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Bronwyn
Howell is Programme Director, Post-Experience Programmes at
Victoria Management School
,
Victoria
University of
Wellington
, and a research associate at ISCR. She has held management
positions and undertaken research in the information technology,
health and nonprofit sectors, and has a particular research
interest in institutional design and governance in
government-funded health sectors. Recent articles on these
subjects have been published in Agenda, Journal of Health
Services Research and Policy and Victoria University Law
Review.
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Guest Forum
Opinion piece by
Bronwyn
Howell
1 April 2007
Governments,
Governance and Trust
Unpacking the fiduciary duties of NZ healthcare quangos
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The
recent finding by Justice Asher in the Auckland High Court
that a group of District Health Boards (DHBs) failed to
adequately manage both a conflict of interest invoked by one
of their board members being a senior party in a contract let
by the board and a fair consultation process throws into doubt
the efficacy of many of the
processes undertaken by a very large number of
‘quasi-autonomous non-governmental organisations’
(quangos) established in the health care sector under the
health reforms implemented since 2000.
These agencies – principally 21 DHBs and over 80
Primary Health Organisations – are charged with disbursing
practically all of
New Zealand
’s $10.4 billion taxpayer-funded annual health spend.
At 21% of government spending, the health vote
constitutes the largest single government spending category,
and has been the fastest-growing, averaging annual growth of
8% per annum in the last 10 years[1].
Underlying
the Asher decision is the principle that board members
(directors) of any institution – be it a for-profit
shareholder-owned firm, a nonprofit society or trust, or even
a state-owned enterprise – owe their primary duty of
decision-making care to the institution itself.
These duties, known as fiduciary duties, reflect the
degree of trust that shareholders, donors and beneficiaries
have collectively placed in the board to act in their
interests (the technical term is an ‘agency
responsibility’ – the board members are agents of the
shareholder/donor/beneficiary principals).
The risk that any shareholder, donor or beneficiary
faces when entrusting directors to make decisions in their
interests is that the directors fail to discharge their
fiduciary duties to the entity, instead opting to place their
own personal interests[2]
above those of the institution, and by extension, the
interests of the shareholders, donors and beneficiaries.
Wise shareholders, donors and beneficiaries will not
entrust boards with resources and decision-making
responsibility where there are insufficient means of detecting
breaches of trust, or inadequate processes for dealing with
breaches when they are detected.
The
real challenge facing shareholders, donors and beneficiaries
is determining what will be the best set of rules (governance
system) both to discourage self-interested director actions in
the first place, and to detect them when they occur.
As shareholders, donors and beneficiaries cannot
monitor every decision themselves, they face an information
disadvantage. A good starting point would be for principals to
avoid appointing directors who will likely be compromised by
personal interests in the first place.
The old adage of not placing the fox in charge of the
henhouse serves as a good principle for corporate governance
as well as for animal welfare.
However,
it is not always possible to avoid all conflicts.
Disclosure of conflicts, and the removal from any part
in the decision for any directors with potential conflicting
interests, as recommended in the Securities Commission
governance guidelines, and laws governing the use of insider
information and tipping, provide some assurances.
Lesson 1: The farmer can hardly
blame the fox for engaging in self-interested actions if he
knowingly put the fox in charge in the first place.
If only foxes are available to guard the hens, then a
wise farmer will shackle the foxes with credible and reliable
restraints.
An
important counterbalance in governance systems is the ability
for the principals, having been informed of the conflict or
breach by their agent, to take prudent remedial action.
Nonetheless, the problem remains of detecting a risk or
breach in the first place.
A partial solution is the joint and several liability
of directors. If
all directors are individually liable for the costs and
consequences of the actions of any one of their number, there
is greater assurance that all directors will actively monitor
each other, take responsible actions that allow breaches to be
detected, and act swiftly to discipline any director who acts
in breach of trust. But
the penalties for failing to act in his manner must be severe
– for example, immediate exposure of the breach and the loss
of personal reputation, leading ultimately the loss of current
and future income streams from working as a director, as
directors in breach will be unlikely to be trusted again by
any potential principal. The
efficacy of the threat of sanctions in ensuring compliance is,
however, only as good as their credibility.
If the sanction is difficult or costly to carry out, or
principals have little willingness to enforce it when breaches
occur, then the threat is hollow.
