“Developing Governance and Leadership Performance in

the Public Sector”

CPA Australia’s Public Sector Governance and Accountability

Symposium

Brisbane, 6 December 2004Professor Bryan Horrigan

Professor, School of Law, University of Canberra

Director, National Centre for Corporate Law and Policy Research

Consultant, Allens Arthur Robinson

Former Deputy Director, National Institute for Governance

OverviewCorporate governance concepts, elements, and dimensions

Impact of the public-private divide on corporate governance

Corporate governance milestones, lessons, and emerging issues across the public and private sectors

Post-Uhrig roll-out of federal public sector corporate governance reforms

Special challenges for corporate, executive, and advisory boards in the public sector

Latest empirical research on the drivers of good corporate governance and performance

Presenter’s ExpertiseCurrent ARC research grant on corporate governance in the federal public sectorPrevious ARC research grant on governance and liability of state GBEsFormerly Deputy Director of the National Institute for Governance (eg public sector governance roundtables, consultancies, and research/training)Consultant to national law firm on governmental and business mattersCurrently teaching corporate governance at masters and MBA levelsPublished research on corporate governance in both private sector and public sector contextsContact: bryan.horrigan@canberra.edu.au; mobile 0421 702059

Corporate Governance Elements …

Standard Private Sector View

StrategyResourcingConformancePerformanceAssuranceAccountability

Shareholders/ownersStakeholders

Inner circle (eg employees, creditors, suppliers, financiers)Outer circle (eg regulators, customers, peers, society)

Public-Private Divide …

Recent Corporate Governance MilestonesPrivate Sector:

Enron, HIH, One.Tel, Ansett corporate collapsesUS Sarbanes-Oxley Act reformsUK Higgs report (non-executive directors)HIH ReportASX CGC Corporate Governance guidelinesCLERP 9 – corporate disclosure and auditingASIC cases on directors’ duties and/or business judgments – Rich, Whitlam, Adler (NB CAC Act impact?)

Public Sector:UK Nov 2004 ‘Building Better Boards’ (non-departmental public bodies)Uhrig Report on key agencies’ governanceNew ANAO ‘better practice’ corporate governance guidesGovernmental customisation of ASX principles (eg Victorian Treasury)

Public Sector v Private Sector

Orthodox view – some things the public sector can learn from the private sector (eg commercial imperatives, corporate boards)Growing realisation – some things the private sector can learn from the public sector (eg “triple bottom line” performance, stakeholder engagement)Some core corporate governance elements across both sectors (eg accountability, compliance, performance) but within different contextsHybrid model of corporate governance straddling public/private divide (“if you cross a fish with a human you get something which is neither one nor the other - a mermaid! – so don’t try to put round pegs in square holes”)

Eg Ministerial v Other Shareholders

Ministers are exclusive/dominant shareholders

Ministers don’t trade their shares in the market

Ministers’ shareholdings are held on public trust

Ministers can issue directions

Ministers influence law-making, policy, and regulation affecting the organisation and the markets in which it competes

Ministers have multiple accountabilities across multiple constituencies (eg departments, parliament, cabinet, government, electorates, public)

CORPORATIONS ACT 2001 SECT 180

180 Care and diligence--civil obligation only Care and diligence—directors and other officers (1) A director or other officer of a corporation must exercise their powers

and discharge their duties with the degree of care and diligence that a reasonable person would exercise if they: (a) were a director or officer of a corporation in the corporation's

circumstances; and (b) occupied the office held by, and had the same responsibilities

within the corporation as, the director or officer. Note: This subsection is a civil penalty provision (see section 1317E).

Business judgment rule  (2) A director or other officer of a corporation who makes a business judgment is taken to meet the requirements of subsection (1), and their equivalent duties at common law and in equity, in respect of the judgment if they: (a) make the judgment in good faith for a proper purpose; and (b) do not have a material personal interest in the subject matter of the judgment; and (c) inform themselves about the subject matter of the judgment to the extent they reasonably believe to be appropriate; and (d) rationally believe that the judgment is in the best interests of the corporation.  The director's or officer's belief that the judgment is in the best interests of the corporation is a rational one unless the belief is one that no reasonable person in their position would hold.

