Corporate governance. Yawn.
The words are long and drawn out—just like board meetings. You don’t have time to sit in a boardroom. You’ve got production and sales to worry about, and you’re down two customer service people. You’re running a family business, not a multinational corporation. Governance takes care of itself, right?
If this is how you think about the leadership of your successful and fast-growing enterprise, rub the sleep out of your eyes and think again. Strong corporate governance in the private sector has become a critically important topic. While public company boards have a fiduciary responsibility to shareholders, private company boards can have a fiduciary or an advisory role. Still, the oversight responsibilities of private company boards are just as critical as those of public company boards. The board plays an especially important role in family-owned companies, which have the unique—sometimes difficult—dynamics of family relationships to contend with.
In my more than 30 years of investment banking for family companies large and small, I’ve seen just about everything. I’ve seen some very good companies fail because they didn’t have a board and, as a result, lacked the insight and discipline that good governance provides. I’ve also seen good companies with boards flounder because the board didn’t have a defined role, wasn’t properly structured or was missing the skills needed to ensure long-term success. On the plus side, I’ve seen marginally performing companies improve and succeed because they established boards that understood their role, had the requisite skills and were staffed with experienced and candid outside directors who weren’t afraid to tell the owner the truth.
Clearly, just having a board and setting up a façade of governance isn’t enough. My experience, which includes service as a director of several family businesses, has shown me that there are several common elements to successful boards.
An explicit board charter
In order for a board to govern effectively, it must understand its responsibilities—the bounds of its governance—which must be clearly defined. It should also know its purpose, as defined by the business owners.
A board’s most important responsibility is CEO accountability. While it may be difficult for family company owners to cede some of their power to a higher authority, the fact is that the most dynamic and highest performing CEOs want accountability in the form of a strong board. Why? Because they end up performing better!
A board charter—a formal document, even if it’s in the form of a letter—should define specific accountability factors and how they will be measured. While opinions on many other topics will differ, as they should, effective boards look at accountability from the same perspective. Simply reviewing metrics isn’t enough. Board members must understand their meaning and how to interpret them in the context of the company’s strategy.
Another critical board responsibility is CEO succession. This is frequently the most difficult issue the board of a family company must face, often because the founder or sitting CEO doesn’t want to do so. While family ownership could be the basis for establishing a solid line of succession, boards must be honest in assessing the talents of all potential management successors. Someone with the right last name isn’t necessarily qualified to take the reins. This too should be outlined in the board charter so that everyone—the board, management and family members—understands that the stability and health of the enterprise are paramount.
Some companies have formal training programs to immerse their board members in their business. Many smaller companies don’t, but some form of onboarding is important. While the board’s role should be unfailingly strategic, board members with a solid understanding of the company’s defining processes will have a context for contributing to strategic discussions.
Selecting and compensating board members
With an explicit board charter in place, the task turns to selecting board members. This process should be carefully thought through and documented.
Begin by setting terms for your board directors. Three years is a reasonable place to start. A three-year term provides ample time for a director to learn the business and make a solid contribution. It also offers the flexibility to bring in fresh directors if the board becomes stale or its culture goes awry. If things are going well (i.e., if there is vigorous discussion and healthy debate), members can be reappointed. Either way, directors know they don’t have a lifetime appointment, which dovetails with expectations detailed in the board charter.
Create a qualification matrix that identifies the disciplines and expertise you feel are important, and that augment your own knowledge and capabilities. Use the matrix to arrive at candidates, applying priorities that are specific to your situation. For example, you might have a need for directors with experience in finance, marketing/branding, HR or IT.
While candidates from your industry may come to mind first, skilled individuals from other fields can offer fresh perspectives and wise insights. A diverse board will provide a broad range of viewpoints. People with prior board experience are highly desirable. It’s generally a good idea to seek out those with experience on family company boards.
One of the biggest mistakes I’ve seen owners make is putting their cronies on the board. Childhood friends and college buddies make great golf, skiing and hunting partners, but as board members they generally leave a lot to be desired. It’s better to engage independent directors—a majority of them, in fact—who can give unbiased advice.