The likelihood of breaches occurring and principals’
interests being impaired increases markedly.
Whilst it is beholden upon the board members to monitor
each other, take appropriate actions to manage conflicts, and
report breaches immediately to the parties with the power to
sanction the members concerned, ultimately, it is the
responsibility of the originating principals to ensure that
the systems in place are satisfactory before handing over
resources and/or responsibility.
Lesson 2: The
farmer sets the rules that govern the henhouse before handing
it over to the foxes. When
he discovers mayhem in the henhouse, he shoots the fox that
broke the shackles, and shoots the other foxes because they
failed to either stop her or alert him.
For if they had stopped her or alerted him in the first
place, there would be no mayhem to discover.
But if the farmer fails to shoot any of the foxes, they
can cause mayhem again. Foxes
learn fast that the farmer won’t shoot even when they break
the rules. This
knowledge assists them in their choices when they guard the
sheep as well as the hens.
Citizen/Government
Farmers and Healthcare Quango Foxes
In
light of these principles of governance design, it is apposite
to examine the rules and processes that have been put in place
to protect the interests of taxpayers and patients in respect
of the management of the fifth of the tax take spent in the
health sector. Whilst
some of this money is managed directly by the Ministry of
Health, the bulk of it is transferred on a per capita basis
immediately to DHB and PHO quangos.
These entities are charged with purchasing and/or
providing health and disability services to
New Zealand
citizens (beneficiary-principals).
In the case of DHBs, some services are provided by the
entities themselves (e.g. services provided from DHB
hospitals) and some are contracted from private sector
providers (e.g. the
Auckland
contract for laboratory services).
The primary responsibility of PHOs is to enter into
contracts for the provision of co-ordinated primary care
services – at the current point of time principally general
practitioner and nurse services.
The
members of DHB boards are comprised of two types –
individuals appointed by the Minister of Health, and
individuals elected by the relevant communities on a
three-yearly basis during the local body election process.
It is quite conceivable that individuals with vested
interests may be either elected or appointed.
For example, a DHB employee or someone associated with
a firm with whom the DHB either has, or may in the future,
enter into a contract may be elected.
The individual may also be associated with, or even in
direct commercial competition with, parties who have or may in
the future have contracts.
At the very least, such interests should be disclosed
at the time of nomination for election, or if the conflict
arises after election, as soon as the potential conflict is
identified. It
would appear to be negligent for the Minister to appoint an
individual with a prima facie conflict of interest, without
specifically taking some responsibility for identifying and
declaring the nature of the conflict, and ascertaining that
processes are in place to preclude the ability for the
conflict to be exploited.
It would also appear to be appropriate for the Minister
to commission reasonable monitoring in order to be assured
that no liberties are taken, and to facilitate the swift
imposition of credible sanctions. Should
a declared conflict or breach be untenable to voters, the
declaration allows the electorate to voice its opinion at the
next election. The
Minister has the power to remove an appointed board member at
any time.
The
recent case before Justice Asher reveals inadequate processes
in relation to at least one contract and one board member of
the DHBs involved. The
especially telling point of the Asher judgement is that the
DHB governance processes were insufficient to either prevent a
breach occurring or invoke action when it did.
Quite simply, the governance processes designed by the
entities who entrusted the DHBs with resources and
decision-making powers (i.e. political agents of taxpayers and
citizens) failed. The relevant conflict was revealed not by
the board members themselves, a vigilant Minister exercising
prudent oversight or even a concerned taxpayer, patient or
constituent assessing board performance, but by an
unsuccessful tenderer. It
is extremely fortunate that, as a consequence of DHBs being
statutory government bodies, their processes and
decision-making are subject, under the wider governance
arrangements in the
New Zealand
legal process, to the scrutiny of judicial review.
This element of governance design enabled the
exposure of not only a flawed set of decisions and processes,
but also the ability to scrutinise the efficacy of the
governance arrangements under which such a significant amount
of taxpayers’ funds are disbursed.
Whilst there are clearly individual accountabilities
for the individual board members concerned, there must also be
some accountability for the design of the system itself.
The design responsibility lies clearly with the
Minister and the Ministry of Health, who oversaw the
implementation of the DHBs from 2000.
