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Robert H. Katz, Esq.
BRICKER & ECKLER LLP
(614) 227-2397
Kevin Kinross, Esq.
Taft Stettinius & Hollister LLP
(614) 227-8824

TIME IS NOW FOR BOARDS TO START PLANNING FOR THE FUTURE

In April 2013, the NAIC Corporate Governance Working Group adopted a white paper entitled “Proposed Responses to a Comparative Analysis of Existing U.S. Corporate Governance Requirements.” The purpose of this white paper was to conduct a comparative analysis between the existing standards of the U.S. and international insurance regulators, and to consider the implementation of specific corporate governance enhancements as a result of the comparative analysis. Exhibit A (attached hereto) to the white paper was a proposal for a new regulatory filing “…to provide a summary of the corporate governance framework, processes and activities in place at the insurer for the primary purpose of assisting its domestic commissioner in gaining, updating and maintaining an understanding of the insurer’s corporate governance on an annual basis."

The white paper indicated that the new confidential corporate governance filing should discuss changes in corporate governance practices from the prior year as well as provide information from four major areas:

  1. General description of the organization’s corporate governance framework;
  2. Description of Board of Directors and committee policies and practices;
  3. Description of management policies and practices; and
  4. Management and oversight of critical risk areas.

At the NAIC Summer National Meeting in August in Indianapolis, industry representatives presented their proposed version of a Corporate Governance Annual Filing Model Act as a starting point for Working Group members to consider. The industry proposal generally follows the outline of the white paper’s Exhibit A.

The Working Group and the industry appear to be in general agreement with the contents of the proposed confidential corporate governance filing. A description of the overall corporate governance framework will include the Board and related committee structure, the entity level at which such Board and committee oversight occurs, and the duties of the Board and its committees.

The description of Board and committee policies and practices under the new corporate governance filing will include information regarding the following:

  • Qualifications, expertise and experience of Board members;
  • Board independence;
  • Number of meetings and Board member attendance;
  • The process to identify, nominate and elect Board members; and
  • Board evaluation of its performance.

The proposed description of management policies and practices will include a discussion of suitability standards used by the organization to determine whether officers and key persons have the appropriate background, experience and integrity to fulfill their roles. In addition, performance evaluation and compensation practices should be described, including a discussion of how the organization ensures that compensation programs do not encourage or reward excessive risk taking. A description of management and oversight of critical risk areas would include a discussion of how management and oversight is delegated between the Board and senior management.

The critical risk areas to be discussed include:

  • Risk management processes;
  • Actuarial function;
  • Investment decision making processes;
  • Reinsurance decision making processes;
  • Business strategy and finance decision making processes;
  • Market conduct decision making processes; and
  • Financial reporting and internal audit processes.

The Working Group’s goal is to have the corporate governance model law become effective in 2016, following the new enterprise risk reporting requirement in 2014 and ORSA in 2015. To accomplish its goal for the corporate governance model law to become effective in 2016, the Working Group has set a goal of drafting the Corporate Governance Annual Filing Model Act in time for adoption at the NAIC Winter National Meeting in December.

Industry support will make it more likely that the Corporate Governance Working Group will meet its goal of adopting a Corporate Governance Annual Filing Model Act by December. 

Knowing that this new model law is coming, companies (and especially boards) can take proactive steps today to avoid having to be reactive to how the individual departments of insurance react to the information provided in the new annual filings.

As noted above, one particular area of focus under the new Corporate Governance Model Law is the qualification, expertise and experience of boards’ members.  This disclosure is similar to and modeled after, the Securities and Exchange Commission’s (the “SEC”) disclosure rules for directors of publicly-traded companies.  The SEC amended its disclosure rules in 2009 to require publicly-traded companies to describe in detail the particular expertise, qualifications, attributes or skills that led the company’s board to conclude that the person should serve as a director of the company.

 Our firm’s governance practice has long been an advocate of expertise boards and has worked with organizations in developing board succession plans that focus on the expertise of the individual board members.  Historically, though, very few boards have given such attention to board succession plans and this practice was conducted only by very progressive boards that desired to be the front runners driving such a best practice.  However, given the new Corporate Governance Model Law, such a practice will no longer be the exception…it will be the rule.  

To be prepared for the future, all boards should begin to engage in discussions regarding a board succession plan and board composition.  The time is now for boards to focus on the creation of expertise boards. 

In developing an expertise board, an organization needs to remember one phrase: “Structure Follows Strategy.”  Essentially, the board’s composition should match the strategic direction of the insurer. 

Boards should avoid merely engaging in the developing of board succession planning only because it is a required step to allow the company to “check the box” when complying with the new corporate governance model law.  Board succession, similar to management succession, is critical to the life of any organization, and as such, is one of a board’s important responsibilities.

Historically, Boards have failed in succession planning for reasons ranging from the perceived excess time requirements to a lack of a defined process. Primarily, for most organizations, board succession planning seems like a task that can always be started tomorrow or only needs to be considered when a seat becomes available.  However, with the ever increasing responsibilities boards are faced with today, and the coming corporate governance model law, it is even more important to have a defined process.  A board’s succession plan needs to be a structured, proactive process, not an activity that the board only thinks about when a seat becomes open.  By beginning the process early, the board can develop a list of different directors with varying expertise to fill a number of different seats on the board when a seat becomes vacant.

Boards, in the past, may have been able to successfully find good candidates at the specific times they needed to fill a vacancy.  However, the economic climate in which insurance companies are operating today requires a more proactive approach.  Starting early will help identify potential directors and also the skill set the board believes it will need in the future. 

            While all organizations are different, what may be a good succession plan for one may not necessarily be the best plan for another.  Still, the considerations that go into any board succession plan are the same. 

            First, any plan must start with evaluating the current strategic direction of the organization within its competitive landscape. 

            Second (and also a separate requirement under the proposed new corporate governance model law), all boards should engage in a board evaluation, which includes a self-assessment and skills analysis to create an inventory of the skills present on the current board.  This information will allow the organization to see the gaps in the expertise present on the board today, and the expertise needed to allow the company to meet its strategic objectives.

By developing a succession plan and the optimal board composition, boards will be able to adequately provide the requisite level of direction and oversight to their companies, but also be in a position to respond to the disclosure that will be required under the new corporate governance model law.

 

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