From ‘Tone at the Top’ to ‘Checks and Balances’

Fulfilling Responsibilities

It was only a relatively short time ago that senior management wanted little, if any, outside involvement. Even when outside directors were on boards, they were often not selected for their management or technical skills, particularly skills applicable to the firm itself. There was a continuing problem that board members often focused on the prestige of their role rather than the performance of their responsibilities.

Courtney Brown, former Dean of the College of Business at Columbia and a board member of several well-known companies, highlighted this issue in the preface of his 1976 book, Putting the Corporate Board to Work (MacMillan, 1976). Over the years, this problem has increasingly been recognized. The recent travails of Wells Fargo Bank and Boeing illustrate the conflict. Two articles by members of the Grace & Co. Board of Advisors, both published in the ABA’s Business Law Today, dealt with these scandals and are referenced here. They described the effective removal of all of Wells Fargo’s directors by the Board of Governors of the Federal Reserve based upon their lack of performance, and the balanced, but scathing, review of Boeing’s board’s actions and lack thereof by Vice Chancellor Zurn with respect to the loss of 346 passenger lives in two Boeing 737 MAX crashes and other safety lapses (H. Stephen Grace Jr., S. Lawrence Prendergast, and Susan Koski-Grafer, “Board Oversight and Governance: From Tone at the Top to Substantive Checks and Balances,” Business Law Today, Feb. 14, 2019,  Suzanne H. Gilbert, H. Stephen Grace Jr., and S. Lawrence Prendergast, “Boeing and the Ongoing Evolution of Director Responsibilities,” Business Law Today, Dec. 14, 2021,  To underline the seriousness of the latter lapse in corporate governance, US District Judge Reed O’Conner, said that “Boeing’s crime may properly be considered the deadliest corporate crime in US history” (David Shepardson, “Boeing 737 MAX Plea Deal Withstands Challenge from Crash Victims’ Families,” Reuters, Feb. 10, 2023, 

In spite of the exhortations by Brown and others, many attempts at improving corporate governance have continued to focus on improving the “tone at the top,” stressing the need for improved character, integrity, and responsibility—primarily on the part of senior management. These efforts have failed to take into consideration the guidance provided by the courts and regulators regarding the ultimate responsibility of the board of directors. For example, in his May 2005 University of Pennsylvania Law Review article, “What Happened in Delaware Corporate Law and Governance from 1992-2004? A Retrospective on Some Key Developments,” Delaware Chief Justice Norman Veasey stated, “The board of directors will actually direct and monitor the management of the company, including strategic business and fundamental structural changes.”

Delaware Chancery Court Chancellor William B. Chandler, III in his opinion in the well-known Walt Disney shareholder derivative litigation involving the hiring and subsequent termination of Michael Ovitz, stated, “Delaware law is clear that the business and affairs of a corporation are managed by or under the direction of its Board of Directors” (In Re the Walt Disney Company Derivative Litigation, §IIA, “The Business Judgement Rule,” p. 107, 

Learning from History

The focus on tone at the top unfortunately has ignored the lessons of history. Experience has long shown that governing structures which consolidate power and authority into fewer and fewer hands—while conceptually attractive in terms of potential efficiency and effectiveness—have consistently failed to meet these conceptual ideals. Monarchies and dictatorships have prevailed throughout the history of political governance, although they have consistently failed. Such failures have led to the evolution of a democratic form of government, which, despite its seemingly time-consuming routine of checks and balances, has proven thus far to be the most effective form of government in the age of industrial and technological economies.

The shift to an improved set of checks and balances in corporate governance is under way. Recognizing the situation-specific nature of each governance structure, the key elements of the governance structure—the board, board committees, senior management, the internal auditor, the external auditor, and others—must closely examine their roles, responsibilities, and relationships with the various elements within their respective governance structure.

In the authors’ view, senior management, the board, and board committee roles and relationships must be defined and understood in the light of checks and balances. The board, with and through its audit and other committees, must accept the ultimate responsibility for ensuring the quality and integrity of the risk and control environment. While the external auditor is an essential element, its role should be understood within the context of board responsibilities.

The intensified level of interest in improved corporate governance and the shift toward improving checks and balances is not a passing fad. In both advisory and litigation capacities, it has become apparent that institutional investors, individual investors, insurers, and the plaintiffs’ bar are focused on the requirement that each element of the corporate governance process recognize and fulfill its respective responsibilities. The sizable settlements in recent high-profile litigation, like Wells Fargo and Boeing, confirm this.

Institutional investors have long called for all involved parties to recognize their responsibilities. Individual investors, many of whom are now directly responsible for the management of their savings and retirement benefits, have joined this chorus. Insurers have seen directors’ and officers’ insurance lines incur significant losses. These insurers are now not only considering significant premium increases, but also examining the governance structures of their insureds. For example, the directors and officers insurance for a large nonprofit medical organization had coverage provided by two of the leading carriers; however, the coverage contained a bankruptcy exclusion. The medical organization filed for bankruptcy and litigation ensued on multiple fronts, including significant litigation against the board. Only then did the board become aware of the absence of coverage.

Shifting to a Win-Win Mindset

The shift in focus of corporate governance to an improved set of checks and balances is a win-win situation for all involved. Corporate governance is not a zero-sum game; nor are its structures and operations. This is not about shifting power from one participant in the governance process to another. An improved set of checks and balances entails the dynamic definition of the roles and responsibilities of every participant in a manner that optimizes potential synergies. Corporate governance is a win-win or a lose-lose situation—not just for the participants, but for all of society, as Courtney Brown so astutely stated years ago.

While this column refers to corporate governance, the advice here applies to organizational governance in a broad sense. CPAs, management accountants, and others bring experience and skill sets to organizations in their roles as advisors, employees, members of management, boards, board committees, and who otherwise contribute to the creation and functioning of checks and balances.