ESG – Governance – What can compromise the board’s effectiveness?

Ineffective boards (BOD) are often characterised by a number of problematic phenomenon.

• Unquestioned leadership – This is when the board just follow the leader (the chairman) without thinking themselves. It is known that groups tend to follow the leader.
• Blindness of concentration – This is when the board is a cohesive group where no member is independent. What can seem an obvious problem for an independent newcomer, may not be seen like that from a long standing board member that is not independent.
• Overconfidence – Old board compositions are at risk of overestimating their abilities and be too optimistic about the outcome of their decisions. Fallacy of planning comes in here.

For the points here above, it is clear that clear policies on board reelection, maximum board longevity for a member, board independence are all important factors. And we demand this from the boards.

Some other under-categories that can severely compromise the board effectiveness are:

• Groupthink – Unless different opinions are stimulated and welcome in the discussion, dissidents tend to disappear.
• Sunk costs – It is hard to admit a decision was wrong, and there is a risk the error is withheld.
• Confirmation bias – We stand with our beliefs, despite all the information we receive should make us change opinion
• Excessive optimism – We underestimate the possibility that things go wrong as we overestimate our own capabilities
• Loss version – Pain from losses are double the gain from wins, this is why we see companies double up or nothing in problematic situations
• Other elements – Anchor, Halo effect…

As we work with small companies where the split between the board and the management is very thin if it exists at all, very little focus is on the above problematic elements. This is a mistake and a well run company that wish a long term sustainable business model, must have at least knowledge of what negative outcomes the above problems can lead to; bad not thought trough decisions that take down a company. If not short term, it may in the long run. ESG research is about the long term business model sustainability.