SEVEN The Bored Board – Peter F. Drucker on Nonprofits and the Public Sector

CHAPTER SEVEN

The Bored Board

HELP WANTED

Major multi-billion dollar corporation seeks professional member on board of directors. We have job enrichment plan to convert position from rubber-stamping to active policy-making. Requires 40–50 days per year intensive work. Salary high. Rare opportunity. Corporation presidents, attorneys need not apply.

The “help wanted” advertisement above is the kind of statement I would make to a prospective candidate for a board of directors. I would tell him I’m not just looking for new blood, but I’m going to redesign the whole body—because when boards were conceived several hundred years ago, nobody envisioned the world in which they misfunction today.

All over the Western world boards of directors are under attack and are being changed. In the countries of Germanic Law—Germany, Holland, Austria, and Scandinavia—there is “co-determination,” that is, labor union representation on company boards. In Sweden, the government appoints public representatives to the boards of big companies. In the United States, increasing numbers of large companies put “representatives” of various “minority” groups—blacks, or women, or consumers—on their boards. Increasingly they elect “public members” to represent the “public interest.”

These changes are by no means confined to the boards of businesses. There is perhaps even more pressure for changing the conventional boards of universities, of hospitals, and of professional societies. One of the first acts of Jerry Brown, when elected governor of California, was to put a student representative on the Board of Regents of the University of California. In the American Medical Association, one of the biggest fights in recent years centered on the demand of the young doctors in training, the interns and residents, for representation on the AMA board—a fight they eventually won. Now they are pressing for board membership in hospitals.

All these pressures assume that the board matters. They assume that the board of directors or of trustees, whether of a business, a university, or a service institution, is truly the “governing organ.”

But there is little evidence to support this assumption. On the contrary, years of experience indicate that the board has become a roi fainéant, an impotent ceremonial and legal fiction. It certainly does not “conduct the affairs of the enterprise”—neither in this country nor in Europe. Life on the board is not juicy and exciting. Rather, it is dull. Board members are more often bored by routine than stimulated by manipulating the levers of power.

In every major business catastrophe of the last forty or fifty years, from the collapse of the Austrian Credit Anstalt in 1931, which forced Britain off the gold standard and triggered the collapse of the American banking system, down to such recent debacles as Penn Central or Franklin National Bank, the board members were apparently the last people to be told that anything was awry. Similarly, in the student uprising of the late 1960s, the university boards were taken completely unawares, without the slightest intimation that trouble was brewing. Hospital boards—which, according to law, own the hospital, have all the power, and make all the decisions—rarely get involved in the debates over the costs, the control, and the policy of hospitals.

And the boards were just as ignorant, uninformed, and impotent in the bribery scandals of business. That Lockheed was handing out bribes, thinly disguised as “commissions,” was an open secret long before it hit the headlines in 1975–76. The only important people who did not know about it, apparently, were the Lockheed directors. The same ignorance and impotence were displayed by the boards of Northrop and Gulf Oil in the bribery scandals of those firms. Managements clearly saw no reason to inform their boards and boards saw no reason to ask—and would not have received an answer had they asked.

Some board members, aware of their powerlessness, are beginning to complain that they serve no function and are kept busy with trivia, even when they want to do serious work. I, for instance, served for six years on the board of a fast-growing state university in New Jersey. The board members were genuinely interested in the university. Most of them had considerable experience in teaching, research, and administration. Others had held significant political office. The board met at least once a month, around 5 p.m., and was usually still at work at midnight. Yet we rarely got to the subjects that were uppermost in the minds of the board members: educational policies; the direction of the college; or the relationships between administration, faculty, and students.

Instead, our time was taken up with maternity leaves for Spanish instructors, waiving of fees for foreign students, promotions of people we had never heard about, or the acquisition of real estate for a new parking lot. We often tried to get to the matters we knew to be important, matters in which we also considered ourselves to be competent. But each time we were sternly reminded by the representative of the State Board of Higher Education (who sat in on every meeting) that state law restricted us to the tedious trivia. She told us at the same time, however, that state law mandated maternity leaves, promotions, and parking lots, so they would go through no matter how we voted.

The same situation exists even in large businesses. Board meetings rarely go beyond similar trivia: approval of a raft of promotions which have already become accomplished fact; approval of short-term budgets which few of the board members can possibly understand, let alone analyze in depth; approval of last month’s operating results, when they have become past history; or spirited debates over a branch manager’s right to sign checks.