Note: This subsection only operates in relation to duties under this section and their equivalent duties at common law or in equity (including the duty of care that arises under the common law principles governing liability for negligence)—it does not operate in relation to duties under any other provision of this Act or under any other laws.  (3) In this section: business judgment means any decision to take or not take action in respect of a matter relevant to the business operations of the corporation.

COMMONWEALTH AUTHORITIES AND COMPANIES ACT 1997 - SECT 22 Care and diligence—civil obligation only

Care and diligence—officers

(1) An officer of a Commonwealth authority must exercise his or her powers and discharge his or her duties with the degree of care and diligence that a reasonable person would exercise if he or she:

(a) were an officer of a Commonwealth authority in the Commonwealth authority's circumstances; and

(b) occupied the office held by, and had the same responsibilities within the Commonwealth authority as, the officer.

Note: This subsection is a civil penalty provision (see Schedule 2).

Business judgment rule(2)

An officer of a Commonwealth authority who makes a business judgment is taken to meet the requirements of subsection (1), and their equivalent duties at common law and in equity, in respect of the judgment if he or she:

(a) makes the judgment in good faith for a proper purpose; and

(b) does not have a material personal interest in the subject matter of the judgment; and

(c) informs himself or herself about the subject matter of the judgment to the extent he or she reasonably believes to be appropriate; and

(d) rationally believes that the judgment is in the best interests of the Commonwealth authority.

The officer's belief that the judgment is in the best interests of the Commonwealth authority is a rational one unless the belief is one that no reasonable person in his or her position would hold.

Note: This subsection only operates in relation to duties under this section and their equivalents at common law or in equity (including the duty of care that arises under the common law principles governing liability for negligence)—it does not operate in relation to duties under any other provision of this Act or under any other laws. (3)

In this section: business judgment means any decision to take or not take action in respect of a matter relevant to the operations of the Commonwealth authority.

Main Directors’/Officers Duties•Act in entity’s “best interests”

•Use care & diligence to the standard of a reasonable director in your position (s22 CACA, s180 CA)

–“Business judgment” defence applies (s22 CACA, s180 CA)

•Act in good faith & for proper purposes (s23 CACA, 181 CA)

•Don’t misuse position to gain personal advantage or cause harm to entity (s24 CACA, s182 CA)

•Don’t misuse information to gain personal advantage or cause harm to entity (s25 CACA, s183 CA)

•Disclose material personal interests (ss27F-K CACA, ss191-196)

•Avoid conflicts of interest/duty

•Don’t trade while insolvent (s592 CA)

•Oversee and monitor regulatory compliance in general

•Comply with reporting, auditing, accounting, & disclosure obligations in particular

•Advise management on strategy

•Oversee management performance

Multiple BJRs

• BJR defence to breach of duty of care/diligence (CACA & CA)• Preconditions for directors’ reliance on information/advice (CACA & CA) • Judicial discretion to relieve directors of liability (CACA & CA)• Judicial relief against directors acting contrary to corporate rules, especially

for proposed conduct (CA)• Preconditions for statutory derivative action by members (CA)• Showing reasonable grounds to expect solvency, reasonable reliance, &

reasonable steps to prevent incurring of debt re proceedings for corporate taxation liabilities (CA)

• Defences to breach of director’s duty to prevent insolvent trading (CA)• ‘Due diligence’ defence to personal liability for being ‘knowingly involved’

in a corporate disclosure contravention (CLERP 9 & CA)• +ve judge-made rules deferring to directors’ commercial judgments about

corporate benefit & best interests (general law)• -ve judge-made rules which second-guess directors’ commercial judgments

(eg exceptions to “indoor management” assumptions about directors performing their duties)

