The Danger of the Term “Risk Appetite” When Discussing Governance

The governance literature, including Policy Governance® writers, commonly use the term risk appetite when referring to designing board policies dealing with risk—the limitations or values-based no-nos the organization must avoid. Do we really mean we are adjusting, by policy, how risky to permit the organization to be?!

The concept of “risk appetite” comes from the investment world where it represents the willingness to trade increased risk for a higher probability of greater gain. We understand that, in the investment world, there is a putative tradeoff between risk and gain. That principle seems true in other areas of living as well. To do great things, we are told, we must step out of our comfort zone, out of the box, and take risk.

The truth is much more complicated. For example, entrepreneurs are usually thought of as risk takers. But this is not an accurate characterization. Research finds that entrepreneurs are, in fact, risk averse; they obsess about minimizing risk to accomplish their objective of creating a product and a company. They do not want greater risk so they take great pains to reduce it while proceeding. Inventors commonly see little risk (except their time and possibility of attendant cost,) but can achieve great gains. The Wright Brothers were very careful as they iterated their way to finding what design principles would permit their invention to actually fly. That care and minimization of risk paid great dividends.

More soberly however, there are risks we do not want at all, if possible. Board policies, for the most part, actually address these, and “risk appetite” does not apply. The answer is "as little as possible, even none, please." In the world of organizational risks we should try diligently to minimize risk associated with organizational efforts (operations, HR, customers, assets, environment, etc). The domain we are in often is the greatest determiner of risk—working with kids, camping, health care, carnival rides as part of a fundraiser, etc. What would a high risk appetite look like in terms of assets? Loose controls because we don’t want to bother?! What about operations? No attention to safety for the same reason? We need to think carefully about the way we use terms, their origins and implications when imported into another part of life.

On the Importance of an Organizational Financial “Conscience”

Over the years watching nonprofits, ministries, and churches financially crash, I have become convinced, that even the smallest of organizations MUST have someone competent to serve as a "financial oversight officer" or a financial leader (under the pastor, ED, or CEO) who is the financial strategist and financial conscience for the organization, (a term that came from a friend who fixes organizational messes). This person, he or she, may be the Executive Director, but if the ED has no financial sense, the organization must have a person who thinks in terms of financial strategy and risks and who can even push back against his boss, the ED, and even educate the leader. 

This person may be a volunteer or part time. He or she does not need to be the financial processor (bookkeeping and accounting—that can even be farmed out, including the generating of the reports), but there must a person reporting to the CEO (or the CEO himself) who has the savvy and the interests of the financial strategy and well-being of the organization on board in some manner. 

I do not recommend a separate board member because then the board has two people reporting to it, introducing authority and accountability confusion. 

The Importance of Momentum: a Problem for Boards

 Momentum, (and maintaining it), is infrequently mentioned in discussions concerning leaders; (however, Jim Collins discussed it in Good to Great in terms of spinning a fly-wheel and accelerating it). And, Brian Tracy in his little but powerful book, Eat That Frog, stresses not only initiative (a bias for action), but the importance of sustaining momentum once one has started on an initiative, this to sustain the discipline and energy required to complete what you have tackled. 

I wholeheartedly agree. I immediately saw especially the difficulty for boards. Repeatedly I have seen boards get concerned about the need for an action or excited about getting governance training, such as being trained in Policy Governance, developing much needed policies, or improved dynamic, only to procrastinate the action or the training. A board elects to be oriented or receive introductory training and then does nothing—no decisions, no calendar, no deadlines, no action, nothing. This kills momentum and kills the energy of the initial start. This phenomenon applies as well to tough decisions, e.g., dealing with a CEO or a financial issue—putting it off...and off, ...(perhaps "until I’m off the board" (or out of Congress)).

To solve this, I’m convinced the board needs to vote intent immediately while it has energy and a sense of urgency—and clearly express its intent. Boards are very susceptible to loss of momentum. Time kills one’s sense of urgency. Boards meet infrequently. Procrastination of a decision, any decision, diminishes the sense of urgency that originally triggered it. (This is true personally as well.) An opponent of a proposal on staff or on the board, the CEO, or the Chair, who does not want action will sometimes urge delay for just that reason—slow the staff or board down and maybe they’ll forget about it (he hopes); the sense of urgency will dissipate and the board will return to its normal reactive passivity. By the way, this procrastination is different than taking time to understand and reflect. If that is needed—do it…and maintain the momentum! Set the next step, the date due, and the person or committee accountable.

Board member turnover worsens this dynamic. The new member(s) comes with no history, no commitment and no sense of urgency.

Consequently, the role of the chair (or a team “captain” playing whip) is vital. A passive and lazy chair is death to effective governance.

(Published on website 1/14/13)

RMB

Accountability of the Board and Knowing the Organization’s Increasing Risk

 In our last blog we talked about collective accountability and the difficulty boards have recognizing it. In a past opinion, the Chancellery (corporations) Court of Delaware has found that boards have a “higher accountability” as the organization approaches a high risk zone, e.g., the “zone of insolvency,” (i.e., is getting dangerously close to insolvency). I would slightly modify the court’s choice of words only to point out that it is not it’s accountability, per se, that changes, since it has always had the accountability, (which doesn’t change), but it’s duty and responsibility of heightened attentiveness and rigor of caution to what monitoring is revealing and the board's duty for action. 

