Health board report has important messages for private sector too

The Director-General of Health established a Review Panel in July last year to consider issues relating to conflicts of interest that may have arisen at Hawke's Bay District Health Board (DHB). The panel released its report to the Director-General on 14 March 2008. While DHBs operate under a statutory framework that includes specific regulation of key governance issues, including the duties of Board members and disclosure obligations, there are strong parallels with the role of Board members in both the public and private sector. In this article, senior associate Stephen Layburn reviews the Hawke's Bay DHB report and considers its implications for governance in the corporate sector.

Key Hawke's Bay findings

To recap, an independent panel was appointed by the Director-General of Health to review the Hawke's Bay District Health Board's (HBDHB) handling of conflicts of interest after concerns were raised about tender processes for community healthcare and a pilot training programme. Among the panel's findings were inadequacies of disclosure by a Board member of his involvement, prior to appointment to the Board, in the development of an RFP for a tender in which his company was a bidder and concerns about the adequacy of the management of the interest of another Board member in relation to the Board's review of its community pharmacy funding activities.

The panel found HBDHB and Board members did not adequately handle conflicts of interest even though the Board actively encouraged disclosures by its members. In handling any conflicts, the panel noted that disclosure itself is not enough - in most cases (in the absence of a statutory waiver) the conflicted Board member should not participate in Board deliberations on the relevant matter.

The panel also commented that there were direct communications between Board members and management on operational matters and that this was generally not appropriate or consistent with good practice. These issues may have been compounded by the Board's governance manual failing to address conflicts of interest in a comprehensive manner as well as having minimal induction and training for Board members, the panel said.

Conflicts of interest in the private sector

Companies operating in the private sector are also subject to detailed compliance obligations regarding the disclosure and management of conflicts of interest. The Companies Act 1993 requires that:

• all companies must maintain an interests register;

• individual directors must make disclosure of transactions in which they are "interested" (as that term is defined in the Companies Act) and ensure that those disclosures are entered in the interests register. Where there is more than one director, those disclosures must be made to the Board; and

• the details of disclosures entered in the interests register must be published in the annual report and made available for inspection.

The Companies Act also contains detailed provisions governing the circumstances in which a company can avoid a transaction in which a director is "interested" and also provides that an interested director may attend and vote at a Board meeting of directors at which a matter relating to a transaction in which he or she is interested arises - unless the constitution provides otherwise.

For listed companies, in addition to the detailed protections built around the concept of Related Party Transactions, the NZX Listing Rules add a further layer of obligations by:

• requiring listed issuers to have a minimum of two "Independent Directors". They must not be executive officers of the company and have no "Disqualifying Relationships";

• reversing the default setting contained in the Companies Act by providing that interested directors shall not vote on matters in which they are interested; and

• requiring benchmarking of corporate governance principles against the NZX's Corporate Governance Best Practice Code, which includes a specific recommendation that listed issuers formulate a code of ethics including standards and procedures for the handling of conflicts of interest.

Across the public divide

In the Hawke's Bay case are key points of direct relevance in the corporate sector around maintaining an interests register and disclosure. These cover the timing and content of disclosures, the range of circumstances in which a conflict should be disclosed and the need for vigilance on the part of a Board in determining the extent of a conflict or potential conflict. There is also mention of the need to consider each disclosure and (where appropriate) make further enquiry to determine the full extent of the conflict and its impact on Board activities.

The nature and size of New Zealand business means that, even in the listed company arena, the likelihood of conflicts of interest arising out of routine transactions are such that the management tools discussed by the panel are equally relevant in the private sector. In particular, there is a very real risk that the specialist expertise that even the most experienced director brings to the Board table may ultimately be outweighed by the need for the company to obtain comfort that transactions are undertaken on arms length terms and for it to be seen to have arrived at decisions independently. These discussions are much more clear-cut in a listed company environment, when the NZX Listing Rules require interested directors to disclose and abstain.

Lessons derived from the panel's report are worthy of further examination by most companies in which the Board represents the interests of a wider group of stakeholders than just owner/operators, including:

• the need for training for directors about the extent of their obligations to address conflicts of interest;

• the benefits from ensuring that there are adequately documented procedures in places for dealing with conflicts – in a governance manual or similar document; and

• the wider governance issues that arise out of situations of conflicts of interest, including the management issues that flow from a conflict of interest such as the need to carefully consider direct contact between the affected Board member and the company's management team.

What lies ahead

After the smoke clears from the ensuing debate between those involved as to the ultimate responsibility for many of the Hawke's Bay Board's difficulties, the key messages from the panel's report may become clearer.

At the core is that the overlay between legal duties, ethical considerations and best practice is such that a Board must ensure that it lays down an adequate framework and continues to monitor its functions against appropriate standards and procedures for sound corporate governance.

Perhaps the likelihood of a difficult trading environment for a range of sectors of the economy only serve to remind us that the proper functioning of a Board is more likely to leave it better positioned to work well with management to address the challenges that lie ahead.

Enquiries and information

For more information on any of the cases, articles and features in Commercial Quarterly, please email Diane Graham or call her on 64 9 916 8849.