The
inability of the DHB governance arrangements to adequately
handle the conflicts associated with the
Auckland
laboratory contract must therefore raise concerns about the
governance design efficacy of other entities created to
disburse the ever-growing amounts of taxpayer funds in the
health sector. PHOs
have also been established with the explicit purpose of
administering all contracts for the provision of
government-subsidised primary health care.
In the absence of providing any treatment themselves,
the only substantial activity undertaken by PHOs is the
administration of contracts with a variety of health care
providers (albeit that this activity requires a substantial
amount of reporting to be done to Ministry and DHB entities).
Whilst this activity includes consultation with communities
and providers, it occurs in the context of using the
information gathered to assist in the design and development
of the contracts under which subsidised care will be
co-ordinated and supplied.
It
is of extreme concern, therefore, that it is a condition of
the funding agreement between the government and PHOs that providers
must be represented in the decision-making arrangements of
PHOs. The
very type of conflicts that, as a
consequence of electoral (mis)fortune, arose when an
interested party found himself on both ends of a contract to
provide his services to the DHB, are
actually mandated as the expected state of day-to-day
decision-making in the governance design of PHOs.
Every one of the more than 80 PHOs in
New Zealand
must have foxes in the henhouse if the hens are to get any of
the farmer’s corn. At
the very least, it would be expected that the foxes would be
very tightly constrained.
Yet
there are no explicit government requirements about how PHO
decisions will be made and how the conflicts are to be
managed. As long as the
henhouse management committee is made up of both hens and
foxes, the farmer leaves them to get on with the decisions
about allocating the corn themselves.
Conflicts are not just potential – they are as real
as the one examined by Justice Asher.
Many PHOs have entered into management contracts with
companies owned by the self-same GPs who sit on the board of
the PHO. In turn,
these management companies have the constitutional power to
appoint the board members who made the decisions to let the
contracts in the first place[3].
And this does not even take into account the contracts
for provision of services.
Analysis
reveals that service providers (predominantly general
practitioners and nurses) make up between a third and a half
of the board members of most PHOs.
These members are conflicted in every service design
and contracting decision made by the PHO – that is, in every
meaningful activity that the PHO takes.
By lesson 1, it has to be questioned why they are there
in the first place, given that their fiduciary duties are to
protect the interests of the beneficiaries (i.e. subsidised
citizens). By
lesson 2, in order to provide credible assurance to
beneficiaries that standards of conflict management undertaken
are of the level denoted as acceptable by Justice Asher in the
Auckland laboratory case, service provider board members would
have to exempt themselves from every service design and
contract-letting decision (i.e. every meaningful activity)
undertaken by the PHO. The
shackle must be so tight that it prevents the foxes from
undertaking any corn management activity in the henhouse.
The simplicity of the analogy reveals why it is in fact
inappropriate in well-designed governance structures to have
the fox there in the first place.
The costs of restraint are so great (i.e. the risks are
so great, and the costs of providing credible assurances so
substantial) that the most satisfactory means of managing the
problem is by not invoking it in the first place.
So
why would the PHO governance requirements have been
established by the government at all?
Justice Asher’s rulings on consultation requirements
provide some insights. The
PHO governance arrangements appear to have emerged because
service providers, as stakeholders in the primary health care
market, have information about the services they provide and
the means of co-ordinating services, that will assist PHOs in
carrying out their duties.
Stakeholder governance models suggest that boards
comprised of representatives of all stakeholder groups are a
good source of information upon which to base decisions.
If all stakeholders are represented, by this reasoning
a ‘balanced’ decision, taking into account the views of
all stakeholders, can be made.
The
difficulty with ‘representative’ decision-making bodies
is, however, that ‘representation’ can get confused with
‘consultation’. If
boards rely upon conflicted decision-makers to provide
information, it invokes the risk that the conflicted
individuals may distort both the information provided and the
decisions made in their individual favour.
In order to overcome this problem, sound governance
processes would require consultation to be undertaken to
verify the truthfulness of the information provided.
If consultation must be undertaken anyway, then what
additional value do the conflicted members bring to the table?
If consultation must be undertaken anyway, they add no
special skills or knowledge to the decision-making process
that consultation could not surface.
