In her white paper, Diversity of Thought in the Boardroom, Hermione Winterton refers to groupthink as being a “faulty evaluative compass” and the opposite of a balanced and diverse board. Winterton states that “several corporate collapses have been attributed to groupthink amongst board members.”
She cites the collapse of US energy giant Enron as an example. “Kenneth Lay, the CEO of Enron, had selected board members from those who had business relationships with Enron or whose organisations had been beneficiaries of Enron’s political or charitable donations,” says Winterton. “The group was unlikely to challenge the dominant long-standing chairman to whom it owed so much and, as a result, Lay had created an environment that became a breeding ground for groupthink.”
What is board composition?
Board composition is an analysis of the skills, competencies and experiences that your directors possess as a collective, leading to a variety of perspectives. Diverse board composition includes social, professional and cognitive diversity. This could mean that directors possess:
varying experience across industries
varying experience from different boards of directors
different characteristics and personality traits
Why is board composition necessary?
Owners, be they private or public shareholders, need to ensure that the board has the skills and knowledge it needs to lead the organisation toward its strategic goals.
Indeed, BoarcClic’s research has found that the top 10% of boards in terms of performance also display high board composition scores. Understanding composition helps chairs and nomination committees decide what to focus on to ensure a good balance in the board of directors.
When too many directors come from the same backgrounds, with the same experiences and the same outlook, the decision-making process can be less open to new ideas and more liable to follow the same paths they have always taken. In a continuously changing corporate landscape, this can result in missed opportunities and even push the company towards a crisis.
The UK Corporate Governance Code states that “the board and its committees should have a combination of skills, experience and knowledge. Consideration should be given to the length of service of the board as a whole and membership regularly refreshed.” In other countries, such as France and Germany, there are quotas for elements of board composition diversity, such as the gender of board members.
A board composed of diverse directors makes it easier for customers, investors and stakeholders to see themselves being represented by the board. Indeed, many institutional investors like State Street Global are starting to demand that issuers release data on board composition in order to gain its votes for chairs of nominating and governance committees.
Best practices in board composition
Assess current board member skills
To know the skills gaps that currently exist within the board of directors, you should make an assessment of those competencies already evident. The steps you should take are:
Understand the skills your board needs, now and in the next years, which will vary from board to board. This should consider future risks and changes in your industry.
Use a skills matrix to score each director on how they rank for each competency that you identified as essential to your organisation. These might include industry experience, legislative understanding, senior management experience, financial literacy, listening skills, high ethical standards, understanding of stakeholder issues, and anything else you deem important to your business.
You can then look at your skills matrix and work out where you need to strengthen. This might be through recruitment, succession or training.
Evaluate board performance
One of the best ways to ensure good governance is to evaluate your board performance on a regular basis. You can understand the trends relating to your performance and identify areas in which you need to improve.
Boardclic’s board evaluation platform offers industry-specific surveys that feature formats based on your company structure and which help you gain clear, honest and useful data on your board performance. You can benchmark director performance against past company data and the industry in general to provide information on how the board is developing.
Boardclic highlights skill gaps, helps clarify strategic objectives and enables you to gain a competitive edge over your peers.
Consider all aspects of board member diversity
Rightly, there is a focus on board diversity in terms of gender and ethnicity. These are important areas in which to ensure representation. However, you should also consider all aspects of diversity, including socio-economic background and age.
On the subject of board member age, Annalisa Barrett of Board Governance Research LLC and Jon Lukomnik from the Investor Responsibility Center Institute carried out research into board age diversity amongst S&P 500 companies in 2017. They found that the average age of directors was 64.2 years and that fewer than a quarter of boards had an average age below 60.6 years. In addition, the median standard deviation of ages at S&P 500 company boards was 6.9 years, showing that most boards comprised individuals of a very similar age.
This is despite the fact that, as the report found, “people from different age groups bring different life experiences and perspectives to the important work done by corporate boards.”