Many board members I meet have their own stories of frustration, of confusion, of wasted time. Quite a few, including myself, are no longer willing to serve on boards, because we do not think we can contribute anything in such circumstances.

If boards are to function with a serious purpose, some major changes are needed. Simply changing the membership of a board does not make the board more effective. For example, the managers of German industry vocally oppose extension of co-determination. But every German manager I talked to asserted that co-determination has made no difference whatever in the way his board works—or rather, does not work—and in the way he runs his company. Similarly, the array of board members representing minority groups or women—or even consumers—on American boards has not made any noticeable difference in the way the companies are being run.

The crisis of the boards is not, as the current discussion tacitly assumes, a problem of the “right people.” Whenever an institution malfunctions as consistently as boards of directors have in nearly every major fiasco of the last forty or fifty years, it is futile to blame men. It is the institution that malfunctions. The large complex organization—whether business enterprise, university, or hospital—has changed so much that the traditional board, which law and custom envisage, no longer works and no longer can work.

The rules for boards in our corporation law—in this country as well as in western Europe—were written in the middle of the nineteenth century. They assume a business which is small and regional, if not local. It has one or two products. It is owned by a very small number of individuals, either the people who started it or their descendants. In turn, their stake in the business is the major, if not the only, property of these people or their families. So they have a strong interest in its performance and success. In such a situation the board can be what the law expects it to be, i.e., knowledgeable and close to the affairs of the business. And it can give direction to management.

But this is a very different institution from the multinational corporation, with a multiplicity of markets, products, and technologies; with plants in twenty countries, research laboratories in five countries, and sales forces in sixty countries; with a complex management structure, and with its controlling ownership (as in all publicly held big American businesses) in the hands of one hundred or more employee pension funds, that is, in the hands of “trustees” rather than of “owners.”

The university board dates back to the small denominational college and was originally meant to link a Protestant congregation to its own educational institution. Contrast this with today’s “multiversity,” with its 25,000 students, 4,000 teachers, and 8,000 other employees; its 6 layers of vice presidents, deans, and chairmen; its 40 schools and major departments; and its $100 million budget. Yesterday’s board becomes a stale joke.

The hospital board still reflects the time—less than a century ago—when the hospital was primarily a place for the poor to die in a little decency. In those days a hospital board charged with soliciting charitable donations from the community made sense. Today’s hospital is the community’s center of health care and advanced medical technology. It is also the most complex human institution around, with a profusion of services and health care professions which nobody dreamed of even fifty years ago. Nearly all of its revenue comes from “third party payments”—from the government, from Blue Cross, or from private health insurance—rather than from charity or direct patient fees. A board composed of well-meaning local citizens willing to lend their names to fund-raising efforts is hardly appropriate.

Surely, the board cannot do what the law says it should do, that is, to “manage.” Managing any of today’s complex institutions is a full-time job and not for amateurs, even if well-meaning, responsive, and experienced in running their own institutions.

But where does that leave the board? Does it have any function at all, or is it obsolete?

Two such totally different people as John D. Rockefeller, Sr., the father of the Standard Oil Trust of American folklore and history, and Franklin D. Roosevelt, father of the New Deal, considered traditional boards to be pure excess weight. Both tried to eliminate them. Rockefeller had to have a board for his company—the law demanded it. But he got around the law by creating the “inside board” of company executives, who met about once a week but were managers the rest of the time. Franklin D. Roosevelt, when setting up the Tennessee Valley Authority (TVA), vetoed an outside part-time board of directors. Instead he gave the TVA the Rockefeller-style kind of “inside board” of full-time managers. Both men used the same argument: “There is a management job to be done. It requires full-time work and exclusive concentration on the affairs of the enterprise. Part-time outsiders need not apply.”

The only function the current board has, many executives argue, is the function which the American Constitution assigns to the Vice President: to stand by without a real job until there is a succession crisis. Modern boards tend to swing into action only when management collapses, either through death of the incumbent or because of his total failure.

Despite the anachronistic appendage which most boards have become, there is need for a truly effective, truly independent outside board for the large complex institution, whether private business or public service. The need is not primarily rooted in the “public interest” or in the wish to make boards “democratic.” The need is, above all, a need of the institution itself: it cannot function well in all its complexity unless it has an effective board.