The Uhrig Report and Beyond …

Public Sector Governance Concerns (including Cth A-G’s

concerns)Past:Legal & procedural complianceAgency/governmental budgeting/fundingFinancial auditing/reportingFormal governance structures/processesExecutive boards for agencies/bodies

Future:Program outcomes (Barrett)Better performance measurement (Barrett)Uhrig Report application across the sectorIntegrating ‘hard’ & ‘soft’ governance factorsParticipatory governance & stakeholder engagementHorizontal governance (ie cross-organisational cooperation, whole-of-government perspectives, and inter-departmental relationship management)

Post-Uhrig Implementation & Other Issues

Flow-through beyond key agencies (eg Centrelink, ATO, ACCC) to the federal public sector generallyGreater differentiation between ‘corporate board’ and ‘executive management’ structuresReservation of ‘corporate board’ model for commercial functions/activitiesBringing more federal public bodies back under departmental control/supervisionEnhancing reporting/supervisory lines between semi-autonomous public bodies and departments/Secretaries, as ministerial portfolio advisersDepartmental audits to match their portfolio responsibilities/entities to the new Uhrig regime and templates

Uhrig Report’s Strengths

Recognition of the weakness of purchaser-provider model internal to government

Recognition of need to confine the use of boards to entities whose management can properly be undertaken by a corporate board

Recognition of the need to streamline the range of different governmental organisational types across the federal public sector

Putting board-department-minister relationships under the microscope

Post-Uhrig Critiques (eg Wettenhall)Internal, non-public inquiry (cf public/stakeholder consultation)

Simply the latest in a line of developments covering the tension between “central agency” and “line department” thinking on degree of independence from direct executive government controlAdoption of “back to first principles” approach without adequate reference to previous public reports or wider engagement with literature and existing/alternative public sector governance modelsHeavily draws on private sector expertise and perspective (ie “the tail that wags the dog”)Views “governance” narrowly rather than broadly, in the sense of an instrumental approach to governmental oversight, control, and accountabilityThe simple “Board Template” v “Executive Management Template” Dichotomy inadequately accommodates the needs of particular bodies for arm’s length relationships from governmentWould a Uhrig-type approach deal with the real governance difficulties involving entities like the National Museum of Australia, the ABC, the ABA, ATSIC, and HREOC?

Deloitte’s 2005 Public Sector Developments

Improved service delivery (including e-government)

Enhanced cooperation for security and defence

Attention to socio-economic costs (eg health, welfare) of an ageing population

Spread of CLERP 9 and Sarbanes-Oxley Act governance/accountability reforms from the private sector to the public sector

“Government by networking”, including inter-agency cooperation and public/private cooperation in infrastructure and service delivery

(Source: “The Gradual Demise of the Strongman”, AFR, 19/12/04, at p 68)

2003 NIG Federal Public Sector Study – Key Governance Issues Nominated

by IntervieweesAwareness of new governance dimensions and “best practice”Different board concepts in FMA agencies and CAC bodiesBoard appointmentsConflicts of roles and representational interests for board membersGovernance expertise of board appointeesInteraction between government policy and board autonomyNeed for protocols in Minister-Board-Agency comunicationWhole-of-government perspectives/issuesCross-portfolio and cross-governmental policy coordination

2004 UK Performance Evaluation Framework for Non-Departmental

Public Bodies (NDPBs)Framework = 3 Elements (I-III), broken down into 8 Components (1-8), broken down into discrete “Good Practice” guideline per component, broken down into numerous “Indicators of Strong Performance” per guideline I. Structures and Functions:

