In this paper from the Rock Center for Corporate Governance at Stanford University, Board Evaluations and Boardroom Dynamics, the authors suggest that board self-evaluations aren’t all they’re cracked up to be. While, based on a recent study, 89% of directors believe their boards have the skills and experience necessary to oversee their companies, at the same time, survey respondents expressed “significant negative sentiments. Board evaluations do not appear to be effective at the individual level.” In fact, the authors report, the “typical director believes that at least one fellow director should be removed from their board because this individual is not effective. These are troubling statistics that suggest that many companies do not use board evaluations to optimize the contribution of their members.” By focusing only on the functioning of the board as a whole without adequate attention to individual performance, have board self-evaluations become simply pro forma exercises that do not really identify or address the problems that impede effective board operation?
SideBar: The NYSE requires boards of listed companies to “conduct a self-evaluation at least annually to determine whether it and its committees are functioning effectively.” Although Nasdaq does not impose a similar listing requirement, many companies listed on Nasdaq still perform self-evaluations as a matter of good corporate practice. But are these processes really effective?
According to the paper, almost half of directors surveyed rate their boards a 4 on a scale of 1 to 5 in terms of effectiveness (with 5 being “extremely effective” ) and, as noted above, most believe that their boards have the necessary skills and experience. Indeed, 75% rate their boards as very or extremely effective, with another 20% rating them as moderately effective. However, a large percentage of companies do not even evaluate individuals: “Only half (55 percent) of companies that conduct board evaluations evaluate individual directors, and only one-third (36 percent) [of directors surveyed] believe their company does a very good job of accurately assessing the performance of individual directors.”
And when you drill down, that top-line conclusion of board effectiveness did not prevent survey respondents from expressing reservations about individuals, apparently not captured by most evaluations: only 52% agree or strongly agree that their boards are very effective in dealing with directors who are under-performing or exhibiting poor behavior and less than a quarter (23%) strongly agree that their boards give direct, personal and constructive feedback to fellow directors — and 27% do not agree at all. There may well be social or psychological barriers that inhibit these processes, but can they be overcome?
SideBar: Compare those statistics to the data from PwC’s annual survey of over 800 corporate directors, which, in October 2016, found that, of the directors surveyed, 35% thought that at least one of their board colleagues should be replaced, compared with 31% in 2012. The reasons most frequently cited were lack of preparation for meetings (2016: 25%/2012: 11%), lack of the right expertise (17%/13%), aging (12%/15%) and overstepping of boundaries of the board’s oversight role (12%/10%). Not surprisingly, directors with briefer tenures tended to be more critical: 39% of those serving for two years of less thought a director should be replaced, compared with 29% for directors that had served for more than ten years. Surprisingly, however, only 8% of directors surveyed indicated that, following a board self-evaluation, they had decided not to renominate a director as a result. Moreover, only 49% of directors reported that their boards made any changes as a result of the self-evaluation process — and most of those changes related to the composition of committees or adding more expertise. Only 14% took action to diversify their boards. (See this PubCo post.)
Another important characteristic that is not well-captured by the evaluation process is boardroom dynamics: “Only two-thirds (64 percent) of directors strongly believe their board is open to new points of view; only half [56%] strongly believe their board leverages the skills of all board members; and less than half (46 percent) strongly believe their board tolerates dissent. Forty-six percent believe that a subset of directors has an outsized influence on board decisions (a dynamic referred to as ‘a board within a board’).” The authors conclude that these “troubling statistics…suggest that many companies do not use board evaluations to optimize the contribution of their members.” However, the authors believe that, notwithstanding their difficulty, “the review of individual members and interpersonal dynamics represents the greatest opportunity for improvement by examining the roles, contribution, and effectiveness of each board member.”
The paper focused on three key areas that could benefit from an improved evaluation process: effectiveness of board leadership, the conduct of board meetings, (particularly interpersonal dynamics) and contribution of information.
