The Reality of Governance


Attended the ACEVO Governance Commission Consultation Session 4

today (30 May). Good group of highly motivate people – mainly CEO’s. I provided the following paper at the end to the Commission – sums up my views on Charity Governance and the problem the current governance framework employs with a two-tier system trying to fit into a unitary legal framework. My response is to put CEO’s into Boards (as is the case with ACEVO).

The Reality of Governance

Grant Thornton in its Charity Governance Review 2013 – the Science of Good Governance – does not mention Chief Executives once.

They fall into the trap that governance “experts” so often do when writing about the charity / not for profit sector and the trap that the designers of governance law and rules have done since the beginning. The trap is that those entrusted with legal responsibility for such organisations can supposedly carry out their role as non-executives and any executives are deemed unnecessary to the process (or subordinated within the process as the “governed”) – indeed, in the legalistic set-up and the advice proffered to boards, chief executives are deemed risky on the board because of conflicts of interest – as the governed they hinder governance.

This separation of executive from non-executive is a divisive separation that inhibits good governance in the real world. The separation is really a throw-back to the 19th Century when wealthy philanthropists required administrators to disburse their funds. It has no place in the 21st Century except in very small charities (which are probably too small to have a CEO anyway). Elsewhere, having the Chief Executive on the Board should be seen as a natural requirement for reasons as follows:

1.     The Board cannot escape the charge of not being aware of issues as the Chief Executive will be part of the Board

2.     This is, in reality, the only way that Boards can be sufficiently aware of activities that impact governance

3.     The Board becomes “collegiate” with the development of real common cause

4.     The “upstairs / downstairs” mentality of the 19th Century is swapped for adult and more up-to-date dialogue

5.     Chief Executives will have to rise to the occasion so that they better understand the requirements and responsibilities of the Board rather than make proposals to the Board (as a servant of the Board) – even if, in reality, a CEO is probably in law as responsible as anyone for those decisions.

Unitary or two-tier boards?

There is also a continuous debate between the desirability of unitary and two-tier boards and it is believed that most charities (almost all) have decided on the second – whereas in most corporate Anglo-Saxon organisations (and public sector) the unitary board is by far the most common.

There are a few major errors within this view.

For there to be a two-tier board structure, there needs to be a legal distinction between the legal responsibilities of the two boards. In the UK, there is none so  that Charities that decide to form themselves of completely non-executives maintain a unitary structure but then devolve executive or operational decision-making to a team of executives – who are not enshrined in any legal context.

This team of executives (usually known as a Senior Management Team or SMT) has no specific legal framework outside of individual terms and conditions of employment. The SMT rarely has a framework of organization outside of an organization chart and has very few legally acknowledged responsibilities.

In the majority of charities, the most that exists is a tacit agreement between the Board (made up of non-executives) and the Chief Executive for the latter to carry out operational or “day to day” functions while the Board does governance.

This is not the two-tier legal structure known in German corporates, for example, which have defined legal status for both boards.

In the UK Charity set-up, only the main Board has legal status and is one reason why Grant Thornton do not mention the second “board” (as there isn’t one) or the Chief Executive at all!

The Responsibility Split

As a result of the ill-defined make-up of the Unitary Board in the UK Charity Sector, the split between the Board of non-executives and the management is also very ill-defined.

The Charity Commission spends much time on the responsibilities of the Board and states that there is an inherent problem in having Chief Executives on the Board of reasons of conflict of interest. However, the Charities commission does not state that Chief Executives should not be on the Board – which they can as long as Articles of Association allow this or Charities Commission approval is obtained.

Conflicts over, for example, salaries of the CEO can easily be handled by the CEO leaving the room (as it does in the Education Sector where Academy Chief Execs / Principals or School Heads – who are ex-officio on the Board – manage perfectly adequately).

However, the message is that Chief Executives are not normally on a Board. This message is just allowed to resonate around the sector – that there are so many conflicts between governance and operational management that it is better for the CEO to not be on the Board – the 19th Century mantra. This is not realistic. The conflict of interest issue is important – but, that is true for any member of the Board. Being non-executive does not mean that conflicts of interest don’t arise. Newly formed boards in the health sector are finding that there is a great deal of conflict where board members may have other interests in suppliers, for example.

