The board members of Lehman Brothers, Bear Stearns, AIG, and Merrill Lynch in 2008 read like a who’s who of American society. These were not renegade individuals who were personally making huge sums of money by taking outrageous gambles with other people’s money. They included captains of industry, university professors, public servants, and foundation trustees. Yet they presided over a disastrous set of decisions that nearly brought down the global financial system.
What went wrong? It is far too simple to blame it on individual failure. Who among us thinks that if only he or she had sat on the board of AIG that its collapse could have been prevented?
What we have is the failure of a governance system. We must ask ourselves a set of very tough questions: What are the barriers to effective board governance? How can they be overcome? What would have been required for these well-meaning individuals to have fully exercised the stewardship with which they were entrusted and which they sought to provide? How could they truly have ensured the long-term health of the institution for which they were responsible?
A corporation’s ability to nurture relationships and to build the reservoirs of goodwill that create the resilience to respond and adapt over time depends on its health as a social institution.
It is time to probe beyond the obvious and well-worn barriers. It is too easy to focus, for example, simply on the mismatch of time and expertise in seeking to exercise “lay” oversight of these large, complex institutions. More fundamental rethinking is required. We do not claim to have all of the answers, but based on our research and experience the outlines are clear. A more effective governance model will be based on three core characteristics:
- A redefinition of what a ‘healthy’ institution looks like—one that emphasizes sustainable long-term success
- Board insistence on a well articulated purpose and related performance goals, and set of values for the enterprise that provides a fundamental compass to ensure the enterprise stays on track
- Board oversight of how effectively the purpose, goals, and values are being realized throughout the organization, based on governance processes that ensure transparency and voice from deep within the organization
What should board governance be seeking to achieve? What metrics should directors use to know if they are performing their duties properly?
Clearly, it is not just quarterly financial performance. To effectively steward shareholder interests, boards need to be concerned about long-term value creation and the sustainability of performance. As anyone who has modeled corporate cash flows knows, the first three or even five years typically represent only a modest portion of the total value—the majority is in the terminal value.
David Langstaff, chairman of the advisory board of The Aspen Institute’s Business and Society Program, stresses the pervasive and corrosive impact of “short-termism.” It is even more invidious when it is the investors—those whose interests anchor the legal structure of corporate fiduciary responsibility—who are focused on the short term. In 2007, even before the recent financial meltdown, The Aspen Institute issued a set of guiding principles for corporations and investors to help refocus on long-term value creation.
Commitment: The Missing Ingredient
Equally fundamental is a shift from a predominant focus on financial performance to a broader definition of health that includes the quality of the corporation’s relations with key stakeholders. Corporations are social systems as well as economic systems: the quality of relationships matter. The consumer trust that is the basis for brand equity, the customer loyalty that shapes future purchasing, the employee loyalty that keeps high performers from leaving, the supplier relationships that differentiate Toyota from General Motors—these are all important predictors of long-term performance.
A corporation’s ability to nurture these relationships and to build the reservoirs of goodwill that create the resilience to respond and adapt over time depends on its health as a social institution; specifically, on its ability to generate high levels of emotional commitment, first and foremost from their employees, and then from customers, suppliers, and other key stakeholders.
The acid test for employee commitment, in the sense that we mean it, is whether the individual is prepared to put the interests of the firm ahead of their personal interests or those of their particular department or unit. If the focus is strictly on performance, then individual interests can increasingly dominate. Without the requisite commitment to the collective good, the firm becomes increasingly self-seeking, bound by the current power balance and entitlements, to the point that a great enterprise like General Motors can inexorably decline over a 30 year period.
At the extreme, without commitment individuals can become increasingly willing to take risks for personal gain that put the institution at risk. It is patently clear this is what happened inside Lehman Brothers, AIG, and so many of our other leading financial institutions, to the point they not only put their own institution at risk, but the entire financial system.
Equally fundamental is a shift from a predominant focus on financial performance to a broader definition of health that includes the quality of the corporation’s relations with key stakeholders.
Thus, corporations that are built to succeed over the long term are characterized not just by high performance, but also by high commitment.
Psychological and Performance Alignment
We describe these types of companies and what it takes to build them in a new book: High Commitment, High Performance: How to Build a Resilient Organization for Sustained Advantage.
High commitment, high performance companies are found in nearly every industry and sell a variety of products, but all achieve three core goals:
- Performance alignment. The company’s strategy is aligned with the requirements of its environment, and the company’s organizing approach, management processes, and culture are aligned to execute the strategy.
- Psychological alignment. Employees and other key stakeholders have a strong emotional commitment to the mission and the values of the firm.
- The capacity to learn and change. Externally, management is alert to the changing requirements for competitive success, while internally it is open to learning what is going right and wrong within company operations and leading the necessary changes.
Langstaff elaborates on the central role of mission and values in psychological alignment: “If people believe they work for a company that is doing something worthwhile and has clear values that they can embrace with no compromises, they will be happier, more energized, and more committed,” he says.
Langstaff also describes how psychological alignment was central to the strategy of Veridian, a government defense contractor (now part of General Dynamics), where he was formerly the CEO. “We wanted to brand ourselves throughout the industry as the employer of the best, most innovative, and customer responsive people,” he says. “Our goal was to create an extraordinary work environment for our employees. When we lost a contract, I wanted our people to prefer to stay with Veridian, rather than move on with the contract to the winner, as is customarily done.”
Veridian derived competitive benefit from this practice. “I wanted customers to know that if they chose against us, they could not count on having our talent move to the next contractor,” Langstaff says.
He then illustrates the distinction between performance alignment and psychological alignment. A defense contractor purely focused on short-term financial performance, he notes, would pursue any profitable work they could expect to win—and a number of companies have followed exactly this strategy.
But a focus on psychological alignment would lead them to be far choosier in the kind of work they took on out of concern for their implicit contract with employees. “Is having all employees on the same benefit plan important to you?” Langstaff asks. “Is investing in training and development and giving all employees access important? Is employee retention a core value? If so, there are some kinds of work that you’d better not get into, because you won’t be able to afford to do all those things and compete cost effectively.”
To achieve psychological alignment is not simply a question of human resources policies. It starts with a compelling corporate purpose that gives meaning to work and a set of values that people identify as consistent with their own personal values. It extends to the fundamental ways the company is operated.
“To deliver this work environment,” Langstaff notes, “we needed to break down internal barriers to collaboration and open lines of communication. I wanted every employee to feel that they were supported by, and could deliver, the strength and capabilities of the entire corporation.”
What is true for a technology and professional services business like Veridian, also turns out to be true for airlines, steel, or any number of other industries. Companies like Southwest and Nucor that are able to combine psychological alignment, performance alignment, and the capacity to learn and adapt are the ones best able to sustain long-term performance.
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