Millennials and Generation Z are already investing in increasing numbers, and many will look for companies whose boards better represent them. If your average age is towards the higher end for your industry, encouraging younger board members to join could be beneficial for your diversity profile.
Consider board and committee size
There is no set, ideal board size. The right size of a board for your company will depend on your individual circumstances rather than on specific rules for boards. Some studies suggest a smaller board is beneficial to a business, but many boards have to be large to accommodate shareholder representation, independent requirements and other necessities. There are pros and cons of both large boards and small boards.
Recruit independent directors
It is important to add independent and non-executive directors (NEDs) to a board for a number of reasons:
It might be mandated by the local law in the jurisdiction that a proportion of the board or committee is composed of independent directors. In the Netherlands and Finland, for example, the majority of a corporate board must be independent.
They bring an outside perspective on the company’s strategy that might be missed by people who are too close to the business.
They can bring individual skills that you are currently lacking.
They have independent views that offer alternatives to the traditional strategy and can solve internal conflicts or disagreements.
They might have business contacts that can benefit the organisation.
Set expectations around tenure
Low turnover in board membership, caused by long tenures, means that it is difficult to effect change with any agility. However, long tenure on a board can be an indicator of a strong board. This makes setting expectations on tenure tricky. You have to balance the fact that board members want to remain for as long as they feel they can contribute effectively versus the concern of long tenure turning into complacency.
Some organisations stick to a three-term rule:
First board term to learn the job
Second term to take a leadership role
Third term to mentor and support new board members
Whatever you decide to proceed with, you should let directors know your tenure strategy when you recruit them. That way, they understand how long they have to contribute to the success of the organisation. It also means you know when you next have the opportunity to add new skills to the board and can plan accordingly.
Create a succession plan
In order to achieve the most effective board composition with all the skills and competencies that you require, you should put a succession plan in place for the board chair and directors – executive and non-executive. Prioritise your business goals and develop a talent pipeline that ensures there are high-potential candidates ready to level up your board.
Succession planning should take a multi-year approach, considering the forthcoming challenges for the industry. Consider how the company’s needs in terms of strategising and leadership will develop over the next five years and build that into your succession management efforts.
Conduct annual board elections
Some jurisdictions require directors to be re-elected every year. Even if this isn’t the law where you are based, it can be a helpful exercise to assess whether the current board directors are the best fit for where you want your organisation to be in the future.
Annual elections allow you to guard against complacency in board positions and free up space to help you add the necessary aspects to the board that are missing.
How do you measure board composition?
Using a tool like BoardClic’s board evaluation platform, you can create an overview of the composition of the board in terms of the skills, attitudes and experience of your board. You can add this detail to a skills matrix that allows you to visualise your board composition and how it weighs against governance practices in your sector.
What is the most important element of board composition?
The most important part of board composition is matching your board’s skill sets with your priorities and goals for the organisation. Your composition efforts have to continuously bring you a stronger and more cohesive board. Rather than concentrating on any one metric, focus on increasing the overall effectiveness of your board and making company performance your target.
How often should you discuss board composition and succession planning?
Board composition and succession can be sensitive topics, as they involve discussing replacing board members. However, it is important that you are able to take the time to develop and nurture new directors before they are needed. Otherwise, they will struggle to integrate quickly and effectively if the process is too rushed. This means that succession planning should be added to the board agenda of a board meeting and form part of your annual evaluation process at a minimum.
We hope these board composition best practices will help you develop your strategy for moving forwards and crafting the most effective board you can with a strong diversity profile. To be able to achieve this, you need to understand what sort of board you want to be and which attributes will best help you achieve that goal. In addition, you should keep the expectations of stakeholders such as shareholders and investors in mind when making the decisions that will affect the governance of your organisation.
BoardClic’s board evaluation platform is designed to help you understand where you stand within the market and what you need to improve the composition of your board. Request a demo here.
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