The risks of becoming an Australian Non-Executive Director?

In Australia, a non-executive director is any member of the board who is not employed by the organisation, though director liabilities for executive directors and non-executive directors are nearly identical. In this article, I want to walk you through some of these risks and how you might mitigate them before you consider taking up a non-executive appointment, but also why so many people will take on a non-executive directorship despite these risks.

What is a Non-Executive Director (NED) in Australia?

Executive directors are employees of the company and help manage its day-to-day operations. However, Non-Executive Directors (NEDs) aren’t employees of the company, yet nearly all of the director duties for executive directors and non-executive directors are identical – including fiduciary duties. As a result, executive directors and NEDs have essentially the same liabilities. In fact, according to the AICD, numerous state and territory laws in Australia impose personal liability on individual directors for corporate misconduct. This means the balance of the non-executive role has shifted more toward that of an executive role as non-executive directors try to meet their growing responsibilities. 

Liabilities an overview

Accepting a non-executive appointment is not a decision to be taken lightly. However, executive and Non-Executive directors don’t have to worry too much about liability as long as they perform all their board duties with due diligence. If they are negligent and do not appropriately fulfil their duties and responsibilities, they could be liable to compensate affected parties for any loss. Other consequences for board directors can include losing their board seat, fines, and, in the worst-case scenarios, prison time. Companies and NEDs also have much to lose in the way of reputational damage if board directors are found to be negligent in their board duties.

Directors can be found personally liable for recompense to people or organisations who have been harmed by their actions, including when the directors have failed to act. Director penalty notices can require directors to pay millions of dollars if superannuation, tax, or employee entitlements have not been paid. For example, in a recent case, a director of a labour-hire company was issued with Director Penalty Notices (DPNs) totalling several million dollars in relation to unpaid tax and superannuation liabilities. Her assertion that she had played no part in the running of the companies did not provide the protection she might have expected. Directors cannot assume that being a nominal or non-participating director will shield them from liability. When you accept a board appointment, you accept responsibility for putting yourself in a position to understand, oversee and properly discharge your duties. Failing to do so can have serious personal consequences,” said Julie Garland McLellan, one of Australia’s leading board experts.

The risks of a non-executive directorship

• Financial – Board directors are liable and have had to make payments out of their own pockets if not covered by insurance. Whilst liability allegations against non-executive directors don’t occur often, when they do, they can have a serious impact on all board directors.
• Remuneration – The hourly rate is often dreadful – When you do the sums, the hourly rate for most board roles often does not make up for the risks you will take. In other cases, if unpaid, you will find yourself paying to take on these risks. 
• Limited Control – Being part of a board, by definition, means that you are not the sole decision-maker. You are, therefore, partly reliant on the quality of other board members and the Chair – things you don’t have control over.
• Time – For many of you who already have busy executive and personal lives, taking on a board role means time out of the office or away from your family. This should be factored into any desire to take a board position. I can speak from experience that even one day a month out of the office can significantly impact your effectiveness and time management.
• Reputation – Whilst the financial penalties incurred by some NEDs may hurt, it is the reputation damage related to their misconduct or business failure that, I think, is the greatest risk to any NED. I can recount the devastating effect that a failed appointment has had on a handful of NEDs. While trying to rebuild their careers, these people find the process debilitating – professionally and personally. Inevitably, each time they apply for a new NED role, they have to explain their past actions and try, perhaps in vain, to explain why they are an acceptable risk for the new organisation to take. They have to do that initially in their application itself; if they make it through this sifting stage, then they have to do it in an interview and, if successful, they have to do it again in a final interview. Even if this goes well, they will undoubtedly be competing against others with similar skills and experience who do not have the same black mark against their reputation. As such, they almost always lose out and must go through the whole process again. It truly is an awful thing to witness. 

Mitigating the risks

As well as being clear on the non-executive role being offered, you should also find out as much as possible about the company itself. One of the main aims of carrying out due diligence on the company is to ensure you are joining a business that is operating with integrity: adhering to its legal and regulatory obligations, maintaining and operating within the confines of robust corporate governance policies, and taking proactive remedial action if any deficiencies are identified.

Much of the information you need will be publicly available; the rest should be obtained from the company, including meetings with existing board members and senior management. Including:

• Financial – The company’s annual report and accounts will provide key information about its financial and trading history. A careful review of these reports and accounts should be the starting point for your due diligence exercise. Julie Garland McLellan urges prospective directors to consider the time and expense incurred by the last director to join the board of Dick Smith Electronics, shortly before it became insolvent. Often the signs of financial stress are apparent in the financial reports long before the insolvency. Wise directors make sure they look for them. 
• Legal and Regulatory – Analyse the legal and regulatory environment in which the company operates and the implications for you and the business. You need to understand the possible consequences if things go wrong and the personal liability that could potentially attach to you as a NED. 
• Governance – Understand where and how frequently board meetings are held, the level of attendance and dissension at board meetings, whether directors are given sufficient time to review the agenda and supporting documentation, and the nature and quality of the deliberations. Lengthy and late board papers are frequently cited in cases where directors’ diligence is being judged. They do not exculpate the oversight; directors must take responsibility for the papers they accept from management.
• Risk Management – Managing and mitigating risk, particularly in areas such as cybersecurity and disaster recovery, is key to fulfilling your duties as a NED. Being able to understand the risk framework and reporting is essential if you are to be able to appropriately govern.
• Public Statements – Seek out and read any press releases, articles, and analysts’ and ratings agencies’ reports about the company. After all, you are tying your brand to that of the company. 
• Insurance – Ask for a copy of the company’s directors’ and officers’ insurance. Make sure you understand key elements such as whether the insurer will advance funds for your legal defence. Consider purchasing your own D&O insurance.
• Culture – You are going to be held accountable for it. During the due diligence process, fellow board members will be able to shed light here. The various Royal Commissions were widely reported to have serious implications for NEDs, and there was even talk of boardrooms emptying overnight. But today, with boardrooms still well populated, it seems the threat did nothing to dissuade people from seeking board appointments. Anecdotally, I think because of all the media hype about NEDs, the opposite occurred – with more people than ever seeking board appointments because of the rewards.

A good D&I policy will provide added protection, especially if you need funds advanced to cover the cost of mounting a legal defence. According to Diligent in Australia, between 1980 and 2005, board directors had to make payments out of their own pockets that weren’t covered by insurance, including legal fees, in only 12 cases. While liability allegations against non-executive directors don’t occur often, when they do, they can seriously affect all board directors and the company. A D&O insurance policy is a good start to director protection.

Why would anyone want to be a non-executive director?

There are plenty of experienced Non-Executives and Executives who, when offered the opportunity to join a board, their first response is ‘no’ because, in their minds, the risks – reputationally, financially and personally – are just too high. 

While the risks are considerable and, for some, entirely unpalatable in most cases, the rewards outweigh them (I think there are eight very good reasons to pursue a board position). For these reasons, I can guarantee you that, rightly or wrongly, for every individual who says ‘no’ to a board role, there are 10, 20, or 100 people or more who will take that appointment if they are offered it. It is a highly competitive space… and it is not getting any easier to secure a board appointment. But you probably knew that already. Let me know if you would like some support.

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