Nov. 6, 2006
Law Professor Analysis Shows Increased SEC Scrutiny of Board Members
Independent members of corporate boards will likely face increased scrutiny because of a new focus by federal regulators investigating corporate wrongdoing, according to an analysis by a University of Iowa corporate law professor.
Hillary Sale, an expert in securities law and corporate governance issues, said the Securities and Exchange Commission (SEC) hopes its new focus will reduce corporate securities fraud by requiring independent board members to be more active monitors of their companies' public financial disclosures.
"The SEC is saying it expects to pay increased attention to whether independent board members are really fulfilling their responsibilities on the board," said Sale, whose analysis was published recently in the journal Business Law. "The regulators are telling board members to pay better attention to their companies and do their jobs as monitors."
Sale said independent board members are those who are appointed to a board from outside the company and are financially independent from the company, unlike a CEO or CFO. Since they are not actively involved in the day-to-day management of a company, she said regulators generally haven't expected them to be as knowledgeable about the company's financial statements, press releases, and other public documents and so haven't pressed them as hard in their investigations.
Board member scrutiny has become a larger issue in recent years because lax oversight by corporate boards was partly responsible for the wave of scandals at companies like Enron and WorldCom. More recently, corporate boards are being scrutinized for their inaction in the stock options backdating scandal, first uncovered by Erik Lie, a finance professor in the UI's Tippie College of Business. According to Lie's research, more than 2,200 U.S. companies may have engaged in illegal options backdating in recent years without objection from their boards of directors.
Sale said laws and regulations that require active monitoring by independent board members have been in place for years but were rarely used by the SEC. She said the SEC has typically focused more on internal board members when it investigated and prosecuted corporate malfeasance, such as the CEO or CFO.
"The SEC's new focus means that if independent directors become aware of potential discrepancies or actual inaccuracies, it is their job to question and correct it," Sale said. "If they fail to do so, the SEC has indicated that it believes that those board members have failed in their duty to oversee the company's financial reporting process and may face liability."
Generally, Sale said this new SEC focus may help to ensure that independent board members act as more than a rubber stamp on the company's public disclosures if they may be held legally responsible. That additional monitoring, she said, is likely to reduce the chance of a corporate officer breaking the law by committing fraud.
However, it may have a negative effect because the new SEC focus increases the risk of serving as an independent board member and might reduce the number of people willing to serve on a board and take that risk.
STORY SOURCE: University of Iowa News Service, 300 Plaza Centre One, Suite 371, Iowa City, Iowa 52242-2500.
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