The composition of the board is critical to the health and effectiveness of every listed company. The ideal board comprises a diverse group of directors from widely varying backgrounds offering complementary skills and who work well as a team. The makeup of the board sends out important signals to the market about the direction in which the company is heading. More so than ever, each new director appointment carries significant weight and is closely scrutinized by everyone from shareholders and analysts to employees and the media.
The ability to recruit the right directors and integrate them successfully is one of the clearest indicators of a high-functioning, effective board. The task of selecting and appointing new director candidates falls to the governance committee, which in many instances will engage the services of an executive search firm to assist with the identification, assessment, and referencing of candidates. After appointment, the corporate secretary will assume responsibility for devising and implementing a tailored onboarding program to bring the new director up to speed on key topics, ranging from the board’s structure, governance, and responsibilities to the company’s strategic objectives, financial reporting, and relationships with investors and management.
Linking board composition to business strategy
We suggest that boards begin assessing the need for any specialized skill or experience by considering the company’s strategy for the next several years and then taking stock of the skills currently on the board (including directors who will be cycling off the board in the near future). Does the board as currently constituted give the company its best shot at success in supporting the strategy? Would additional, and perhaps different, skills significantly enhance the board’s ability to do its job?
Boards need to anticipate their own needs by adhering to a rigorous process of regularly evaluating the collective skills and experience on the board against what is required by the company’s strategy. It is easy to fall into the trap of “fighting the last war” rather than focusing on the vision for the company several years out. The result of this careful evaluation may be a decision to add experience in areas such as finance, risk, technology, or digital/social media or bringing in someone with knowledge and expertise in a specific geography. In any case, it is useful to think holistically about director recruitment rather than making oneoff appointments in a vacuum.
The recruitment process and the role of the search firm
Having the right expertise in the boardroom is paramount. The natural turnover of directors provides opportunities to refresh the board with new and needed skills as the economic and competitive landscape changes—and to increase the diversity of perspectives. When approached thoughtfully, ongoing board renewal can improve board effectiveness.
Many boards use annual board evaluations to assess the effectiveness of the board overall as well as the contributions of individual directors, which can identify directors who are underperforming or whose skills no longer represent a good fit with the strategic direction of the business. These evaluations can yield opportunities to refresh the board.
The vast majority of board departures are known about well in advance, giving the CEO and governance committee enough time to consider carefully what kind of profile the successor should have and what kind of expertise will enhance the board and further align it with the strategic vision of the business.
If the committee decides to engage an executive search firm, both parties will discuss the selection criteria and produce a statement of director specifications summarizing key client requirements and preferences. The search firm will then conduct a broad-based identification of candidates who meet the criteria, assessing their suitability, screening them for any potential conflicts of interest or existing board schedule conflicts, and submitting a report to the nominating committee. The committee will narrow the list of potential candidates to a short list of priority candidates and, after further consideration and conducting due diligence, the top candidates will be approached.
Recruiting directors with complementary skill sets
Every board should be greater than the sum of its parts. There is a distinction between individual expertise and collective capability, and a key part of the recruiting process is assessing how well candidates will be able to work alongside existing directors. The importance of board culture and dynamics cannot be underestimated. Wherever possible, board members should have the opportunity to meet finalist candidates before they are appointed.
No board needs one individual with experience in all aspects of the business, but directors as a group need to be able to deal with any and all aspects of the business. A well-balanced board will comprise directors who bring specific experiences, skills, and perspectives, and yet who are capable of contributing to board decisions on topics that may fall outside their sphere of expertise. In other words, they need to have sufficient financial and business acumen that they will not be left behind in any aspect of board debate.
The governance committee must consciously construct a board that is strong and has the right mix of perspectives. One effective strategy is to think in terms of a skills matrix. Each square of the matrix reflects a “must-have” or “nice-tohave” skill or experience, such as prior board experience, audit or compensation committee experience, or specialized expertise in a particular industry or in areas such as international business, marketing, technology, digital/social media, or finance. The matrix will of course vary depending on the nature of the business, its strategy, and its current situation.
Adding diversity to the board
Diversity takes many forms, and the relevant mix of perspectives sought by a board will vary depending on factors such as the scale of the business and demographic considerations (eg customer base and geographic footprint). While not an end in itself, boards are increasingly recognizing that including diverse perspectives on the board is important. This is borne out by results of a corporate governance survey published in the Spencer Stuart Board Index. We asked about the profiles that are most desired by boards when recruiting new directors. Minorities, women, and active CEOs/COOs topped the list in 2014, cited by 64 percent, 71 percent, and 60 percent of respondents, respectively, which is consistent with our own director searches. Other profiles that are in high demand are executives with financial expertise (45 percent), international experience (55 percent), and specific industry expertise (51 percent) and retired CEOs/COOs (40 percent)—or some combination of these backgrounds.