1. Executive NDPB Function and Purpose2. Board Function and Position3. Fit for Purpose Board

II. Actions and Behaviours:4. Effective Board Leadership5. Effective Decision-Making6. The Board’s Relationships

III. Evaluating Performance:7. Evaluating Board Performance8. Evaluating Board Member Performance

Staying Ahead of Corporate Governance Developments in

the Public Sector2003 Uhrig Report and 2004/2005 implementationConflicts and Tensions in Commonwealth Public Sector Boards (NIG, 2003)Current Issues in Public Sector Governance (NCCLPR and NIG, 2003)Building Effective Boards: Enhancing the Effectiveness of Independent Boards in Executive Non-Departmental Public Bodies (UK Treasury, 2004)Revised 2003/2004 ANAO “Better Practice” guides on corporate governancePublic Sector Governance – Australia (2004, CCH)Government by Network: The New Public Management Imperative (2004, Deloitte and Harvard JFK School of Government)ARC-funded federal public sector corporate governance research project (http://www.blis.canberra.edu.au/corpgov%2Daps/whatsnew/default.htm)

Boards v Executive Management …

Key Questions – Linking Corporate Governance and Board/Executive

Performance What do CLERP 9, the ASX CGC principles, & Uhrig

focus on?Which governance dimensions?“Hard” v “soft” measures of governance?

What evidence is there for this regulatory focus? Which board dimensions matter most? What is the relationship between good organisational

governance/performance and good board governance/performance?

What is the relationship between good corporate governance & good corporate performance?

What is the relationship between bad corporate governance & bad corporate performance?

Are these relationships different? What evidence is there for this in practice?

Factors Affecting Evidence

• Timescale

• Economic climate

• Choice of jurisdictions

• Choice of companies

• Choice of corporate governance features

• Causal relations

• Pre-2003/4 - Post-2003/4

“Hard” v “Soft” Governance? (eg

Edwards)“Hard” Measures:

One-tiered v two-tiered boards (eg European model)

Separation of Chair/CEO roles

Split/rotated audit functions

Number of independent/non-executive directors

Range of board committees

Transparent board recruitment processes

Non-binding shareholder vote on executive remuneration

“Hard” v “Soft” Governance?

“Soft” Measures:Roles, responsibilities, & relationships

Dangers of “group think”

Board cultures, trust, & open dissent

Information and communication flows (upwards, downwards, & sideways)

Qualitative directorial skills, qualifications, competencies, & behavioural types

Board, committee, & leadership dynamics

HIH Report – CG Aspects

HIH Report suggests correlation between bad corporate governance and bad corporate performance (and possible liability), eg:

Lack of clearly defined and recorded policies and procedures

Absence of adequate board analysis of future strategy

Board domination/intimidation by CEO

Inadequately defined limits on CEO’s authority

Over-reliance by board on advice/information from senior management

Failure of middle management to accept responsibility

Too much ‘I just prepare the information/report but don’t have to sign it’ and ‘I sign and rely on information/report prepared by others’ buck-passing between middle/senior management

Inadequate internal ‘whistle-blowing’ mechanisms

Unclear understanding of legal obligations involving corporate groups

Inadequate understanding/handling of conflicts of interest

Inadequate corporate governance culture internally

Interim Results (“The Jury’s Still Out”)

No/little correlation between formal board structures and financial performance aloneGood corporate governance is a necessary but not sufficient condition for good corporate performance (ie “good corporate hygiene”)But what exactly constitutes “good corporate governance” is a combination of mandated frameworks, organisation-specific features, and context-dependent dynamics (ie no “one size fits all” best practice model)Both board/organisational effectiveness tied to interaction between “hard” and “soft” corporate governance measures (ie having the right blend/mix)Some organisations/boards prosper despite the non-conformity with standard/regulated “hard” measures, and some organisations/boards who can tick those boxes still do not have good governanceStrong correlation between bad corporate governance and bad corporate performance (eg setting up preconditions for breach of duties and inability to rely on “business judgment” defences)

Boards - Private Sector Model

ManagingDirector

ExecutiveDirectors CEO

Non-ExecutiveDirectors

2nd-Tier Board

Management

Committees

Board

Directors

Stakeholders

NGOs

ParticipatoryGovernance

ParliamentaryCommittees

PublicAccountability

Measures

PublicInterests

MinisterAdvisoryCommittee

BoardCommittees

CEO/Secretary

Executive Board(Sub-Department Heads)

Boards - Public Sector Model

Corporate Boards v PS Executive Boards

Secretary/CEO/MD has ultimate/shared responsibility?

