DealMakers - 2020 Annual
Board composition and maintenance –
Greater than the sum of its parts
by Hannah Le Page
The role of the nomination committee in the composition and maintenance of an effective board of directors.
The 2018 UK Code of Corporate Governance places the Nomination Committee firmly at the forefront of the selection and recruitment process of an effective and balanced Board of Directors. While in days gone by, the coveted seat at the boardroom table was often bestowed as a reward to senior company employees for years of loyal service, the role of director has developed into one of increasing sophistication and prominence. The demand for complex Board oversight and accountability to shareholders and the regulator, to name but a few, is at an all-time high. This, together with increasing risk, uncertainty and reports of investor activism has led to the evolution of a position that is not for the faint of heart.
Hannah Le Page
An effectively functioning Board is critical to the creation of corporate wealth and long-term sustainable success for stakeholders. It is well established within corporate governance frameworks that a functional Board is a diverse Board – a 2018 international study by McKinsey and Company found that more diverse businesses were 33% more likely to have higher financial returns – with targets typically focusing on aspects such as gender and ethnicity (as outlined within the Hampton-Alexander and Parker Reviews).
In terms of ethnic diversity, the UK 2020 Spencer Stuart Board Index report shows slow progress, with just 8% of directors having BAME (Black, Asian and Minority Ethnic) backgrounds across the top 150 FTSE companies. Over in the US, the famous coffee chain, Starbucks, recently demonstrated its commitment to increasing minority representation within its workforce by reporting that it is to link the achievement of diversity targets to executive incentive packages.
On the subject of gender, the annual female FTSE Board Report (conducted by Cranfield University and sponsored by EY) highlights in its 2020 publication that women now occupy 40.8% of non-executive director positions on the FTSE 100. Though this appears promising in isolation, the number of women holding executive roles lags behind, totalling only 13.2% across the FTSE 100, despite the Hampton-Alexander Review’s target of 33% of women on executive committees and their direct reports by 2020.
The challenge faced by Nomination Committees when making new appointments is that it is inadequate for directors to simply appear diverse at face value (an approach that may be considered to simply “tick the box” of governance targets). Instead, diversity and inclusion must be understood and embedded from the top downwards and clearly linked to organisational strategy. Diversity of thought, talent and opinion are also essential; however, directors must demonstrate that they not only possess these qualities, but can also capably and confidently communicate them to their fellow directors.
The FRC’s Guidance on Board Effectiveness (published as a companion read to the UK Code) notes a range of softer skills that may be considered at an individual level, including strength of character, openness, honesty and an ability to develop trust. However, what remains a central focus is how these personal attributes synchronise with the remainder of the Board, how its members work together to foster a culture of empowerment and active engagement and, ultimately, how the Board, as a unit, operates with a level of competence that is greater than the sum of its parts.
So, when it comes down to the actual appointment process, what practical considerations are of interest to the Nomination Committee?
Does the candidate:
Have the required knowledge, skills, and industry experience to add value to the Board, as identified by a skills gap analysis
Complement the existing Board composition and contribute to a diverse Board
Have the ability to offer independent and objective advice
Have no material conflicts of interest with the company
Have the time to commit to the role of Director – significant commitments should be disclosed prior to appointment, together with an estimate of the time required. Full-time executive directors should not take on more than one non-executive directorship in a FTSE 100 company or other significant commitment.
Firstly, a detailed skills gap analysis to appraise the existing Board and how it functions should be put together by the Nomination Committee chair and the Company Secretary. This analysis will assist with identifying any competencies, experience or qualification that may be lacking within the existing set-up. Based on the results of this analysis, an individualised role profile should then be drafted using a set of objective criteria. The use of an external search agency and/or open advertising is encouraged under Principle 17 of the UK Code and, if a search consultancy is used, they should be clearly identified in the annual report. It is also worthwhile for the prospective director to have the opportunity to meet with his or her future colleagues, following the completion of the formal interview process, allowing for further assessment of how the candidate will interact with and add value to the existing Board. Following the selection of the new Board member, an induction programme, tailored to both the company and the candidate, should be formulated. This is typically run by the Chairman, with assistance from the Company Secretary, and should allow for the candidate to ask questions to facilitate their understanding of the company, the industry in which it operates, and its culture, mission and vision.
Once the Board is considered adequately composed, Nomination Committee attentions should then turn to succession planning – typically, a key item of interest for investors. The tenure of the existing Board should be carefully considered during this process. For example, it is a UK Code requirement that the Chairman should not remain in post for more than nine years from the date of their first appointment. Even if it is not anticipated that fresh talent will be required on the Board in the near future, contingency planning is typically welcomed by stakeholders to secure the company’s continued long-term success, and to offer a form of insurance against unforeseen circumstances.
The final challenge for the Committee is to keep the Board effective through an annual evaluation and assessment of both the Board and its members. This is typically done using methods such as the completion of self-evaluation questionnaires, although FTSE 350 companies should have an externally facilitated evaluation at least once every three years. Any concerns raised should be discussed by the Board, and an action plan made to address these on the next Board agenda.
Le Page is a Manager – Operational Governance & Risk with Maitland.