Optimizing the director's role in governance

RMA Journal, The, May, 2003 by Vaughn Pearson, Lee Clancey

A member of a community bank board of directors joins the author in this second of two articles on board governance and selection. No couch potatoes need apply for what will be a lot of hard and often unglamorous work, and the bank must be responsible for helping new directors gain the knowledge and sensitivities required to do a good job.

Effective board governance does not just happen. Rather, it takes a conscientious effort by both the director and executive management to define roles, hone director skills, and execute responsibilities. Even if the organization has exercised prudence in its process for identifying and selecting board members, good governance will not necessarily result. Such elements are precursors to proper board oversight, but effective governance and optimal contribution take significant additional effort.

Director Assimilation

Visionary and objective decision making on the part of directors constitutes one element, but many directors, especially new ones, are ill prepared to make meaningful contributions for over the long term. The process of preparing board members to fulfill their responsibilities should begin with effective orientation for new board members.

New outside board members typically bring strength from their chosen professions and active involvement in their communities and marketplaces, but they do not necessarily possess knowledge of the banking industry.

Proper bank governance incorporates the application of individuals' professional capabilities into the financial services environment. Too often, however, preparation for board membership consists of a luncheon with the chief executive officer, during which little of substance is discussed other than the willingness to serve. Then, a few days before the initial board meeting, the new board member receives a few hundred pages of material (affectionately known as the Board Book), causing stark realization--and outright panic--about what might actually be expected. The result is predictable: passive participation at best or, more probably, awkward silence.

Directors often take an extended period to contribute effectively to their respective boards; some say it takes as long as three years. That is an unacceptably long period during which skills and talents are being underutilized. Good board orientation enables board members to use their skills and talents far more quickly.

To get new members on board and working effectively as soon as possible, board orientation should begin with an adequate overview of the bank. Management should brief new board members on the organization--key people within the bank and their respective roles, key strategies and current issues, and the kinds of risks they will assume as board members. Members should receive appropriate documents and manuals that outline their responsibilities. To ease assimilation, each should be assigned a seasoned board member who can serve as a mentor to answer questions and provide guidance.

New board members also should be provided with information regarding the basics of the banking industry. Providing a glossary of banking terms and definitions is vital. Terms such as ALCO, ROA, major asset categories (remember, bankers are the only ones who think loans are assets and deposits are liabilities), relationships or products and services per customer, noninterest expenses, and efficiency ratio are unique to the banking industry. Such terms probably are not familiar to outside directors who have not had the benefit of day-to-day exposure to the industry or the organization.

Beyond such basics, information is needed that enables directors to understand and appreciate the implications of the bank's business and its position in the market, an incoming director should review the most recent bank examination and comparative data of similar-size banks in the same geographic area. The director also should become familiar with the regulatory structure under which the bank operates and the regulators who oversee and conduct periodic examinations.

Continuing Education

Orientation is only a first step, as board members must have a working understanding of the technical, operational, and financial challenges that confront the bank. Lacking daily contact with the bank, directors are often at a disadvantage if they are not given adequate and appropriate information-along with requisite explanations--in a timely manner. Education and continuous improvement are musts.

Director education programs have become integral to the effective governance process. Dr. Scott MacDonald, head of the Assemblies for Bank Directors at Southern Methodist University, counsels potential bank directors, "Being a good bank director is a very complicated job. Don't take it if you're not willing to go back to school. Couch potatoes need not apply."

Fortunately, numerous self-help educational opportunities are available, especially for those willing to take the initiative, and the regulatory authorities are playing a leading role. The FDIC's Web site (www.fdic.gov) includes many resources and topical information on its Directors Corner page. Basics for Bank Directors by Forest E. Myers is especially helpful on bank soundness issues through its explanation of CAMELS (capital, asset quality, management, earnings, liquidity, and sensitivity to market risk). It is available in electronic form on the Federal Reserve Bank of Kansas City's Web site (www.kc.frb.org). The OCC, for the third consecutive year, is sponsoring several one-day director programs, called Workshop for Commercial Bank Directors: Understanding the Risk Assessment Process. The OCC also offers a group of publications--including The Director's Book: The Role of a National Bank Director--in its National Bank Director's Toolkit. (1)