Outside is not independent

Three categories, not two

Students arrive with two categories — directors who work for the company and directors who do not — and the midterm is built to punish that. There are three.

• An inside director is an executive or employee of the company who also sits on the board: the CEO, the CFO.
• An outside director is anyone who is not an employee. That is a description of employment, and nothing more.
• An independent director is an outside director who also has no direct or indirect material relationship with the company — no relationship the board could reasonably expect to interfere with the exercise of independent judgement. That is the test in NI 52-110 s. 1.4, which NI 58-101 adopts for governance disclosure and which NP 58-201’s guidelines rely on.

Every independent director is outside; not every outside director is independent. The exam question is almost always about the gap.

Lakehead Marine’s seven directors

1. The CEO and founder — inside.
2. The CFO — inside.
3. The CEO’s sister, a retired teacher who owns no shares — outside, but not independent: an immediate family member of an executive officer is deemed to have a material relationship.
4. The company’s principal lawyer, whose firm bills Lakehead several hundred thousand dollars a year — outside, but not independent: the board could not reasonably conclude that those fees leave his judgement unaffected.
5. A retired shipyard executive from another province, a chartered accountant who runs her own practice, and a marine-insurance broker who does no business with Lakehead — outside and independent.

Three independent directors out of seven. NP 58-201 s. 3.1 says the board should have a majority of independent directors; Lakehead does not.

The deemed relationships and the three-year look-back

NI 52-110 s. 1.4(3) lists relationships that are material by definition, each with a three-year look-back: an employee or executive officer of the company; an immediate family member of an executive officer; a partner or employee of the company’s auditor (or one who worked on the audit); a compensation-committee interlock; and a person who received more than $75,000 of direct compensation from the company in any twelve-month period — with director and committee fees excluded. So a CEO who retired last year is not independent for two more years, however distant she now is from the business.

Two things are not on the list. Owning shares is not, by itself, a material relationship — a director holding 2 % of Lakehead is not disqualified by the holding alone, though other dealings with a large shareholder might be. And length of service is not on the list either; tenure is a judgement question (lesson 5.6), not a rule.

The chair

The chair runs the board: sets the agenda, leads the meetings, and leads the board’s evaluation of the CEO. When the CEO is also the chair, the person being evaluated is running the evaluation and writing the agenda for it — the classic red flag. NP 58-201 s. 3.2 says the chair should be an independent director; where that is not appropriate, the board should appoint an independent lead director who chairs the independent directors’ sessions and provides the leadership the combined role cannot. Lakehead’s founder is CEO and chair, and there is no lead director.