Independent boards enable you to avoid the echo chamber phenomenon, in which your views are simply reinforced by people with allegiance to you. Strong boards seek to question your answers rather than answer your questions. Independent directors offer a window to the world outside your company.
When selecting board candidates, hold firmly to the matrix you created. You need people with specific expertise; select your directors for what they know rather than whom they know. It’s easy to find people willing to sit on your board. But it’s hard to find the right ones, which is where compensation comes in. Compensation should be neither the primary motivator nor a de-motivator for a prospective board candidate. If you overpay, you may attract people for the wrong reason or create a board of “coasters.” If you underpay, you may be signaling that your directors’ time and contributions are not valuable.
Gear the compensation package to your objectives. If you want directors thinking long-term and focusing on value creation, incorporate a long-term incentive component, which will align your directors’ interests with those of the company and its owners.
A strong organizational structure
A strong board structure begins with a lead director, preferably someone from the outside. The lead director’s responsibilities should be documented. They might include determining the composition of the board, recruiting other directors, setting board meeting agendas with the CEO, facilitating effective communication between ownership and the board, and conducting annual board evaluations.
In general, there are two types of board committees: (1) permanent standing committees to oversee specific areas that are critical to the company; and (2) ad hoc or special committees to address issues that are too complex to be handled in a full board setting.
In family company boards, standing committees often include HR/executive, investment/finance, compensation and marketing committees. Ad hoc committees might be formed if the company is considering a major expansion or diversification initiative, recruiting a C-suite executive, evaluating potential successors or addressing other short-term strategic issues.
Board committees assist the CEO by providing oversight and feedback and augmenting skillsets. Committees should be tailored to address the specific situation or need. For example, an electronic health records company might benefit from a standing IT committee. A venerable funeral services company might form an ad hoc committee to oversee new systems implementation.
Investment/finance committees typically focus on strategic financial issues, such as assessing financial processes, reviewing financing options and ensuring shareholder return on equity.
Audit functions, sometimes under the purview of the finance committee, generally include financial reporting, regulatory and legal compliance, operational efficiency, corporate policy and, increasingly, enterprise risk assessment and management. But auditing these areas and conducting a robust assessment of risk requires resources and ample investment. This type of investment is well justified in certain scenarios and industries and not in others. In either case, the audit function and risk management are highly appropriate strategic board discussion items, which should be addressed periodically.
A strong culture
It’s often said these days that culture is king. In many cases, culture—more than a slick product or a new, highly efficient process—is what breeds employee satisfaction (or dissatisfaction) and is a principal component in a company’s success (or failure). I agree—and the same notion extends to your board.
No doubt, the work of a board is serious stuff. Your board members are your “Knights of the Round Table,” who protect your interests and ensure that growth benefits the entire enterprise. Still, board members are people, and for people to be enthusiastic and productive contributors, they must be engaged. There must be a healthy chemistry among board members. There should also be diversity.
The strongest boards I have seen promote engagement by addressing substantive issues and encouraging healthy debate. These boards don’t just serve as sounding boards for the CEO but also provide a “safe zone” where the CEO can speak openly and express his or her aspirations, enthusiasm, frustrations and fears. Their toolbox includes much more than the proverbial rubber stamp.
To that point, the CEOs who installed these boards did so fearlessly. They weren’t afraid of someone challenging their ideas. They were comfortable with the notion that outside perspectives and expertise wouldn’t dilute their influence but would strengthen their ability to build an organization with a sense of purpose and permanence—something that would outlive them.
They slept well, too!
Brad Bulkley is the president and founder of Bulkley Capital, which helps middle-market business owners and management teams sell their companies, make acquisitions and raise capital.
Copyright 2017 by Family Business Magazine. This article may not be posted online or reproduced in any form, including photocopy, without permission from the publisher. For reprint information, contact bwenger@familybusinessmagazine.com.