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Syllabus B. Governance B5. The Board Of Directors

B5c. NEDs

Non Executive Directors (NEDs)

NEDs have no executive (managerial) responsibilities.

The key role is to reduce the conflict of interest between management (executive directors) and shareholders by providing the balance to the board.

NEDs bring an independent viewpoint as they are not full time employees.

Roles and Responsibilities

The Higgs Report (2003) described the function of non-executive directors (NEDs) in terms of four distinct roles.

  1. Strategy role

    NEDs are full members and thus should contribute to strategy. They may challenge any aspect of strategy they see fit, and offer advice

  2. Scrutiny role

    NEDs should hold executive directors to account for decisions taken.They should represent the shareholders’ interests

  3. Risk role

    NEDs should ensure the company adequate internal controls and risk management systems

    This is often informed by prescribed codes (such as Turnbull) but some industries, such as chemicals, have other systems in place, some of which fall under International Organisation for Standardisation (ISO) standards.

  4. People role

    NEDs should oversee issues on appointments and remuneration, but might also involve contractual or disciplinary issues.

Independence

The Code states as a principle that the board should include a balance of NEDs and executives. 

The board should ensure any NED is truly independent in character and  judgement by:

  • not being an employee of the company within the last 5 years

  • not having a material business relationship with the company in the last  3 years

  • not receiving any remuneration except a director’s fee

  • not having any family ties with the firm

  • not holding cross directorships with other directors

Cross directorships

When two (or more) directors sit on the boards of the other.

In most cases, each director’s ‘second’ board appointment is likely to be non-executive.

This can compromise the independence of the directors involved. For example, a director deciding the salary of a colleague who, in turn, may play a part in deciding his own salary

It is for this reason the cross directorships are explicitly forbidden by many corporate governance codes

Advantages of NEDs

The main  advantages of bringing NEDs onto a board are as follows:

  1. Monitoring to reduce the excesses of executives.

  2. External expertise

  3. Perception: Company is perceived more trustworthy

  4. Communication: improvement in communication between shareholders interests and the company.

  5. Independent view

  6. compliance with corporate governance code

Disadvantages of NEDs

  1. Lack of trust can affect board operations

  2. Quality: there may not be many appropriately qualified NEDs around

  3. Liability: Poor remuneration and liability in law might reduce potential NEDs further