Directors, Corporate

Director Responsibilities

In the United States, corporate law dictates that directors must monitor the leadership of the firm to ensure that the corporation is run in the long-term interest of shareholders. They owe investors both the duty of care, or due diligence, and the duty of loyalty, or putting the investors first in their decision making.

Boards of directors are generally recognized as having five key charges. First, and most important, they must select, monitor, evaluate, and when necessary replace the CEO of the firm, with a key underlying duty of engaging in careful, advance succession planning. Second, the board is responsible for ratifying the company's overarching vision and strategic plan, once it is developed by the CEO and his or her staff. Advising and counseling the CEO and other top managers as needed is a third function of the board, underscoring the importance of a board's diversity of expertise. The board's fourth responsibility is to locate and nominate high-quality board members and to evaluate the processes of the board and the performance of both the board and its members. Finally, the board is responsible for ensuring the adequacy of the firm's internal control systems, a duty that is now reinforced by the Sarbanes-Oxley Act.

Director Types

Corporate directors fall into three general categories: inside, outside, and independent. The newer, “independent” profile is replacing the “outside” moniker on most U.S. boards.

“Inside” directors are employees of the firm who also sit on the board of directors. Most commonly, the chief executive officer (CEO) is a member of the board, and often its chair. Chief financial officers, chief operating officers, presidents, and other confidants of the CEO have also frequently been tapped as board members. Inside directors are often credited with being the best informed about the firm and industry, but the presence of CEO subordinates on boards is also criticized because they are beholden to their superiors and likely to vote in their favor.

“Outside” directors are defined as those who are not employees of the firm. Outside directors have traditionally been acquaintances of the CEO or existing board members, invited onto the board to give an outsider's perspective on the firm's prospects and operations. Most often, CEOs or executives of other corporations have constituted the majority of these corporate directors, although retired government officials, celebrities, and academicians have also been frequent members.

In recent years, and particularly since the passage of the Sarbanes-Oxley Act, regulators and shareholders alike have focused on directors' “independence.” Some ostensibly outside directors had been found to have significant nondirector relationships with their firms, leaving them subject to pressure from the executive office. “Independence” is defined as a director having no relationship with the firm beyond the individual's board seat.

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