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Emerging Technologies & Director Liability
It’s becoming a whole lot riskier being a director. Or is it?
In part, the role of the board is to help management take advantage of key strategic opportunities for growth while mitigating the risks inherent in all business decisions – all on behalf of shareholders.
Coming out of the recent economic downturn (and with “encouragement” from the Dodd-Frank legislative mindset), increased emphasis is being placed on risk management than ever before. According to NACD surveys, this topic ranks among the top three on board agendas today.
The problem is that because of the risk inherent in all business decisions, those made by the board in support of a strategic growth strategy don’t always work out. Fortunately, however, directors still have the Business Judgment Rule covering their backs. The Business Judgment Rule is the ultimate standard of judicial review in determining whether directors face any personal liability as a result of the business decisions they make. In part, the determination rests on whether directors “acted on an informed basis” when reaching a decision, not on the outcome from that decision.
But what happens to the meaning of “being informed” when new technology become available, even in areas previously thought of as “too soft” to measure?
Take M&A for example.
In spite of the teams of bankers, attorneys, accountants, industry consultants and the hosts of specialists that are brought in to inform directors about the risks associated with a given transaction, few mergers (roughly only 20%) ever measure up to the expectations held for them at the time of closing and, in 2012, 92% of them triggered an average of five lawsuits each. What’s more, research from sources including Coopers and Lybrand, the British Institute of Management, the Merrill Data Site and Watson-Wyatt have concluded that the cause of perhaps as many as 75% of the underperforming acquisitions stems from “culture clashes” between the acquirer and the target companies – an area heretofore not closely
scrutinized during due diligence because of the lack of granularity and timeliness of the few tools historically available.
So, while M&A can be an important growth strategy requiring endorsement by informed directors, deals are inherently highly risky and the most frequently underlying cause of those risks – “culture clashes” – have not been rigorously examined.
Now enter new technology in the form of Compatibility Mapping®, a state-of-the analytic tool from Crenshaw Associates that enables due diligence teams to actually measure “culture clashes” and, equally as important, the “cultural fit” of a merger on a highly granular basis and within the expedited timeframes imposed by most deal structures. Like some of the other tools out there, Compatibility Mapping® has been tested and proven to be highly reliable, valid and effective in assessing culture, but the laser-like insights that its new technology brings to due diligence and integration planning creates a whole body of information that can be utilized to mitigate risk.
So, what does the emergence of new technology like this mean to directors and boards from a liability perspective? Under the Business Judgment Rule, they don’t have to necessarily make the “right” decision (i.e. one that in hindsight achieved the desired outcomes), but they do have to make an “informed” decision. Where does that information come from? How do they stay on top of all the possible emerging new best practices in this day of information overload?
The answer, I believe, is the same as it’s always been: independently, directors read, and they listen and they ask the same kinds of probing, information-gathering questions of the management team as they have in the past. “What are the biggest potential risks in this strategy and what are you doing that’s going to reduce those risks that’s better than what’s been done before?” Same process. Different answers.
In this day of rapidly emerging technological changes, asking the right questions remains the key to being “informed” and being informed is the key to avoiding personal liability for the decisions directors are called upon to make.