The second reason for a completely non-executive board is unstated by the Charity Commission but often raised – the potential for undue influence by the Chief Executive if he / she is a Board member.

It is held that this one person would yield great(er) influence if he / she did not just attend Board meetings but also had a vote (one vote out of ten plus on the Board).

This is also unrealistic as a vote in itself is not the essence of the board membership. Chief Executives will not become more or less overbearing if hey have a vote – as is explained below. Governance remains the Board’s duty and legal responsibility – whether one vote is held by an executive manager or not.

The Tenuous Link

In the current split of responsibilities, the supposed two-tier Board structure (which is really only one plus an SMT) is completely reliant on the Chair of Trustees / Directors forming an excellent relationship with the Chief Executive (who heads up the SMT).

This requires the Chair to be up-to-speed on all things relevant to the legal requirements of the Board – an impossible task – in both directions.

This usually results in the Chair requiring the Chief Executive to provide a range of facilities to the Board – including induction, information provision and the like – so that the Board can attempt to be well enough educated to be able to carry out its responsibilities.

This is a tenuous link.

Worse, the Board has, in many organisations, retained so-called strategic responsibilities so that only operational requirements can be passed on to the SMT. This split of responsibilities is, again, a throw-back to the 19th Century where wealthy philanthropists entrusted administrators with passing out money on their wishes.

With far more charity complexity, the thought that non-executives actually “do strategy” is of great concern. 20th Century management thinking moved on from this separation in the 1930’s. It is well understood that strategy and operations are two sides of the same organizational coin and cannot be separated.

A recognized alternative may make sense as in the Carver model. “In the Carver Model, the board is responsible for ‘ends’, the difference the charity is seeking to make, for whom and at what cost. The CEO and the staff team are responsible for ‘means’, the actions which are taken to deliver the ‘ends’. John Carver talks about governance as ‘moral ownership’ one step down rather than one step up from management. He sees board leadership as meeting the wishes of the moral owners in compliance with laws and regulations. The role of the paid staff is to make the wishes of trustees’ happen.”

Carver does not recommend that CEO’s be on the Board but the concept that Carver proposes is so far away from current models – he views the CEO as completely central and Boards having the essence of the charity and governance and then asking the CEO to do everything else – that it is not consistent.

Current Boards are uncertain in their remit, usually go overboard in micromanagement and wanting to “do strategy”, often wanting to bypass the CEO in finding out information (i.e. do not put sufficient trust in the office of CEO).

This means that the viability of the Charity rests upon the tenuous link between Chair and CEO. The former, part of a non-executive Board; the latter (who does not in most cases report to the Chair) head of an SMT. The only legal link is in the CEO’s contract – a reporting line to the Board (who then often give this to the Chair).

This is a tenuous link and CEO’s often find this very difficult.

The Work Split between Board and Management

There is no constancy at all in any Board. Many see (as do NCVO) that the Board does strategy and the CEO and his / her team does “day to day”. This is out of date and harmful.

From a vision of the organization (usually the cause developed by the Founders and then provided as a legacy to the Board), a strategy has to be developed. This is clear. However, modern management thinking is uniform in its agreement that strategy and implementation need to be done by the senior management. This may require confirmation from the Board but then is the essence of good management and the ability of management to implement this strategy with the rest of the workforce. There is no sense in any advice from Charities Commission or elsewhere that this is understood.

Any charity where the Board does the strategy and the CEO picks it up and hopes to implement it is going against all best practice. The CEO is central to developing strategy – as is the SMT.

This is why, in reality, the SMT does the strategy based on the vision guided to them by the Board / Founders. SMT then has a job to sell this into the Board.

The main functions of the Board are not disrupted in this way. However, the link between Board and Management may be.

CEO on the Board

Those involved in governance thinking (Carver is a good example) believe that CEO’s should not be on the board for reasons of conflict of interest (or self-interest). In addition, they believe that there are better ways to make CEO’s feel good about themselves – i.e. the provision of sufficient prestige.

