Have you been involved in identifying “best practices” in a particular industry, sector, process or function, to shape and enhance your company’s governance, risk management, compliance or other activities? I know I have, as have many of my clients. It’s tough to argue with what are deemed best practices, since by definition “best” must be the ultimate. And the same goes for such terms as “leading” or “leading edge” practices. I wrote about this recently in a compliance journal, and would like to share some of my observations here.
As you may have already learned, experience shows that so called best practices often are no more than common practices, developed from surveys or information about peers, which might or might not be truly effective in the companies using them or elsewhere. And blindly following what others claim to be successful can lead to trouble.
Consider CEO compensation for example. Many board compensation committees have followed what was called a “best” practice but in reality was merely a common way of using comparative peer data in determining CEO compensation. Among the results was the Lake Woebegone effect, where every CEO had to be above average. The thought was if a board was doing its job in selecting and retaining the Company’s CEO, then the CEO must by definition be “above average.” Among the unintended consequences in financial institutions and some other organizations was extreme risk taking to drive short-term reported performance which in turn drove CEO comp.
Well, while peer comparison done with the right peer group can be a useful tool, truly effective boards directly link compensation to the company’s strategic plan. Relevant performance metrics motivate not short-term revenue but long-term return and shareholder value. While reflecting marketplace realities, compensation is geared to achievement of specified performance measures, aligned with board-approved risk appetites. And change-of-control and other severance arrangements are well thought out and tested in advance to avoid the kinds of outlandish payments we’ve seen all too often.
Indiscriminately following the herd in designing business processes and risk management and compliance systems can result in similarly unfortunate outcomes. It’s important to keep in mind that carefully and thoughtfully structuring processes in the context of your company’s objectives, culture, strategy, and risks will pay long-term dividends. Yes, it takes more effort, but nothing less will suffice, especially in this economic and competitive environment.