Adding international directors to the board can be a sensible step if the company has made a strategic decision to extend its global footprint, build manufacturing and distribution capabilities overseas, or move into a particularly competitive or complex market. But this is easier said than done. Despite the increasing importance of global markets to US businesses, international directors remain a small minority on the boards of leading companies. Indeed, 45 percent of US boards do not have an international director.
We regard the inclusion of international directors on boards as important for two reasons:
• Providing market intelligence and entrée: Directors with knowledge of business culture, business dynamics, regulations, and key influencers can pave the way for operating in critical countries or regions.
• Expanding the board’s perspective: International directors may add something to the board that is harder to quantify than specific market knowhow but potentially is of even greater value—creating a more open and diverse mind-set on the board and enhancing the board’s deliberation and problem-solving skills.
There are a number of dimensions to consider when thinking about adding international representation to the board. Differing time zones, languages, customs, and cultural nuances can present seemingly insurmountable hurdles, but boards that are truly motivated to add an international dimension find ways to overcome these obstacles. For example, a board that demonstrates a commitment to being global—by having board meetings and director site visits outside the US, for example—will be more likely to attract an international director.
Having an international director who works and lives abroad is not the only way to add a more global dimension to the board. Some boards expand the search for an international director to include executives who were raised, were educated, or have worked abroad but now live in the US.
Sometimes, it can be helpful if the diversity of perspective sought by a board extends to having board directors who may be viewed as counter to the company’s prevailing culture, particularly when it comes to risk. Boards may also specifically seek a candidate who can serve as a countervoice to the rest of the board and who has the courage to swim against the tide when there’s momentum for something, whether it’s a new product or innovation or a merger or acquisition opportunity.
Recruiting directors to serve on committees
A key aspect of developing the right mix of skills on the board is populating committees with appropriate technical expertise. The audit committee needs financial expertise and a solid understanding of risk; the compensation committee needs strong directors who can develop a performancebased CEO compensation scheme acceptable to shareholders and create effective communication around it; the nomination committee may need experience in handling CEO succession issues; the risk committee requires a knowledge of the stress tests and other measurement tools that can provide a fair picture of the company’s major risks, and usually needs directors with a background in the company’s industry.
Attracting the best candidates
Recruiting new independent directors today can be difficult and time-consuming. The desire for specialized expertise and diversity in the boardroom has increased competition for some candidates. At the same time, many directors are accepting fewer board assignments than they did in the past, and more companies have restrictions on how many additional outside board roles a director may accept. As a result, directors frequently are more discriminating about which boards to join.
Experienced directors want to serve on well-managed boards that make a difference to the performance of the company. They want to work with smart, engaged directors and be comfortable with the CEO’s leadership capabilities and character. Finally, they want to serve on boards that allow them to learn and build new skills. When they find board opportunities that offer these professional and personal rewards, they are willing to accept a new director role—despite the time pressures and demands.
Boards can improve their chances of attracting directors with the most relevant experience by understanding the motivations and concerns of director candidates and the company’s perceived strengths and weaknesses. Here are a few lessons from the front line of director recruiting:
• Assume that there will be good competitors for a candidate’s time, whether it is another board opportunity or another interest.
• Understand your board’s “value proposition,” based on where the company is strategically, the kinds of issues that come to the board, the composition of the board, and the strength of the management team.
• Define the board dynamic and chemistry and promote an environment that encourages active participation by every director and is respectful of differing views. The chair or lead director plays an important role in creating this environment and getting contributions from everyone around the board table.
• Make board service a rewarding experience for directors. Tap into the expertise and brain power of directors by structuring board meetings in a way that gives directors the opportunity to engage with one another, rather than having a series of presentations. CEOs gain additional benefit when they develop one-on-one relationships with individual directors.
Where boards are finding new directors
In recent years, it has become harder to recruit active CEOs, the most desired candidate pool for corporate boards because of their broad-based leadership, management, and governance experience and current business knowledge. As the time demands of the CEO’s role and board service have increased, many CEOs (54 percent of S&P 500 CEOs in 2014) are electing not to serve on any outside boards. As CEOs have reduced their outside board commitments, boards increasingly are tapping retired CEOs and other senior leaders and, for audit committee roles, CFOs and other finance executives. In 2004, just 13 percent of audit chairs were financial executives—CFOs, treasurers, and public accounting executives—compared with 37 percent a decade later.
