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Poor Boardroom Governance at the Heart of the Volkswagen Scandal

If you own a VW, Audi, Seat or Skoda Car, or for that matter, a television or a newspaper, you will be well aware of the latest international corporate wrongdoing: the Volkswagen Scandal. It has emerged that Volkswagen rigged emissions software to get its diesel cars to pass strict emission tests.

The company’s value has plummeted by more than £22bn since the story broke and has also had a knock-on effect on the share prices of other car manufacturers as well as on the cost of platinum, used in the production of its engines.

According to commentators, VWs shares had long traded below the level of other car manufacturers due to concerns about its corporate governance. Here we look at some of the Boardroom governance failings leading up to the scandal and ask whether your company’s Board can avoid the same pitfalls.

As a German company VW’s structure includes separate Supervisory and Management Boards. Although this set up is different from the Anglo-Saxon structure of one ultimately responsible Board, many of the governance issues are relevant to UK Boards.

Due to the structure, VW boasted a 20-man council of directors, pretty much equally divided between shareholders and workers (executives). A governing board of 20 is unwieldy, making it almost impossible for efficient discussion and decision-making to take place. How many members does your Board have? A good size, from a governance perspective would be between 8 and 12 members, with an absolute maximum of 15. Any more, and nothing of any value can really be made in the Boardroom.

The composition of the VW Boards of almost all shareholders and executives should also send the Boardroom governance alarm bells ringing. The company had just one truly independent director and crucially, across the mix of directors, there was a lack of both relevant skills and experience.  Non-executive (and non-shareholder) directors (NEDs) are the ones that are able to bring different views and independent thinking to the deliberations of the board. Does your Board have sufficient independent representation? You need independent views to ensure that the world outside the company is considered, and not just the needs of the employers and owners. The UK Combined Code sets out different requirements in relation to NEDs for listed companies based on size, with a minimum of 2 for smaller companies.  Does your Board have the relevant skills and experience? Does the Board frequently assess itself? Does a proper skills and experience gap-analysis take place, especially prior to new appointments?

Shareholders being members of the Board is not necessarily a bad thing. It is all about having the correct balance of power.  Commentators agree that the influence of employees at VW is far greater than at any other big German company. In addition, external investors held only 12 per cent of the voting shares meaning that their influence was minimal. Is your Board well balanced, with representatives from different stakeholder groups as well as independent directors?

Ensuring diversity on the Board can also provide a huge boost to good governance. Many studies show that a Board with more women, greater ethnic diversity and members from a range of ages and backgrounds is more effective, leading to a more successful and profitable company.  Despite a global workforce of almost 600,000 VW’s management board is staffed entirely by men. A lack of diversity can be detrimental to decision-making and success. Is your Board as diverse as it could be? Is there a mixture of views & skills from different genders, ages, backgrounds, professions?

It can be difficult for the people at the top to have knowledge of everything that goes on within a company, especially when that company has hundreds of thousands of employees. It is quite plausible that former Volkswagen chief executive Martin Winterkorn had no knowledge of what was happening, but this is of no comfort to the investor or outside world looking in on this scandal. It is about creating the right kind of culture within a company to ensure that such dubious practices are always considered unacceptable. Further, the company should also ensure that the right delegated authorities and processes are in place to ensure that the right people are making such game-changing decisions.

Boards should also ensure they are comfortable with the level of reporting received from executives and that they are asking the right, probing questions, incorporating effective risk management. Does your Chief Executive have the right level of oversight across the company? Have the right and sufficient delegated authorities been put in place? Are processes for important decision-making, clear? Is the Board receiving the right type and level of information from executives? Is there effective risk management in place?

Volkswagen now has to begin the long journey of salvaging its reputation from this scandal. It will largely be down to the three largest shareholders to enforce real reform and time will tell if they choose to improve their internal governance. In the meantime, you should make sure that good governance is embedded throughout your own organisation and that the Board is as effective as it can be.

If the Volkswagen Scandal has made you concerned about the efficiency of your Board and whether you are engaging with governance best practice, we are here to help. Please contact us here for further information and advice on board composition, support and best practice.

Sources: cnbc.com Sunday, 4 Oct 2015; Financial Times; telegraph.co.uk 26 Sep 2015