Publications & Resources

April/May 2002
Focus: Directors' Issues

Ten Commandments for Community Bank Directors

By Jeffrey C. Gerrish

Whether your bank is new or has been in existence for years and years, it is imperative that your directors fully understand their duties, responsibilities, rights, and opportunities. The following Ten Commandments for Community Bank Directors address the most critical of these issues.

1. Thou Shalt Realize That The Job Is Not Simply An Honor.

Previously, a bank director often accepted the position because it was an honor to be a director of the local community bank. It still is. But, it is much more than that. It is a significantly important job with material and well-defined duties, responsibilities, and liabilities. The board members must have a comprehensive understanding of the issues associated with being a board member.

2. Thou Shalt Understand Your Specific Duties.

The board has specific duties to set the strategic direction and goals for the bank as well as to provide capable management to implement them. The board also has duties with regard to development and approval of policies and procedures. The board has a right to rely on management implementation once it approves policies and procedures, until management demonstrates it can not be relied upon.

3. Thou Shalt Obtain Continuing Education.

Being a member of a bank or holding company board is a dynamic, not a static, position. The financial services industry, particularly the community banking sector, is changing on a daily basis. It is important that the board of directors collectively and the board members individually obtain continuing education with respect to issues associated with the performance of their duties. Numerous continuing education possibilities are available at the state and national level, including several "directors’ colleges" and numerous programs through WIB.

4. Thou Shalt Understand Your Obligation To Provide Strategic Direction For The Company.

One of the board's paramount obligations is to set the strategic direction and strategic plan for the company. This often results from a formal strategic planning session held annually, often away from the bank, and generally including senior management. Whether an outside facilitator is used at that planning session is immaterial as long as the session is effective, concrete decisions are made, responsibility is assigned, and accountability is provided.

5. Thou Shalt Hire Competent, Trustworthy, And Capable Management.

The second most important function of the board, behind the setting of a strategic direction for the bank and its holding company, is the procurement of capable management to implement that direction. The board's job is to procure capable management, not to micro manage the institution As outside directors, virtually every board member has his or her own business which they can micro manage. The board should hire capable management and let them do their job.

6. Thou Shalt Establish The Goal To Enhance Shareholder Value.

The board's ultimate responsibility is to enhance the value for the shareholders, i.e., the owners of the bank holding company or bank. To enhance shareholder value, the board should use as a litmus test against virtually every strategic direction or activity, whether it improves one of the following areas over what the bank would do if it did not engage in that action, activity or strategic direction:

Increasing earnings per share,

Improving return on equity,

Improving liquidity for the stock (the ability of a shareholder to sell a share of stock at a fair price at the time the shareholder likes), or

Improving cash flow to the shareholders (a dividend policy).

7. Thou Shalt Avoid Improper Insider Transactions.

A recent study of bank failures in the United States indicates that a majority of the failures was due to insider abuse. Insider transactions, i.e., a transaction by a director with his own bank, are scrutinized heavily by the regulators. Insider transactions are not prohibited, but should certainly be closely reviewed for fairness to the bank and for compliance with all laws and regulations, particularly Regulation O. For example, often directors may desire to engage in a sale/leaseback on the bank building. There is no problem with this as long as it is adequately and appropriately documented.

8. Thou Shalt Realize, As A Director, You Will Never Be Compensated For The Risk.

Being a director is an honor. It is not an honor without risk, however. As a director, you will never be adequately compensated for the risk associated with the position. In spite of that, however, it is important that the directors not begrudge a well-paid CEO. A well-paid, well-performing CEO and management team are the best protection the directors have against future personal liability.

9. Thou Shalt Understand, In General, The Operation Of The Business Judgment Rule.

The Business Judgment Rule basically provides that directors cannot be held liable if they have taken action based upon an appropriate business judgment after being fully informed and without a disabling conflict. The court will not second guess the business judgment of a board as long as the board is fully informed. Part of being fully informed as a director means reading cover to cover any communication, examination report, or other document from a regulatory agency or an outside accountant/auditor.

10. Thou Shalt Use Professional Outside Assistance.

Using professionals is not only wise, but may add further protection for directors. Many state laws provide that if a board relies on the outside advice of a professional in that segment of the industry, then the board is deemed to have been fully informed and is protected by the Business Judgment Rule. Remember, if you do not obtain professional assistance early on, you may end up needing professional help later!

Jeffrey C. Gerrish is chairman of Gerrish & McCreary Consultants L.L.C. and a member of the Memphis based law firm of Gerrish & McCreary, P.C., Attorneys. The two firms have assisted over 900 community banks in 47 states with mergers and acquisitions, bank holding company formations and use, acquisition and ownership planning for boards of directors, strategic planning for boards of directors, regulatory matters, ESOPs and other matters of importance to community banks. He can be reached at (901) 767-0900.