Do you have independent directors involved in your organization’s governance?
If yes, congratulations! You have provided yourself and your organization with a governance best practice. If not, you should consider doing so.
Independent directors bring objectivity and neutrality as they are not part of the management team or family. The benefits of independent directors include:
- More diverse and strategic perspectives.
- Enhanced organizational reputation.
- Increased management team effectiveness.
- Unfettered advice from people not beholden to management or family members. For family-owned businesses, this voice is less emotional as well.
- Talent to fill gaps, objectively evaluate managers, and mentor current and rising managers.
Executives, legal counsel, significant investors and, sometimes, bankers can be valuable on a board. But don’t view them as independent directors. They lack the inherent value of outside advisors.
Whether you have independent directors already or will consider doing so, here are five ways to capture the full contribution of these board members.
Listen and act on independent directors’ advice. Otherwise, do not add them to your board. When independent directors feel their presence is merely a check-the-box requirement, they contribute less. They will be less prepared and less likely to share innovative, critical or candid thinking with you. The most talented among them will also exit the board — or decline to join your board in the first place.
Independent directors who feel valued are more likely to challenge CEO thinking than insiders. A private company’s owner and his research & development leader invented a vital braking sensor for the auto industry that fueled the company’s growth. Over time, the auto vertical became commodity-like. Independent directors regularly expressed their concern, helping the CEO overcome the management team’s fear of losing the auto industry revenue. He sold that part of his business, retaining valuable patents for the industrial vertical, where the company had some revenue. With complete attention to the industrial market, the business grew rapidly and had much higher profit margins.
Focus board discussions less on operational topics and more on the strategic agenda. The value of independent directors is their perspective. They are not involved in day-to-day operations. Therefore, they look at the organization from a higher balcony, bringing fresh insights into risks and opportunities.
Lean heavily on independent-thinking outside directors for feedback on your scenario planning, strategic planning, growth strategy, risk assessment and monitoring, and capital allocation decisions. Independents are also excellent at winnowing down multiple performance metrics into a hearty few that assess whether the strategy execution is succeeding and, if so, whether it is having its desired effect on performance. They’ll also comment on whether your budget aligns with your strategy. Killing a sacred cow by challenging its merit is their specialty.
To fully capture these advantages, ensure some directors have experience outside your industry. Potential industry evolutions are often best anticipated from the perspective of other industries. With this experience, members will not be stuck in the paradigms of your industry.
A telling example comes from Finfrock Industries, which initially produced prestressed/precast concrete used for building structures. Then, in the mid-1990s, based on advice from an industry outsider, they pivoted to become a design-build contractor. Record revenue and profit growth ensued. Had they remained with their original business model, they would either be out of business or wrapped up in industry consolidation, which happened to many of their competitors.
That said, having directors with industry experience also matters. Otherwise, inside officers become the default experts. However, ensure such directors are thoughtful about strategy, skeptical of industry groupthink and mindful of industry disruption potential.
Capitalize on independent directors’ presence with employees, customers and vendors. Including independent voices on the board enhances your company’s reputation. Vendors will have greater trust that compliance systems are in place and protecting payments. Customers will gain more confidence. Investors will feel the company is better led under the guidance of talented outsiders. In family enterprises, nonfamily members will know that company needs, including compensation and advancement, are better balanced with family needs.
However, to realize this reputational asset, you must actively involve independent directors in holding management accountable for performance. Use them to ensure effective compliance systems are in place and regularly tested. And involve independent directors in formulating the questions asked in employee surveys and interpreting conclusions. Companies also find occasions for directors to mix socially with employees and generate fresh perspectives.
Proactively select independent directors based on talent needs. Then, actively involve these directors in talent development, succession decisions and contingency planning. Independent directors can mitigate any skill shortfalls in the executive team. A good rule of thumb is to invite at least one independent director who has done what you hope your company can accomplish regarding change and growth. Change management, business model innovation, scaling, marketing and technology management are examples of talents from which younger companies or companies facing significant changes would benefit.
Avoid using board positions to provide deep but narrow technical expertise. Board seats are limited, and you should select independent directors who can contribute broadly to board discussions. Thus, individual characteristics such as creative thinking, problem-solving abilities, listening skills, collaborative personalities and the ability to reframe complex situations are capabilities vital in your candidate selection. In contrast, hire a consulting firm if you need deep expertise in an area.
Independent directors bring a level of impartiality to talent assessment. Therefore, be sure to involve lower levels of management in board discussions so that the directors can assess their skills and potential. Also consider involving independent board members in industry meetings with key customers.
Independent directors are vital to CEO selection and assessment. It took independent directors of a health care improvement organization to identify that the current CEO was disruptive in his relationship with a key partner. With a broader perspective on the market, they knew that his strategy would not work, which threatened the company’s future. His senior staff could not raise these issues. He also treated his board as a check-the-box process requirement. The board did not renew the CEO’s contract. A new CEO has the organization back on track.
In family-owned businesses, independent directors encourage meritocracy versus family position in succession decisions. They are also crucial if family members disagree on succession.
Independent directors can also mentor current and future C-Suite executives, acting as sounding boards for their leadership development.
Directors with great networks can be helpful. A highly experienced biotech executive was instrumental in finding the right private equity firm to provide capital needed to fully leverage a firm’s patent.
Finally, recognize the hidden talent issue from CEOs who “age in place,” especially those nearing retirement. They may be too comfortable for today’s digital, AI-infused, often-consolidating markets. Proactive, independent directors will ask challenging questions, for which the executive team has no answers but needs to find them.
Be deliberate about giving voting rights to independent directors through fiduciary board membership. Family-owned companies and majority investors worry significantly about retaining control. To the extent they have outside board members, they often use advisory boards to house independent directors.
However, with voting rights, independent directors serve a more vital role, and it shows in their behavior. They become even more proactive.
There are specific situations in which you want independent board directors to have controlling votes. Here are three examples:
- A family business with no family members on the executive team may put family members on the board. However, those relatives may not have the depth of experience independent directors can bring to decisions, which is why majority independent board members with voting rights would be essential.
- Companies with combative owners (be they family members or business partners) may also want independent directors to be the votes that resolve issues.
- Following the merger of two companies, investors may want future board decisions influenced by an independent director without ties to either company.
Independent directors can make outstanding board chairs. For companies with historically weak governance, having an independent director as chair can bring a skill set the company needs to be better governed. They are also less likely to tilt discussions too much toward financial issues as a key investor would. And they will be more independent than a family member as chair.
Deploying independent directors does not demand that their votes outweigh others. Carefully consider your organization’s needs in deciding whether they have voting rights, whether their vote is controlling and who would make the best chair of the board.
Independent Directors Are Value Creators
Remember that management teams largely focus on financial performance to earn their performance bonuses. But finances are a lagging indicator of success. Independent directors’ focus on strategy and its execution, talent development and executive team performance helps the management team focus on long-term value. In doing so, independent directors are creators of value.