Unfortunately, nonprofit and ministry boards, especially, are notorious for ignoring danger signals, or if they recognize them, hoping they will go away or fix themselves and that the executive director will change the present course of fiscal disaster. This is especially true if the executive director is founder or long term. The board’s loyalty and desire to be “nice” rather than tough, mitigates their joint sense of accountability toward maintaining a healthy organization. Board members individually know the organization is headed toward trouble and privately feel the “board should do something” but have dissociated themselves from the urgency for action the accountability should produce. 

(Originally posted on our website 1/7/13)

RMB

The Challenge (and Danger) of Collective Accountability

 Recently a judge in New York has found a way to accomplish something that is normally difficult to impress upon board members. “Joint accountability” is a term used to apply to groups such as boards that are collectively accountable with each person carrying the same accountability as all others on the board. They all share in the same accountability. Unfortunately, this is a difficult concept to reify for a group—that of mutually shared accountability. Patrick Lencioni addresses it in his book, The Five Dysfunctions of a Team, explaining that without it, team effectiveness is mitigated. Shared accountability, in turn, says Lencioni, depends on commitment (by each member). Nevertheless, several elements found frequently in board governance diminish the sense of shared accountability, size (too big), poor attendance, hiding, failure to individually engage, e.g., to participate, or abstaining when voting, not owning board decisions once made, etc.

In the Dec. 10^th NY Times was a story of the board of a nonprofit charity that rents affordable housing to students. The board members were fined roughly $1 million each for “stunning” negligence by “breaching” the duties of loyalty and care in permitting the organization to engage in fraud via inurement—self-dealing with a corporation owned by the NP’s executive director. In spite of the fact that the ED mislead the board, the court held that they had a duty to monitor organizational transactions to assure avoidance of conflict of interest and fraudulent inurement. Trustees also had, themselves, some individual “consulting contracts” with the organization, which perhaps helped blind them to other forms of perfidy.

Accountability is real. However, when society invented the board as a means to oversee corporations about 500 years ago it introduced a group dynamic that, by its nature, often impairs a member’s individual personal sense of accountability for the quality of shared governance. This judge found one solution!

(Originally post on our website 1/2/2013)

RMB

Pastor also Deemed CEO by IRS, Consequently subject to fine

In structuring church governance it is very difficult to avoid including the CEO role (of the church as an incorporated organization) as intrinsically within that of being the pastor, since all staff are generally appointed by and report to him. This defacto dual role of the pastor brings sobering liability as illustrated by the IRS case below, upheld by the Federal District Court.

 “A federal District Court in North Carolina has affirmed a Bankruptcy Court decision holding that the founder and “Chief Apostle” of a church, who had the powers of president and CEO of the corporation, is personally liable for payment of withholding taxes for church employees when the church failed to remit the amounts due.  The Court has rejected a claim that an interpretation of her powers, based in part on a reading of the church’s bylaws, violated the Apostle’s and the church’s rights under the First Amendment of the U.S. Constitution. (Vaughan v. Internal Revenue Service, E.D. NC, No. 4:11-CV-222, 7/16/12.) (From NP Issues news page Oct-Nov. 2012)

I consistently argue that a vigilant (and diligent) governing body, elders or otherwise, is the best protection a pastor can have. But oversight diligence has to be via a set of articulated principles by which the church is run, i.e. called policies—covering all areas of risk to which the church is subject.

RMB

Reacting to the HBR Article - Oct. 2012 - the Rise of Big Data and the implications for Nonprofit and Ministry Leadership

I was visiting with a friend who chairs a nonprofit ministry board, and her board wants to understand how the organization is doing in terms of accomplishing its purpose and to assess its strategy. This is an increasing expectation of nonprofit boards. This means that the senior leadership team will have to figure out how to measure its progress toward the desired outcomes, impacting and changing lives, and that is not just counting client encounters! Or some event-based “dashboard.” It will call for a thoughtful approach, even inventiveness, in metrics and analysis.  

The series of articles in this past Oct. issue of the Harvard Business Review reminded me again of an often overlooked KSC (knowledge, skill, and/or competency) needed by senior executive leaders, that of metrology. We are (usually) quick to acknowledge the need for financial understanding by a chief executive to at least the level needed to engage in the financial leadership of their organization, but the lists I see by writers on leadership rarely mention any need for an adequate understanding of numbers, measurement, and interpreting their relationships (metrology). The HBR articles reminded me that the growing complexity of the organizational world, including the nonprofit world, will increasingly require leaders to grasp numbers and analysis sufficiently to make sense of the sea of data available and to then lead their organizations into improving the understanding and insight they will need to form shrewd strategy in these complex days. 

The same demands are occurring on the donor side. Nonprofits are looking for ways to understand their donors and the shifting topography of donor landscape, especially their donor landscape. There is much available in customer analytics but less regarding donor analytics, a much less tangible area to operate in.

All this adds up (especially when you throw in financial data) to an executive leadership that must become sufficiently analytics savvy to effectively and strategically lead.

(Originally posted on our website 12/18/12)

RMB