There are three methods that a board can use to monitor the CEO’s compliance with its Ends and Executive Limitations policies. The most frequently used method is an internal report where the CEO provides evidence of the reasonable interpretation. Last August, I wrote a blog about using external monitoring. It’s time to address monitoring by direct inspection.
What is the direct inspection method of monitoring? Quite simply, it is when the board delegates one or more members of the board to verify that there is evidence of the CEO’s reasonable interpretation. This means the board’s delegate(s) need to examine the files, data, or a report that is the source of the evidence and confirm that it indeed exists and contains the necessary data.
Why would a board use direct inspection? Direct inspection is an additional means of the board exercising due diligence. As with external monitoring, the board may use direct inspection as a way of demonstrating accountability in areas where the ownership is particularly risk averse.
When should a board use direct inspection? Sometimes, it is the best way to monitor specific policies or the application of specific policies. For example, the board may choose to monitor the CEO’s expenses either as a specific application of the Executive Limitation on Compensation and Benefits (“The CEO shall not change his or her compensation or benefits.”) or the General Executive Constraint (“The CEO shall not allow decisions or actions which are…unethical…). The board might decide that having data from the finance or administrative staff person who reports to the CEO is not sufficient assurance that expenses have been submitted in accordance with the CEO’s reasonable interpretation of the relevant policy.
A board may also use direct inspection if the board as a whole is uncomfortable with the evidence of compliance it has been receiving from the CEO. Thankfully, this is not a common occurrence, but a board needs to be aware of the tools it has available to assure that the organization is accomplishing what it should and not allowing unacceptable circumstances.
A common use of direct inspection that I see is when the board as a whole (or its delegated committee) examines the budget for compliance with the CEO’s reasonable interpretation of the Executive Limitation on planning, specifically the criteria related to financial planning or budgeting. This is sometimes used by a board new to Policy Governance which is used to “approving the budget” and is just beginning to understand the power of accountability that internal monitoring delivers. Monitoring by direct inspection can be part of the board’s education in understanding that any budget that meets the criteria in its policy would be acceptable to the board.
However, do not mistake a board member’s request to see the documents, data or contracts identified in an internal monitoring report as a need for direct inspection. Someone new to Policy Governance may believe that he or she needs to see physical proof of the verifiable data cited by the CEO in his or her internal monitoring report. While it is important that the data be verifiable – anyone looking for the same data would be able to find it – verifiable doesn’t mean the data sources are part of internal monitoring report. The verifiability of data will be important if and when the board as a whole (not an individual board member) decides to use direct inspection.
How does a board get a direct inspection report? First, the board needs to determine to whom it will delegate the responsibility for finding the evidence. Then it needs to ensure it has the current version of the CEO’s reasonable interpretation of the policy or policy statements that it is monitoring and that the board as a whole has assessed the interpretation as reasonable. It should establish the timeframe in which the board’s delegate(s) are expected to provide a report of findings: Does the evidence examined confirm compliance with the interpretation?
If your board is interested in learning more about how to effectively use external monitoring, our consulting team would be pleased to support your efforts.