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Board of Directors - Basic Principles

Board of Directors - Basic Principles

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Quite often my engagements begin with an invitation from the Chief Executive Officer to ‘take a look at the company and suggest improvements’. One of the most common initial tasks is to evaluate the structure, operations and productivity of an existing Board of Directors.
Quite often my engagements begin with an invitation from the Chief Executive Officer to ‘take a look at the company and suggest improvements’. One of the most common initial tasks is to evaluate the structure, operations and productivity of an existing Board of Directors.

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Published by: Dr. Earl R. Smith II on Apr 09, 2008
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09/27/2012

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 Executive Coaching – Leadership Coaching – Life Coaching - Mentoring
Board of Directors – BasicPrinciplesBy Dr. Earl R. Smith IIDrSmith@Dr-Smith.com 
Quite often my engagements beginwith an invitation from the Chief Executive Officer to ‘take a look atthe company and suggestimprovements’. One of the mostcommon initial tasks is to evaluatethe structure, operations andproductivity of an existing Board of Directors. In most situations, thecompany has successfully exited theearly stage and is now focusing onexpanding its business base andimproving its governance practices.In early stage companies this Boardis often made up almost completelyof insiders. By the time the companyhas grown to four or five milliondollars in run rate, the CEO mayhave begun to realize the need tobring in experienced talent to helpwith the issues of corporategovernance. In many cases they alsohave begun to use the Board as aplace to park individuals who canhelp with business development. As Iwill point out later, this decision canhave potentially disastrousconsequences.The Board of Directors is part of thelegal structure of a company and therules governing its operations,prescribing its prerogatives anddefining its obligations are part of well established corporate law.Properly run, it serves as anoversight of senior management andcarries the primary responsibility of protection and expansion of shareholder value. The Board is therepresentative of the shareholders indirect contact with, and supervisionof, senior management.In early stage companies the groupof shareholders and the seniormanagement tends to be roughly thesame. This leads to the illusion thatthe senior management is lookingout for its interests as shareholdersand doesn’t need an intermediaryoversight. But nothing could befurther from the truth. This strategyof avoiding oversight is the roughequivalent of parachuting without aparachute. It might be fulfilling for awhile but the end will be ugly. well structured and managed Boardof Directors can supply not onlyeffective guidance in corporategovernance but also a critical longerview of the evolution of thecompany.My experience has been that seniorteams running early stage companiesare so engaged in the day to daystruggle to drive the run rate andimprove margins that issues of corporate governance with an eyetowards preserving and increasingshareholder value are poorly servedor overlooked all together. Manytimes the results are poorlystructured client bases, grosslyinefficient operating procedures,completely inadequate financialcontrols and reporting systems, aninefficient financing strategy and anequity structure which looks bizarrein the clear light of day. In any case,shareholder value tends to suffer.
 
 Executive Coaching – Leadership Coaching – Life Coaching - Mentoring
Properly structured, the Board of Directors should be dominated by aclear majority of truly independentoutsiders. Those outsiders shouldbring skill sets that are important inoversight of key governance issues.Board Members should be in regularcontact with the appropriatemembers of the senior team andhave access to all aspects of thecompany’s operations, recordkeeping and strategic planningprocess.In companies where theshareholders and seniormanagement team are roughlycoincident, special arrangements areoften advisable which will allow theBoard of Directors to operateeffectively without an ever-presentthreat of dismissal in the event thatthey find serious problems with theway management is conducting thecompany’s business. When properlyaddressed, this approach can protectthe company against the kinds of CEO arrogance that recent historyhas provided so many examples of or a team’s tendency to take theireyes off the ball and followdistractions which are not in thecompany’s best interests. In short,the Board of Directors needs to beboth independent and secure in itsposition in order to operateeffectively.Board service should be based on afair compensation plan whichincludes an adequate but modestannual retainer, a small honorariumfor meeting attendance, a provisionfor reimbursement of expenses andan appropriate provision for long-term service resulting in some equityinterest. The maxim here is that youget what you pay for assuming; that,of course, you choose prudentlywhat you decide to pay for. Mostindividuals of substance will notassume the liabilities of Boardservice with a small company inexchange for a pittance for meetingattendance or an equity position of questionable value. The liabilitiesthey incur, particularly withoutadequate D&O insurance, could besubstantial multiples of thecompensation received.The quid pro quo for thiscompensation should be a clearlydefined set of metrics by whichBoard performance, and individualBoard member contributions, are tobe measured. This requires a clearlystated operating procedure and acarefully negotiated understandingwith each Board member. From myexperience, neither of these typicallyreceives adequate focus. For themost part, these understandings arebest reached at the launch of theBoard and with the help of anexternal source of experience in theorganization, operation andmanagement of Boards. A final word seems appropriate onthe issue of Board compensation. Itis absolutely crucial that no part of the compensation scheme for amember of the Board of Directorsputs them in a position where theirown interests conflict with theirfiduciary obligations to the

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