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Deloitte discusses effective board composition

November 2, 2011 Leave a comment Go to comments

A new publication from Deloitte, whose risk intelligence series I strongly recommend, addresses effective board composition for private companies. Optimizing private company competitiveness through effective board composition is an interesting topic in its own right, but are there differences between what makes an effective board for a private vs. a public company? Clearly, not only is ownership difference from public companies, but private companies are not subject to the same regulatory demands (e.g., requirements for audit committees and independent directors).

Let’s explore what Deloitte has to say.

They start with something that should apply to every form of organization:

Getting its ‘governance house’ in order can enhance a private company’s success and ability to compete. In particular, a strong, viable board of directors can add value through input and oversight that draws on diverse perspectives, relationships, and experiences.”

Building on that: “Where does the move to good governance begin? Perhaps chief among the actions that need to be taken is board of director composition and selection. Having the right people and the right “mix” of people on the board is the essential stage-setter for sound governance. If board composition isn’t right, then all other policies, procedures, and structuring activities will be more difficult to execute and likely not as effective.”

The authors make the point that sound governance adds value in other areas, including:

  • “Lenders recognize the competitive advantage of a highly functioning, credible, and respected board of directors. This may have a positive impact on access to capital.
  • “Investors respond positively to evidence of formal and sophisticated processes, such as strategic and succession plans, that ensure smooth transitions, and
  • “Stakeholders take confidence when there is evidence of a governance structure in place to capitalize on the expertise of a well-qualified board that provides advice, counsel and oversight to the management team.”

Deloitte makes the excellent point that the board, collectively, should include the specific skills and experiences required to provide value to the organization. In my opinion, this may be the most important quality of an effective board – regardless of the organization.

Some directors will have specialized knowledge.

Marketplace issues often demand a level of specialized knowledge, such as in risk management, compliance, and strategy, in order to keep a company on course or take it to the next level. More specifically, expansion of operations to international locations could benefit from the market understanding of a director with global business experience. As competition intensifies, it also broadens, coming both from other private, mid-market companies, and also public companies trying to take market share or tap into market niches. Smaller companies often have limited budgets for outside assistance with such matters, so it may be useful and efficient to have these types of competencies on the board. Management may benefit from the insights of objective resources, specifically outside directors, who bring a different perspective and the ability to help management “look around corners” for the next big trend.”

They also point out that an effective board can:

  • Help lenders gain comfort with the governance of the organization
  • Prepare the company to go public
  • Ensure effective succession planning is in place

Deloitte points out that the company may need different skills and experiences on the board at different times, as the company evolves and business conditions change – a valid point for all organizations. Nobody should stand ‘pat’, but should frequently consider whether their board needs to add or change out skill sets. The authors also provide advice for companies in assessing their current board, and how to upgrade the skills of current directors.

But is this enough? Whether public or private, I believe there are other requirements for an effective board, such as:

  • The ability to influence management. Too many boards are timid and overly influenced by a charismatic executive. Directors individually and the board as a whole need to have the ability to get the attention of the management team, and steer them towards effective strategy and performance.
  • The ability to guide and mentor the executives, especially the CEO. In many private companies, the CEO may be the founder and have little experience running an organization of size. One of the great values of a board in this situation is that it can help the CEO on his journey, including determining whether ‘professional’ executives should be added with greater experience. Public company expectations are greater, with the board evaluating the effectiveness of the CEO and management team, with greater power to make changes if needed.
  • The board should be able to hold constructive discussions, with everybody contributing freely. Nobody should be intimidated, and all of the directors should feel free to air their opinions and obtain answers from the management team and others.
  • The board should also have the ability to follow up and confirm that agreed actions are taken. If the board is only a sounding board and the executive team is free to ignore decisions made by the board, they can hardly be considered effective.

Are there other characteristics of effective boards, and other significant differences between what makes an effective board for a public vs. a private company?

  1. Thu Ly
    November 2, 2011 at 8:22 AM

    Is it effective board if CFO is a Audit Committee member, Risk Management Committee member, Compensation Committee member and executive Board member of a private company? I would not think so.

    How’s effective if Head of IA and RM report directly to this CFO?
    I would not think so too.

  2. Stephen Osborne
    November 2, 2011 at 2:51 PM

    Interesting topic and I wonder how private regulated fits into the divide, especially for the financial services sector. Norman, please could you check the link to the original Deloitte piece? It doesn’t work for me.

  3. Norman Marks
    November 2, 2011 at 2:58 PM

    Stephen (and others), I have fixed the link and it works now.

  4. Connie Plessas
    November 3, 2011 at 10:04 AM

    My observation has been that one of the reasons a charismatic chief executive more easily persuades and influences an entire board is because the number of directors is too small. Too many directors, then, are other executives subordinate to the CEO and major shareholders who may not have industry expertise. It is not uncommon then, for the number of truely independent directors who are hired for the expertise they bring to the table, to be too small to be a voice of reason and balance the charismatic CEO.

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