Board members have consultative/decision-making roles?

Board members have statutory/directors’ duties for which they are personally liable?

Board members are wholly internal/external?

Board members are subject to formal/informal ministerial direction/influence in terms of appointment, decision-making, & dismissal?

Board members have other/ministerial roles?

Board members have little/much control over their Secretary/CEO/MD?

Board members are/aren’t answerable directly to the Secretary/CEO/MD?

Corporate Governance and Corporate Financial

Performance

BoardStructure

?

?

BoardEffectiveness

CorporateFinancial

Performance

(Source: Richard Leblanc and James Gillies, 2004)

As Professor Leblanc identifies, the empirical evidence from overseas suggests that board effectiveness at least depends upon the interplay between board structures, board composition, and board processes, while the correlative effectiveness of directors rests on the interplay between directorial independence, directorial competence, and directorial behaviour

What the Experts Say – Leblanc (2004)

Board Effectiveness = Board Structure + Board Membership + Board Process

Board structure (eg size/range of committees, balance of independent/non-executive directors)

Board membership/composition (eg mix of directorial experience & skills)

Board processes/practices (eg information-gathering, information-analysis)

Corporate Financial

Performance

Board Process

Board Membership

Board Structure

Board Effectiveness

Board Tasks

?

(Source: Richard Leblanc and James Gillies, 2004)

Board Preparation

Board Practices

Board Culture

Board Relationships

Behavioural

Structural

Board Regulation

Board Structure

Board Composition

Board Functions

Board Outcomes

Board Performances

Board Effectiveness

Board Practices/Process

Board RelationshipsBoard

Committees

BoardRecruitme

nt

Informal

Substance

“Soft”

Intangible

Behavioural

Substructure

Formal

Form

“Hard”

Tangible

Structural

Superstructure

Board Decision-Making Board

Information

BoardPersonalitie

s

BoardCulture

BoardBehaviou

rBoard

Integration

BoardRoles

?

?

LeadershipStrategy

ResourcesConformancePerformanceAssurance

Accountability

Board Size

BoardIndependence

BoardFunctions

Board Composition

The Bottom LineIn other words, you probably need to focus on structural/procedural/compliance factors like having an audit/remuneration/corporate governance committee as a bare minimum, but those things alone are no guarantee of board effectiveness or organizational performance, having them does not matter if they do not work well, and whether or not they work well is more likely to be a product of “soft” factors

Corporate Governance Standards …

ASX CG Principles

1‘Lay solid foundations for management & oversight’Eg formalise/disclose management/board functions/roles

2 ‘Structure the board to add value’Eg majority of independent directors

Eg Chair to be independent director

Eg establish nomination committee

3 ‘Promote ethical and responsible decision-making’Eg establish code of conduct

Eg disclose policy on trading in company securities

4 ‘Safeguard integrity in financial reporting’Eg require CEO/CFO sign-offs on company’s financial reports

Eg establish audit committee, with only non-executive directors & a majority of independent directors

ASX CG Principles cont’d

5 ‘Make timely and balanced disclosure’Eg written policies/procedures implementing ASX Listing Rule requirements

6 ‘Respect the rights of shareholders’Eg external auditor to attend/answer at AGMs

7 ‘Recognise and manage risk’Eg establish policies on risk oversight and managementEg written certification from CEO/CFO to board

8 ‘Encourage enhanced performance’Eg disclose performance evaluation criteria/process for board, board committees, individual directors, and key executives

ASX CG Principles cont’d

9 ‘Remunerate fairly and responsibly’Eg establish board remuneration committee

Eg disclose to investors (i) the company’s remuneration policies, (ii) costs/benefits of those policies, and (iii) link between corporate performance and remuneration paid to directors/executives

10 ‘Recognise the legitimate interests of stakeholders’

Eg establish/disclose code of conduct including legal and other obligations to stakeholders