquiry into disclosure regimes for charities and NFP organisations.

The Productivity Commission's report follows a number of studies which have found that the global financial crisis has increased demand for the community services offered by NFPs. This has put pressure on NFP income resources at a time when the sector is facing funding shortfalls from declining investment returns and a drop in donations.

Proposals to increase the participation of women on boards

While there is some debate regarding the extent to which diversity in board membership enhances corporate performance, at the very least diversity in board membership could be expected to bring new perspectives and enriched debate.

One aspect of board room diversity which has received considerable recent attention recently is gender diversity.

While there is a steady move towards equal representation of men and women on state government boards in Australia, this is in sharp contrast to corporate sector boards. Currently, 8.3% of ASX top 200 company board members are women, a slightly lower figure than in 2006 when it was 8.7%.

In its August 2009 report on Diversity on Boards of Directors, the Corporations and Markets Advisory Committee (CAMAC) advocated a number of ways to improve female participation rates on boards. Among the suggested initiatives were an expansion to the ASX Corporate Governance Council Principles and Recommendations to include information regarding board diversity, the benefits of a more structured approach to the selection of board members, and further information to shareholders about director selection processes.

Other suggested initiatives included encouraging open director appointment processes, regular reviews of board appointments, and mentoring programs.

CAMAC rejected mandating a quota for female representation on boards such as applies in Norway on the basis that ultimately the composition of a board is a matter for shareholders. (In Norway listed company boards must have at least 40% women.)

In its September 2009 report on executive remuneration, the Productivity Commission also considered board diversity and didn’t support quotas on the basis that they would risk promoting diversity at the expense of merit. However, it suggested that board accountability and capability could be improved by removing the ability for boards to limit new nominations even if the maximum number of positions has not been filled (the so called ‘no vacancy’ rule). The Commission felt that this could facilitate collection of shareholder nominees to board positions, increase diversity and assist in dismissing perceptions of a “directors’ club”.

Disclaimer: This newsletter has been prepared by Directors Australia for the purposes of providing general information only. This newsletter and its contents should not be used or relied on for legal or other advice by any party. Each party’s individual circumstances may change the effect and relevance of any matters raised.