If any proof of this were needed, the bribery scandals of recent years, e.g., Lockheed, would supply it. Here was not a management looting a company; on the contrary, what the management did was intended to advance the interests of the company and of its employees—and, in respect to sales of military aircraft, even the interest of the country, of its foreign policy and of its balance of payments. No law could possibly have prevented such actions. Yet any objective outsider would have seen, almost at once, that these bribes were both grossly unethical and grossly irresponsible—and would, in the not-so-long run, inevitably damage the company if not wreck it. This kind of irresponsibility—and well-meaning irresponsibility is the worst kind—only an outside board can prevent.

There are six essential functions only an effective board can discharge.

First, institutions need strong, competent management. Only a strong, effective, and independent board can ensure management competence. A strong board is needed to remove a top management that is less than fully competent. And only a strong board can force incumbents to make adequate plans to prepare, train, and test successors to top management.

Our society depends far too much on our big and complex institutions to leave top management to chance. Yet today, especially in the large publicly owned company, the chief executive officer, once installed, can be removed only through disaster or coronary thrombosis. It is the rare board that dares to remove a president who is merely incompetent, let alone one who is merely mediocre. Yet all the various constituencies of our important institutions (whether shareholders, employees, customers, or taxpayers) must be reasonably certain that management is truly accountable to an effective independent organ of supervision, audit, and control—that is, to a genuine board.

Second, an independent organ is needed to make sure that crucial questions are being asked: What is our business and what should it be? What is our mission? What are valid “results” in this undertaking? Who are our publics and our constituencies, and what can they legitimately expect from this institution? What are the major directions for the future? What should be abandoned or deemphasized? What new things are needed?

Then there are questions about the basic survival needs of the institution. How much innovation does it need so as not to become obsolete? What is the minimum growth needed not to become marginal in the market? How does one distinguish between growth that adds strength and performance capacity and growth that is merely fat (as was so much of the growth of the 1960s in all institutions)? Or growth that is, in effect, degenerative malignancy? How much profit is needed to earn the cost of capital, provide the premium for the risks of the future, and the capital needed for the jobs of tomorrow?

To be sure, only management can answer these questions. But somebody has to make sure they are being asked and thought about. Managements tend to postpone them for a perfectly good reason. After all, they first have to operate the day-to-day affairs of the institution. And the one predictable thing in any institution—especially in large and complex ones—is the daily operating crisis.

Third, an institution needs a “conscience.” It needs a keeper of human and moral values and a court of appeal against tyranny and caprice or the equally harmful indifference of bureaucratic routine. It needs someone outside the daily work and the daily relationships who is concerned with what the institution stands for, what its values are, what it considers “right” and “wrong.” In the large and complex institution, the chief executive officer is rarely able to play this role, if only because he may have to support his management associates even when he thinks them sloppy, wrong, or callous. He has to live with them, after all. The conscience function needs someone who can act independently and can afford to rule against even the most powerful and most valuable people in the organization. Yet in the Lockheed and in the other bribery scandals, “conscience” questions were clearly never asked by the various boards—just as they are almost never asked by hospital or university boards.

This requires that board members regularly meet with people other than the organization’s top management: with middle managers, foremen, and union stewards; with faculty and students; with interns, residents, nurses, and physical rehabilitation people. Their main job in these relationships is to listen, if only to learn what is being done right and where the strengths lie. Primarily, it is the board’s job to make clear, often by its presence alone, that someone is concerned with values, with standards, and with justice.

Almost all executives will recoil at this idea. They will claim that a board “doing an end run around management” undermines management’s authority. The danger does exist. Yet America’s oldest board, the Overseers of Harvard, has done just that for three hundred fifty years without disrupting the university. Most of the thirty Overseers—each an alumnus and elected by the alumni—spend around fifteen days a year as members of a “Visiting Committee” of a school or department. They sit down with the faculty and, very often, with students, auditing the level and direction of instruction and research, listening to ideas, proposals, and complaints, and then reporting back to the full Board of Overseers and the university’s administration. Apart from money raising, this is the principal activity of the Overseers.

Fourth, management itself needs an effective outside board. Top-level managers need people with whom they can talk in confidence, can deliberate, can think aloud. They need people with whom they can share their questions, doubts, and uncertainties. Within a large organization, no matter how “permissive” or how “democratic,” the top people are, of necessity, both isolated and rigidly circumscribed. Any chief executive must be on his guard when discussing his thoughts with his associates or subordinates. For every large organization is a rumor mill, which interprets or misinterprets even the most casual comment by the top man and treats it as a command or a decision.

