Publications & Resources
May/June 2010
Leadership & People
Evaluating Management: Helping the Board With Job #1
By Michael Patriarca and Alice Cho
One of the board’s most important responsibilities is to ensure that a competent executive management team is in place to manage the bank’s affairs in a safe and sound manner. Most boards carry out this responsibility by exercising their authority to select executive officers, by conducting performance evaluations of the CEOs, and by reviewing management succession plans. Directors rely on certain indicators, such as financial results, to further gauge the effectiveness of their executive management. All of these activities are important and deserving of the board’s careful consideration. Nevertheless, our experience from the recent financial crisis and the ensuing supervisory responses suggests that boards need to use a more proactive and focused approach.
Since the onset of the financial crisis, the number of supervisory enforcement actions has climbed rapidly. Many public enforcement orders include requirements for boards to conduct “reviews” of their banks’ management. Indeed, our analysis suggests that nearly seventy percent of the public enforcement orders issued in the last two years contained requirements relating to management. Such requirements usually indicate supervisory concerns about the ability of the current management team to restore the bank to financial health; these concerns indirectly reflect unfavorably on directors.
Since the examiners rate management at every full scope examination, why are supervisors mandating fresh board review of the same management that the examiners have recently evaluated and rated? The answer is that in supervisory practice, the examination team does little work specifically designed to evaluate management. Instead, management is rated on results – the condition of the bank – and not on its basic ability, structure or practices. Thus, the management rating (the “M” in “CAMELS”) is typically reflective of the “Asset Quality” rating or the overall composite rating of the institution.[1]
Given that a robust economy may obscure management shortcomings and that boards cannot simply rely on regulatory ratings of management, what should a board be doing to satisfy its primary responsibility to select and oversee management?
We believe that the board should conduct a review of its management from time to time, in order to ensure that the bank has a management team that has an appropriate structure and has experience commensurate with the institution’s strategic direction, size, and risk profile. When assisting boards conducting management assessments, we have urged a two-pronged approach: first, evaluate the management structure; then assess the executive competencies of the individuals.
An evaluation of the management structure will take into consideration the organization and processes management has put in place to facilitate the smooth and effective operations of the bank’s business and, at least as importantly, the bank’s risk management activities. This review will focus on whether there are clear lines of authority among the management ranks, policies and job descriptions that inform staff appropriately of their responsibilities, appropriate management committees to govern key risk management activities, appropriate human resources practices and sufficient reporting to inform both management and the board of the vital information necessary to fulfill their respective responsibilities.
In our practice, we typically recommend that the board’s management evaluation of individuals covers the CEO and his/her direct reports. The evaluation should also include meetings with the top officers that enable the board to assess their competencies in the following critical areas:
- Leadership
- Driving Results, including sound risk management
- Talent Development
- Strategic Thinking
- Relationship Building
As a practical matter, it’s unlikely that the entire board will be able to participate in the review of documents and interviews that such a management evaluation entails. The effort should be led by a small number of independent directors. For the first evaluation at least, they should be provided with external professional assistance.
We believe that the results should be captured in a written report provided to and discussed among all of the members of the board. The report should strive for balance; conclusions should be supported by factual findings; and issues or gaps that need to be addressed should be clearly identified. The board should assign ownership for matters requiring action and provide close oversight until those actions are accomplished.
Management assessments should be updated periodically, taking into account changes affecting the bank as well as changes in personnel. Finally, we urge boards to share their assessments with the bank’s regulators: it demonstrates plainly that the board is taking seriously its primary responsibility.
[1] In the case of malfeasance such as insider abuse or serious compliance issues, management will likely be rated more adversely than the condition of the bank.
Michael Patriarca, managing director, and Alice Cho, senior principal, are members of Promontory Financial Group’s San Francisco team. Patriarca can be reached at mpatriarca@promontory.com; Cho can be reached at acho@promontory.com.
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