How to be an Effective Board Member

Speech by Commissioner Roel C. Campos, U.S. Securities and Exchange Commission, presented at the HACR Program on Corporate Responsibility in Boston, Mass., August 15, 2006

Good evening. I'm honored to be invited to speak to you this evening in my old stomping grounds. A trip to Beantown is always high on my list but particularly when it includes speaking at Harvard. Tonight I'd like to thank Carlos Orta and Rima Matsumoto for that opportunity. HACR has truly been a visionary organization when it has come to the role of Hispanic inclusion in corporate America. As a watchdog of the industry, the regular reports produced by, and conferences hosted by, HACR have been a powerful tool in taking the industry to task for its failure to quickly embrace diversity.

I also wish to give a special thanks to Professor Jay Lorsch, who has been committed to training directors at Harvard's Director School and promoting diversity on boards. And, I commend Harvard Business School for recognizing the importance of providing an avenue for meeting the goal of minority representation. The Executive Education Program on Corporate Governance has created a feeder pool of highly qualified candidates to serve as directors on corporate boards. This has eliminated one more excuse for those who are slow to grasp the benefits of diversity and to open their eyes to the realities of the current socioeconomic evolution. What is that reality? It is that by 2009, nearly one person out of every six in the US will be of Hispanic origin, and that doesn't even speak to the minority population as a whole. So, again, I thank HACR and Harvard Business School for hosting this conference and inviting me to address you.

Before I go any further, I must disclose that the comments I make tonight are my own and do not represent the Commission or my colleagues on the Commission or staff.

Now, I'd like to turn the extremely important topic of "How to be an Effective Board Member." I think Justice Black may have said it best when he said, "The law has no place for dummy directors" and "Directors should direct." These are simple words with powerful messages.

Yet many would argue that Boards of Directors have maintained an unhealthy distance from business decisions of their public companies. Boards—and particularly outside directors—were conceived of as the shareholders' representative, yet too often, they are dominated by associates and friends of senior management. Moreover, board membership too frequently has been viewed by outsiders as an honor or a perk instead of a substantive job. Many outside directors have lacked expertise in the relevant industry, and in accounting and financial reporting issues. Thus, Boards were too rarely equipped to uncover and derail the determined efforts of management to cook a company's books.

In addition, directors, too often took the approach of keeping themselves distanced from things they "did not want to be aware of." This approach is not acceptable. Directors must ask the tough questions and get involved. And most importantly, when something that should raise an eyebrow comes to the attention of a director, that director must follow up and investigate. The director cannot ignore red flags, or even pink ones. In fulfilling the role of an effective director, an individual must take a proactive approach, going beyond the minimum legal obligations.

Legal Obligations
But, let's look at those legal obligations first. As fiduciaries, directors must exercise a duty of care and a duty of loyalty. Without going into the legal minutiae, the duty of care generally requires directors to exercise an objective, reasonably prudent standard of skill and care in the discharge of their functions. This obligation includes an oversight responsibility to see that the corporation functions within the law to achieve its purposes. The duty of loyalty binds the director to act in good faith and in the best interests of the corporation, prohibiting the director from placing him or herself in a position in which duties to the corporation and personal interests conflict.

The breadth of these obligations is tempered by the "business judgment" rule. As you know, this rule creates a presumption that in making a business decision, a director acted on an informed basis, in good faith, and in the honest belief that the action taken was in the best interests of the corporation—so long as the director considered all material information reasonably available and the decision can be attributed to a rational business purpose. The impact of this somewhat wordy presumption is that a court, and, for that matter, the Commission, will not second guess the director's decision if there is a good faith business determination—even if the business result was not a good one. If the directors exercise their due diligence—and I realize there is room for discussion on what that might include—the courts and the Commission traditionally have deferred to the directors' discretion. Let me emphasize that facts and circumstances usually warrant a different outcome to this formula when fraud is involved, but that moves us outside of the business judgment rule.