This misses out the very positive aspects of Board membership that the legalistic aspects of governance misrepresent but are fairly clear-cut in the real world.

What are these positive aspects?

1.     The Board is responsible legally and morally for the Charity. Yet, it is supposed to devolve almost every requirement of the organization to the management team – which is not even noted in law (i.e. it is a unitary Board when it thinks it is a two-tier system). In the absence of a proper framework, having the CEO on the Board provides an opportunity to ensure that the Management Team is at least unified in its legal responsibilities with the Board.

2.     Strategically, the Board is ill-equipped to understand what strategy is played out. Ensuring the CEO is involved (and votes for the strategy) ensures that the Board is unified in terms of collective agreement in terms of direction and implementation.

3.     The separation of Board and SMT (i.e. no linkage) is weak and offers a subservience that having the CEO on the Board would lessen.

4.     The rationale for Boards is to do three things (Charity Commission): Compliance, Prudence and Care. These are things that the CEO has to be central to.

5.     The CEO probably (in law) acts as a Shadow Trustee anyway. This means that the CEO is as responsible as any Trustee for the actions of the Charity but has no vote at all in Board meetings. This is responsibility without any representation and often leads to conflict.

The negative issues brought up are:

1.     conflict of interest – the Remunerations and Nominations Committee of individual charities can be properly asked to rule on this. Beyond salaries,  there is rarely an issue that comes up where conflict arises as a result of the CEO being a Trustee. Whether on issues like the approval of budgets or strategy, appointment of new Trustees or whatever, the CEO is normally heavily involved and a vote solidifies the process.

2.     Over-bearing CEOs – an over-bearing CEO will be the same whether on the Board or not. It is for the Board to ensure that none of its members outlast their value and this is a key requirement for the Chair.

3.     Governance and the ability to take the CEO to task for performance issues will be reduced – the CEO is a key member of the organization whether on the Board or not. Being able to vote on an issue does not reduce the roles of the Board. Where there is a serious issue with the Chief Executive, then this would be initially an issue for the Chair and possibly the Remuneration and Nominations Committee to handle. Any issue on the future of the Chief Executive would rule that person out of voting.

Other information

Charity Commission / ACEVO viewpoint

The Charity Commission seems to want to defend the status quo (where, according to an ACEVO report from 2007, around 5.2% of CEO’s were Trustees of that organisation).

The CC points out the dangers of conflict of interest over salary and similar issues. This is overcome everywhere else where committees are set up independently of the CEO as required and where CEO’s are asked to leave the room if there is a conflict (as conflict would be dealt with for anyone in such a situation).

The CC has no real view on this issue but also points out bureaucratically to watch out that the Articles don’t prohibit the change – which ours don’t.

ACEVO

In a 2007 report:

There was support for the following initiatives:

1. A code of good practice on governance (98% chief executives, 95% chairs).

2. Regular review of governance practices by external experts (68% chief executives,58% chairs).

3. More flexibility with respect to board structures (50% chief executives and 33% chairs thought that chief executives should be voting trustees).

 

It goes on:

The role of the chief executive as a bridge – by Paddy Fitzgerald

In the third sector the general practice is for trustee boards where normally trustees are non-executive, chaired by an independent and with the chief executive, who is rarely a trustee, in attendance. Here the primary concerns of the trustees are the mission and future of the organisation, while shorter term issues are for the most part dealt with by a management committee chaired by the chief executive.

 

If this model is to work, the chief executive becomes the bridge between the future concerns of the trust and the short-term issues of the management committee. Most importantly, the chief executive will be responsible for overseeing the journey from short to long term and in deploying management resources to explore this and identify the issues along the way. In this way the chief executive brings to the attention of the trust shorter term questions requiring resolution, and engages the executive staff in the consideration of longer term matters.

 

This is a much more powerful vision than one of the chief executive as a non trustee

passively awaiting the instructions of his or her board. The bridge role requires positive engagement with the ability to exert powerful advocacy in both trust and management committee, and as leadership becomes less and less a matter of autocratic direction and more and more a matter of persuasion and shared endeavour, so it becomes vital that the chief executive is an inclusive member of both trust and management committee.