Many current directors are scaling back on their commitments, focusing on only one or two boards instead of several. In response, boards have increased their director retirement age to allow experienced directors to stay on longer. The average retirement age for S&P 500 company boards is now 72, and 30 percent of boards have a retirement age of 75 or older. On the whole, independent directors are older than they were a decade ago. The average age of all directors is now nearly 63, versus 60 in 2003, and just over half of the 2014 cohort of newly elected directors are retired.
While the representation of retired executives on boards has increased, we are seeing a countervailing trend as well. Some boards are prioritizing new areas of expertise, recruiting nontraditional candidates, especially younger, active executives, who can bolster the collective knowledge of areas such as digital or social media, since most sitting directors are of a generation that did not grow up with these technologies. In addition, management teams desire directors who understand the current business environment.
Recruiting a first-time director
When openings exist, boards still tend to prioritize prior governance experience when recruiting new directors. Nevertheless, executives or other professionals with no prior public company board experience are a growing source of new directors for boards needing to add specific skills or knowledge. S&P 500 boards appointed 145 first-time directors in the 2014 proxy year, representing 39 percent of all new directors.
First-time directors tend to be senior executives who have already had some exposure to the board, such as CEOs, CFOs, or executive committee members who have run large divisions of multinational companies. First-time directors will usually be familiar with the industry the company operates in, although people with strong finance experience may be tapped to join a board in a sector that is new to them.
Board candidates from outside the business world are often at a disadvantage because they may not have managed a profit center or developed a sufficient level of expertise that will enable them to contribute to board decision-making over complex financial matters. Having a good grasp of financials is one selection criterion on which few boards will compromise.
First-time directors should be able to demonstrate good judgment and intellectual agility and be comfortable dealing with complexity. They need to be able to bring analysis and logical reasoning to bear on a new, ambiguous, or fast-changing situation in order to reach a sound decision. Prospective directors who can work with complexity in an unfamiliar environment are the ones most likely to learn and adapt to the challenges faced in the boardroom.
One of the most common difficulties for first-time directors, especially senior executives, is adjusting to a more detached, supervisory role, focusing on the strategic rather than the operational agenda, and understanding the distinction between governance and management. There are new conventions and protocols to learn, and some first-time directors take longer than others to make the mental switch between executive and non-executive ways of thinking and behaving. Chairs need to be sensitive to the challenges in making this transition and provide advice to the new director on the nuances involved.
Chairs and boards have a responsibility to ensure that all directors, not just those joining a board for the first time, are given proper support so that they can get up to speed as quickly as possible. Whereas historically some boards may have tolerated new directors taking a back seat and observing proceedings for a year or so before making an active contribution, few directors have that luxury today. A thorough yet tailored program is therefore critically important.
Ideally, a new director without previous board experience will participate in a general director training program, which can offer the opportunity to become more familiar with the role of the board and individual directors, important governance regulations and listing requirements, and the governance issues affecting the boardroom today.
Director induction programs are usually run by corporate secretaries, sometimes with input from the chief human resources officer. If the new board member has had some prior general training in the role of a director, the induction can focus on the company, its products, services, and key players, the wider business context, and the culture of the board and how it operates. The best examples typically take several days and involve presentations by the heads of all the company’s functions and divisions, such that new board members feel fully immersed in the business and know where to go for additional information.
Unfortunately, the quality of board induction programs is variable, and some companies do not even provide them. It is not enough for the CFO and general counsel simply to run through the core finance and governance issues; the new director should ideally spend some time at company headquarters with senior executives from each of the main functions (eg investor relations, human resources, audit, information technology). New board directors should be encouraged to make site visits to see as much of the company’s operations on the ground as they reasonably can. Boards also may contemplate having an informal mentor program that pairs a new director with a more experienced director who can provide perspective on boardroom activities and dynamics or help with meeting preparation, explain aspects of board papers, and debrief and act as a sounding board between meetings.
In addition to the initial induction program, many boards offer “top-up” training or attendance at seminars run by law or accountancy firms. Corporate secretaries generally provide important information on changes to legislation, accounting rules, and governance codes in board packs.
Multiple forces have converged to make board service more complex and challenging today. Directors are taking on fewer board positions than in the past, conducting more thorough due diligence into each opportunity, aware that they will have to grapple with a range of pressures—from new regulatory requirements and shareholder activism to intense scrutiny and a growing board agenda. With fewer CEOs willing to serve on outside boards, nominating committees are casting their nets wider. Recruiting directors from the broadest possible talent pool will pay dividends, providing the board has a clear vision for creating a diverse, coherent, and well-balanced entity in which each individual appointment supports the company in achieving its strategic objectives.