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Measuring the effectiveness of a company's board of directors is no easy task. The practice of corporate governance inside boardrooms is a closely guarded and clandestine activity known only to the directors who sit around the table.

So how do you judge the effectiveness of a board? In its first ranking of corporate governance, BUSINESS WEEK chose to gather the views of the nation's largest pension funds and money managers as well as experts in the field of governance. Then, we measured each board's independence, quality, and accountability to shareholders by studying its composition, directors' attendance records, compensation plans, and other criteria.

-- BOARD PERFORMANCE POLL. We mailed a questionnaire to 200 of the largest corporate, public, and union pension funds, and 65 of the largest money-management firms. In addition, 30 experts in the field of corporate governance, including academics, attorneys, and activists, were polled. Of the 295 surveys sent out, 61 were answered, a response rate of 21%. The responding money managers and funds currently manage $1.64 trillion in equity assets.

Those surveyed were asked to identify public corporations with the most and least effective boards of directors. The company cited most often for having an effective board got 25 points; the company most cited for an ineffective board got -25. Then, respondents were asked to grade the boards on a scale of 0 (poor) to 10 (excellent) in four categories: accountability to shareholders, quality of the directors, independence, and corporate performance.

-- GOVERNANCE GUIDELINE ANALYSIS. The 212 companies singled out as having either the most or least effective boards were then subjected to another round of scrutiny. BUSINESS WEEK measured their boards against a set of guidelines or best practices articulated by corporate-governance experts. For boardroom data, we examined the companies' latest proxy statements. Points were awarded to boards that met the criteria. Points were subtraced when the boards or individual directors fell significantly below the standards.

To judge independence, a board scored points if it has no more than two inside directors, no insiders on the board's audit, nominating, and compensation committees, no outside directors who directly or indirectly draw consulting, legal, or other fees from the company, and no interlocking directorships (CEOs who sit on each other's boards).

To assess accountability to shareholders, a company scored points when all of its directors own a minimum of $100,000 in stock to better align their interests with those of investors. More points were awarded if a company does not offer pensions to its directors--a benefit many believe makes a director less likely to challenge the CEO--and if the board stands for election every year.

To measure director quality, a company was awarded points if its fully employed directors sit on no more than three boards and its retired directors serve on no more than six. More points were awarded if a board had at least one outside director with experience in the company's core business and if all the directors attended 75% or more of their meetings. Five bonus points were awarded if a board has its own governance committee that regularly evaluates board performance.

-- COMPOSITE RANKING. To produce an overall ranking, the raw scores from both the survey and the board analysis were combined. A maximum of 100 points could be scored, half based on the poll results and half on the analysis of proxy data.

Campbell Soup Co.'s board, for example, topped the best list by racking up 97.8 points. The company aced the analysis portion of the ranking to gain 50 points. It also won 47.8 points from the survey portion by being singled out as having the best board by more respondents than any other company--which accounted for half of the survey weight--and by earning among the highest scores in accountability, quality, independence, and corporate performance.

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Updated June 14, 1997 by bwwebmaster
Copyright 1996, Bloomberg L.P.
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