Good governance is not just for public companies. Private companies today are also looking for ways to improve their board’s effectiveness — in part, by changing their board composition. Where once private company boards were dominated by members of management and investors, more private companies are transitioning their boards to a majority of independent directors.
Outside directors as a complement to the current board
Perspectives, experience, networks
Outside directors can bring knowledge and experience in areas that inside directors do not possess. They can also bring fresh perspectives and leverage their networks to benefit the business.
Objectivity and independence
Highly-qualified outside directors will challenge assumptions and bring an outside perspective that can be extremely valuable to those who are immersed in the company’s day-to-day.
Governance and accountability
Having outside directors often means enhancing board practices and bringing discipline to governance processes. If board meetings and reporting about areas like strategy, projects, and financial results have become routine, having outside directors can improve the underlying processes and instill accountability.
Credibility
Consumers, employees, investors, and other key stakeholders may perceive outside directors as a positive governance practice, bringing improved credibility to the company and its owners.
Advising the CEO
Outside directors may be leading or have led their own companies, in which case the CEO may value feedback from executives who have been in his or her shoes.
Planning/advising on exit strategies
Outside directors can help the entire board navigate important strategic transactions, such as an IPO, minimizing disruption related to the withdrawal of an investor, or other ownership changes.
Recruiting outside directors: a how to
- 1. Identify candidates
- 2. Conduct interviews
- 3. Complete a background check
- 4. Consider the candidate’s ability to commit
- 5. Understand the candidate’s decision-making process
1. Identify candidates
This may mean looking at sources that are outside of the personal networks of current directors and members of management. Being deliberate about pursuing diverse or specialized candidates often means broadening the search. Director search firms, governance associations or professional service firms can help.
2. Conduct interviews
Candidates will likely be interviewed by members of the nominating and governance committee (if there is one), the board chair, and certain executives to evaluate the candidate and determine whether they would be a good cultural fit.
3. Complete a background check
It’s important to know if there are any issues that would affect the prospective board member’s candidacy, as well as any relationships they may have with the company, investors, or management.
4. Consider the candidate’s ability to commit
This includes time preparing for, traveling to, and attending meetings. Some candidates simply won’t have the time to do the job effectively.
5. Understand the candidate’s decision-making process
Candidates will be performing their own due diligence on the company, to determine whether the board is a good fit for them. They may ask to meet other directors, visit business locations, review financial statements, and/or understand the company’s directors and officers (D&O) liability insurance. Since much of this information is confidential, companies often ask candidates to sign a non-disclosure agreement.
Outside directors may slow down decision-making
Having outside directors may slow down the process, but the value they bring often outweighs this concern. Companies can consider this when deciding who to recruit, by focusing on director candidates that come from environments where speed matters. They can also make sure that outside directors are well informed, which may mean holding ad hoc meetings to get directors up to speed when a quick decision is needed.
Outside directors may expect more formality
Outside directors may expect certain formalities—like meeting agendas and materials prepared in advance, and recording minutes. These activities take time. This investment typically pays off, and in some situations can come in handy. For example, if challenged, having copies of meeting materials and minutes can help demonstrate that there was appropriate board deliberation or oversight.
Shareholders may feel like they are giving up control
Controlling shareholders still get the final say. A written shareholder agreement is an effective way for shareholders to give themselves veto rights on certain decisions in the event the board votes in a matter that shareholders are not happy with.
Outsiders may have access to confidential information
Outside directors are expected to maintain confidentiality about the company’s operations and results. A common practice is to reinforce this expectation by having outside directors sign a non-disclosure agreement.
It may be expensive to have outside directors
Governance usually costs more as boards formalize processes and add outside directors. However, companies can consider different ways to compensate outside directors (e.g., equity-like vehicles) if cash flow is a problem.
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