Yet the most “decisive” chief executive cannot reach a decision without a lot of doubt and hesitation, without weighing alternatives, without arguing with himself. An effective board which understands the institution, its opportunities, and its problems—and yet is detached from the problems themselves—will not relieve the chief executive of the “loneliness of command.” But without a genuine council, top management people become prisoners of their own positions.

Fifth, the management of a large institution needs windows that open on the outside world. Inevitably, it sees its own institution as large and important, and the rest of the world as small—if it sees the rest of the world at all. Yet the “hospital mind,” the “college mind,” and the “business mind,” while inevitable, are just as limited as the “military mind” of the generals. The top people in a large and complex organization cannot easily get to the “real world” outside. Therefore, they need to make sure that the real world can get to them. They need channels of outside perception. (The great masters in building them, by the way, were two American presidents—Abraham Lincoln and Franklin D. Roosevelt—who consulted their “kitchen cabinets” of independent outsiders to the constant chagrin and scandal of their official cabinet colleagues.)

Finally, the large institution needs to be understood by its constituencies and by the community. No outsider really understands what goes on “on the fourteenth floor” or “in the president’s office.” What is so obvious to the decision maker in the executive suite is usually not perceived by the public outside, beginning with people in responsible positions within the organization.

These functions require a very different board than the one we inherited from the nineteenth century. Above all, boards need to accept the idea that they have a responsibility and, with it, specific work of their own. Otherwise, they will not accomplish anything. The first priority in modernization is not to change the board’s membership. The first priority is to change the board’s role, function, and work.

Perhaps the most important thing is to relieve boards of most—in some cases, of all—chores they are loaded down with today. Most of them are trivia. If the board should discuss them at all, three hours once a year should suffice.

Then comes the job of developing the proper work plan for the board—the systematic review of executives and their performance; the systematic review of plans, policies, and direction; the systematic thinking through of major decisions. It is not enough even for the ablest board to sit down once a month with an agenda prepared by top management and simply give of their wisdom and counsel. The board has to work. There must be objectives and goals against which the board can measure its own performance—something practically unheard of today. In the larger and more complex institutions the board probably needs a small staff of its own just as, for instance, congressional committees have developed staffs of their own.

Who belongs on a board? Let’s start with some negatives. Most of the people who traditionally sit there do not belong on boards at all. No one who is a supplier, whether of goods or of services, should sit on the board of an institution from which he expects to get paid. This rules out the lawyer, the banker, the broker, and the consultant. They are all in potential conflict of interest between their role as a supplier and their board membership. The guiding rule should be that of the public accountant whose canon of ethics forbids him to serve on the board of any company he or his firm might audit.

Retired officers of a company do not belong on the board. If their experience and counsel is to be put to productive use—and this is often highly desirable—we might adopt the Japanese practice and retain them as “counsellors.” But one cannot “retire” and still oversee one’s successor.

Even the most highly sought-after board member—the president of a company of equal size but in another field—has no business being on any board. Running a company, even a medium-sized one, is far too demanding to leave time for the systematic work which board membership requires. There is altogether too much to be done to want a board member, no matter how able, who sits on a great many of them—a Hermann Abs, for instance, the former head of Germany’s largest bank, who sat on about one hundred and fifty company boards at the same time.

It is much less clear who does belong on a board. One reason is that the same board needs two different kinds of people.

The first kind are representatives of the constituencies—investors, employees, customers, and other groups in the community. Such people are needed not because institutions ought to “represent society.” The institution needs them to bring the “outside world” into an isolated management’s field of vision and perception, and also to provide communication to an increasingly fragmented public.

Both the European co-determination policies and the far more pragmatic American attempts to bring interest groups into board membership address a genuine problem. Of the two, perhaps the American approach, for all its bumbling improvisation, makes more sense. It recognizes that the modern institution has a great many different constituencies. Co-determination, on the other hand, subjects all groups and interests in the community and economy to the “producer interest” of investors and employees. I believe it is far more a “producer cartel” directed against the consumer than the “industrial democracy” it purports to be.

