Learn to spot red flags

Once a company has imploded, the spotlight turns to the board and often illuminates what seem in retrospect to be obvious problems. The board at India’s Satyam Computer Systems Ltd. was stacked with insiders who were either members of the controlling families, had close business or personal ties to the company’s leaders, or who had little experience in the industry sector or financial expertise.

Problems may only come to light after a scandal has erupted, but journalists can expose these problems in advance by diligent reporting. This means digging deeply into the background, experience, expertise and connections of directors, executives and controlling shareholders. Check the directors’ board affiliations. Do any of them serve on common boards and have relationships built on those connections?

Such digging can reveal unexpected — and newsworthy — connections beneath the surface.

“While ‘independent’ directors are usually independent from the management of the company, many times these directors have significant connections either to other board members or to significant shareholders,” says Dr. Nasser Saidi, chief economist and executive of Hawkamah Institute for Corporate Governance in Dubai.

When independent directors resign from a board, journal-ists and investors take note. Such resignations are not regular occurrences and may indicate deeper problems in the company. Resignations for “family” or “personal” reasons almost always deserve further digging by journalists.

Two independent directors of China-based Automated Touchstone Machine Ltd. (ATM) resigned in September of 2007, saying they could no longer vouch for the company’s latest financial statements. The directors’ resignations had even more impact because one was the chairman and the other a member of the audit committee at the Singapore Stock Exchange-listed company.

Such resignations became a regular occurrence at ATM before the exchange delisted the company in 2008.

A similar alarm was sounded by a director of China Aviation Oil, also a Singapore-listed company, when she resigned in 2008 after two years, saying she no longer could discharge her duties as an independent director because of the board’s flouting of best practices. She also questioned the independence of certain other board members in a letter that she made public.