Yet they also bring with them the added risk that their
mere presence creates a level of suspicion that is costly to
manage, and would be avoided altogether if they were not
there. It is
simpler, less risky and more cost-effective not to have them
there in the first place, and rely upon consultation processes
to surface the necessary information.
The conflict is avoided.
The potentially conflicted party’s involvement with
the organisation is confined to a contractual one where the
roles are both sides are clear, transparent and unconflicted[4].
Moreover,
if stakeholder governance models are to be truly credible,
they also carry with them the requirements that all
representative board members be directly accountable to all
members of their constituent communities.
That is, all beneficiary representatives must be
elected via transparent processes that enable all
beneficiaries to have a say in who represent them, and to
exert sanctions (e.g. via voting processes) in cases of
breach. Likewise,
all provider representatives must be transparently accountable
to all current and likely future service providers.
In practice, the constitutions of the vast majority of
PHOs that I have studied provide no such representational
assurances. Service
provider board members are most often appointed by strong
stakeholder groups such as Independent Practitioner
Associations, thereby shutting out representation of service
providers not already in these ‘clubs’ or from different
service provision paradigms (e.g. alternative health care
providers). Community
representatives are often nominated by special interest groups
(e.g. who have no direct accountability to the vast majority
of the relevant citizens served, or taxpayers in general).
Few are appointed by transparent election processes in
the manner that community representatives are appointed to
DHBs as part of the triennial local body elections.
In
summary, then, the PHO governance arrangements are neither
good models of stakeholder governance nor good models of
interest conflict management.
It begs the question of who will identify the risks and
consequences of conflicted actions and who can sanction the
decision-makers, even if a conflict is identified.
The answer does not appear to inspire confidence in the
ability of either of these outcomes arising.
Unlike the DHBs, the PHOs are not statutory bodies
subject to judicial review.
Indeed, they are not even subject to the requirements
of the Official Information Act.
If all conflicted service providers are already
involved in the governance web via their professional bodies,
who will contest a conflicted service delivery decision?
Whilst community representatives may be able to draw
attention to the conflict, what effect would it have?
Such disclosure cannot affect an election outcome.
At best, it might create a media furore, leading to
patients changing PHOs.
But as most PHOs are local geographical monopolies,
there are no competing PHOs for consumers to switch to.
At worst, it might lead to intervention by the DHBs or
the Ministry. Yet
this is all academic, as no such concerns have been raised by
the community representatives of boards letting conflicted
contracts. And no
actions have been taken. Because
the governance arrangements set in place have ensured that,
unlike the DHB case, information will not be easily revealed
and satisfactory sanctions are not readily available to
disaffected stakeholders.
The
health care governance systems and processes covering over 20%
of government expenditure appear to defy most rational
principles of sound governance design.
Ultimately, responsibility for this shortcoming lies at
the feet of the politicians who have established these
systems, and the ministerial officials who advise them and
carry out the disbursement processes.
Questions need to be asked about what will be done to
redress the problem. Justice
Asher has dealt with one of the symptoms, but the underlying
cause lies elsewhere. The
‘wolf in sheep’s clothing’ who let the foxes loose in
the henhouse without adequate restraints bears much of the
responsibility. How
will that wolf be called to account?
[1]
Treasury’s
(2005) Key Facts for Taxpayers http://www.teasury.govt.nz/budget2006/taxpayers/default.asp
and New Zealand Treasury 2005
Briefing to the Incoming
Government 2005:Sustaining Growth
[2]
Self-interest
must be viewed in light of all activities of the firm.
Of especial concern is the ability to affect contacting
processes – that is, the search for contract partners
(including influencing the terms of reference), negotiating
the contact, defining its terms, monitoring its performance
and enforcing performance in the event of breach.
Other important issues concern the access a board
member has to sensitive information that may be used for
personal gain. This
includes, but is not limited to, insider trading and the use
of information to provide undue advantage to the conflicted
board member in any activity other than that associated with
the entity being governed.
[3]
See, for example,
Howell, Bronwyn (2005). Restructuring Primary Healthcare
Markets in
New Zealand
.
Wellington
,
New Zealand
: New Zealand Institute for the Study of Competition and
Regulation. http://www.iscr.org.nz/navigation/research.html
[4]
Jensen, Michael C. 2001.
Value maximisation, stakeholder theory and the
corporate objective function.
European
Financial Management 7(3): 297-317
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