Interestingly enough, in most discussion about constituency representation, the biggest, most important, and least represented one is almost never mentioned. I mean the new owners of America’s big businesses, the pension funds of the country’s wage earners. Popular rhetoric accuses today’s corporation boards of representing only the shareholders and ignoring society’s other interests. Yet in the typical American corporation the major shareholder is not represented at all.

The pension funds today own around 30 percent of the equity of the listed corporations, and probably even more of the equity capital of the one thousand biggest ones. This is already enough to give them effective control. Within a few years, if only as a result of the recent Pension Reform Act, they are bound to own 50 percent or more. But the fund, while legally an owner, is actually an investor. The people who run it are trustees. They neither want to, nor are they entitled to sit on a board; to do so would be in violation of their fiduciary responsibility. Their duty is to sell a stock as fast as they can if they do not like a company, its prospects, or the way it is being managed.

But who then represents the owners, that is, the nation’s employees and their pension funds? And how? This is one of the most important and most difficult problems we face in respect to the composition of our big-business boards.

No matter which constituencies we consider entitled to board representation, the members representing them will essentially be advisors rather than decision makers. For they stand in an inherent conflict of interests and loyalties between their duty as board members (that is, their duty to the institution) and their accountability to their constituents.

Let me illustrate. The chief executive of the seriously ailing Volkswagen company in Germany was forced out several years ago by the union members of his board because he proposed building an assembly plant in the United States. The American market, the union members agreed, was the only good market left for the “Beetle,” which, while obsolescent and almost unsalable in Europe, was at that time still Volkswagen’s mainstay. And German costs, the union members also agreed, had risen so much that Volkswagen’s exports could not compete in the United States, or only at prices well below costs. Yet, the union members said, they could not vote for the best interest of the company even if its long-range survival were at stake. Instead, they had to vote according to the immediate interests of the Volkswagen workers, and therefore had to oppose the “exporting of jobs.” Ten years later, even the union members of the Volkswagen board had to accept the need for a plant in the United States. But by then Volkswagen had also lost a good part of its American market. Whether it can regain it by building an American assembly plant ten years too late remains to be seen; for the market the union’s shortsightedness lost for Volkswagen the Japanese now supply.

In this country, some of the blacks who have been elected to company boards see their role as representing the black community inside and outside the company. Others have said that being black has nothing to do with serving as a director; they consider the company’s interest as paramount. But I personally know a number of highly competent black men and women who flatly refuse to serve on boards. They see no way of resolving the conflict.

The constituency representatives who come closest to understanding the problem are the trade union members on Swedish boards—ideologically, by the way, the furthest to the Left of any of the new breed among board members. When the law was passed which put their representatives on Swedish company boards, the trade unions organized a “school for company directors” with a faculty composed of Sweden’s leading bankers, company presidents, and company directors. “Our members,” one of their leaders explained to me, “have to learn how to serve the company on whose board they sit as expert advisors rather than continue to be spokesmen for labor; otherwise they’ll lose all integrity and effectiveness right away.”

A second kind of board member is also needed by the institution, its management, and society: the member who makes sure that there is effective top management; who makes sure that management thinks and plans; who serves as the “conscience” of the institution; as the counsel, the advisor, and informed critic of top management. Perhaps this might be called the “executive board.” It is not a “managing” organ but is, in effect, the true “directing” organ.

In the larger and more complex institutions, these members will have to devote a great deal of time and work to their boards. Four to five days a month—forty to fifty days a year—might be the minimum. In other words, the task requires several “professional” members on every board. Each professional can serve only a very few institutions. They should be elected for a period long enough to become familiar with the institution, such as five or six years. They should probably not be eligible for immediate reelection so as not to become beholden to management. They should be well paid. A professional board member should earn from his four or five board memberships as much as a senior executive in a top management position.

Such professional board members are still quite rare. But the days of the amateur are clearly numbered. Both the Securities Exchange Commission and the courts are tightening up on the legal responsibilities of directors, to the point where it is getting far too risky to sit on a board except as a serious, time-consuming work assignment.

Board membership used to be a kind of private honor—unpaid, as a rule, but a badge of distinction. Boards used to be cozy places where one met once a month for a few hours and seconded the proposals of management. Changing such boards is not primarily a job to be done by law or by changing their memberships. It is a bigger job: to change the task and work of the board for the sake of the institution itself. It is primarily a challenge for top management. For management’s own functioning and legitimacy will increasingly depend on an effective and independent board.


First published in The Wharton Magazine, Fall 1976.