 

Trusts too should value the extra dimension provided by the sense of a unified team, and should welcome the chief executive as one of their own, for it is under these circumstances that the chief executive is most likely to engage other trustees most, chief executives cannot escape legal obligations placed on trustees since they will be judged as shadow directors with the same penalties in the event of any major problem, so it is in their interests to don the mantle of a Trustee and participate wholly.

 

The conclusion may be that the formal appointment as a trustee aids the chief executive in this bridge role and is one of the defining characteristics of the third sector. Recognition of this role for the chief executive is essential to staff appraisal and through this to the management and leadership programmes aimed at staff development and management succession.

 

 

On its FAQ’s – current – ACEVO lists the types of Board structure:

 

Q: What is the appropriate level of executive involvement in governance?

A: This relates to the structure of organisational boards. Board structures fall into four categories:

  1. The wholly executive board: found most often in small commercial companies. For obvious reasons, such boards usually struggle to offer any independent scrutiny of executive decisions. Such boards are rarely found in the non-profit sector, and it is unlikely that the Charity Commission would permit such a structure for registered charities.
  2. The two-tier board: found in parts of Europe, comprises a ‘supervisory board’ to represent stakeholder interests, and an ‘operational board’ to drive the organisation’s performance. Some charity boards may in practice resemble this structure, delegating operational decisions to a ‘senior management team’. However, a genuine operational board, unlike a senior management team, has a legally recognised governance role.
  3. The unitary board: classic model for business in the UK and Commonwealth countries, includes both executive and non-executive directors, with equal status. Despite the ambiguity concerning executive directors’ role, this model is recommended by many experts on corporate governance. The structure embodies the tension between conformance and performance. If working properly, it can combine executives’ detailed knowledge of the business with the more detached scrutiny of non-executives.
  4. The wholly non-executive board: found commonly in commercial companies based in the USA as well as in the British third sector. Third sector board member are usually, but not always, unpaid.
  5. Recognising that no one model will be perfect for every organisation, ACEVO recommends that its members conduct an audit of their governance arrangements, which should include an examination of governance structures as well as good practice.

ACEVO has not formally proposed a major change and has not acted on this serious issue – although it has a Reform Group which highlights the issue – http://www.acevo.org.uk/Policy+Advocacy/Activity/Governance . However, it is clear to me that the practice of CEO’s not being on the board is a serious deficiency and one that should be rectified across the board.

 

ACEVO – POLICY: UNITARY BOARDS

(From the ACEVO website)

Alongside paying trustees, the creation of unitary boards is one of the most controversial issues of governance debate within the third sector. Traditional third sector governance models have a two tier board system – an executive board (with employed directors) and a more strategic non-executive board of trustees. In comparison, the most common structure within private sector governance is the unitary board – where non-executives and executives combine to form a single structure.

The most commonly stated advantages of a two-tier system are the importance of an objective governance structure (the non-exec board) which can both examine issues at a strategic level whilst also remaining free of management influence.

However, many ACEVO members have reported that they do not believe a two-tier system is the most effective method of governance for their organisations and would like to combine all or part of the two boards to increase efficacy. This potentially offers great strength in combining the strategic views of the trustees with the organisational knowledge of the executives. This inter-action works because those involved are Directors and share a joint responsibility with full accountability in law.

In 2007, ACEVO invited Sir Rodney Brooke, Chair of the General Social Care Council, to chair a Commission of Inquiry into governance in the third sector. Improvement governance was found to be a major issue for the sector and often not focussed on enough by individual organisations. Other key findings included a general lack of board appraisal or training, poor trustee diversity and concern over the transparency and capacity of the sector’s governance. The Commission of Inquiry suggested that organisations should review their governance arrangements, the board structure being one of them, to ensure effectiveness and suitability. ACEVO strongly believes that each organisation should be able to adopt its optimal governance structure and is actively campaigning on this matter to reduce regulatory concerns around conflicts of interest.

Own comment: ACEVO should now actively promote CEO’s on to main Boards.

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