One of the paper’s most critical — albeit, commonsense — observations is that not all directors have the right skill set to lead a board or a board committee, even if they are otherwise very valuable members of the board. Because temperament can often be determinative, the authors advise against appointment of leaders by default. Successful board or committee leaders need to be skilled “at translating the voice of the board to management, and the voice of management to the board.” In addition, the leader needs to be “clear, concise, and constructive,” adept at encouraging broad participation, delivering feedback and “bringing the right people into the conversation at the right time,” all of which may require a “range of leadership styles to line up effectively with the board’s diverse members.” Unfortunately, however, the survey data showed that “[o]nly 72 percent of directors believe their leader is effective in inviting the participation of all directors, and only 68 percent believe they are effective in inviting the participation of new members.” Almost half (47%) of directors surveyed very much or somewhat agree that members of their boards are too quick to come to consensus and do not encourage dissenting views.
To help address these issues, the authors recommend the following:
- “Choose board leadership using specific criteria tailored to the role. Not everyone has the behavioral attributes to be effective. Do not promote board members to leadership positions based solely on seniority.
- Be proactive in developing a pipeline of talent available for leadership roles. Create a skills and experience matrix that plots the existing skill sets of directors against the needs of the board.
- Rotate committee chairs to develop a future lead director or chairman and to refresh committees with new perspectives. Do not rotate too frequently such that you create disruption.”
What are the characteristics of effective conduct of board meetings, i.e., boardroom dynamics? The authors posit several features: typically they are organized for maximum productivity, open to the honest exchange of ideas and encouraging of full participation by all members.
The authors advocate that more attention should be focused on committee meetings — where they suggest the “real work” of the board takes place — and executive sessions. Boards should evaluate whether clear expectations have been communicated to committees and whether committees have kept their boards adequately informed. With regard to executive sessions, the authors advise that these sessions should be useful settings for framing, in advance, that day’s discussion topics and, post-board meeting, for reviewing information learned and putting it in context. Interestingly, the authors observe that executive sessions that last longer than 10 to 15 minutes may signal problems: “Long meetings can be a red flag, indicating that board members do not feel comfortable expressing their honest opinions in front of management and instead wait until management is not present to speak freely. This dynamic is detrimental to decision making.”
The prevalence of these issues seems to be borne out by the survey data. Slightly over half (53%) of directors very much or somewhat agree that board members do not express their point of view when management is present and instead wait for executive sessions or situations when management is not present. Worse yet, only 68% strongly agree that there is a high level of trust among board members. Only 63% very much agree that their boards are willing to challenge management. Even fewer directors (60%) strongly agree their boards even ask the right questions, and only 62% strongly agree that their boards understand company strategy.
To help address these issues, the authors recommend the following:
- “Set clear expectations for the work expected from committee members. Create opportunities for individual directors to give feedback on committee effectiveness.
- Establish executive sessions at the beginning and end of meetings. Set clear expectations about how directors are to contribute. Be conscious of time.
- Invest in board education. Schedule regular sessions for management or outside advisors to do ‘deep dives’ on specified topics relating to the company, industry, and broad macroeconomic trends.
- Foster trust among board members through retreats, an extra day added to a board meeting, holding board meetings in locations that are conducive to spending some ‘down time’ together, and inviting spouses or partners to join in social opportunities.”
Finally, the authors contend that board evaluations should also address board interaction and member participation. In essence, they argue, directors may have important “functional knowledge,” but they are not necessarily schooled in how best to contribute that information without stifling debate: directors “are not recruited to boards to provide the ‘last word’ on topics, with other directors deferring to their opinion. They are recruited to contribute knowledge that the group as a whole can use to make better decisions. In truth, there is no reason to believe that forming a board from a group of successful CEOs will produce a high-functioning board.”
The survey data confirmed the prevalence of some director behaviors that could impede successful conduct of board meetings: 44% of directors surveyed very much or somewhat agree that members of their boards cross the line between oversight and actively trying to manage the company; 39% that board members derail the conversation by introducing items that are off topic; 35% that board members are distracted by technology or take calls during meetings; and 25% that board members are unprepared for meetings. A full 74% of directors surveyed very much or somewhat agree that board members allow, presumably inappropriately, personal or past experience to dominate their perspectives.
This survey data suggests perhaps that some directors may need to learn a few new behaviors to help them play well with others, including techniques such as asking the right questions in the right way, “not being directive, leading conversations rather than acting as ‘the expert,’ staying engaged, … building on the points of view of others,” entering the conversation using questions, setting the context when making comments, allowing others to participate and generally learning to “contribute,” rather than “win.”
SideBar: In “Seven Myths of Boards of Directors,” the authors explored the myth that CEOs make the best directors. They concluded that the empirical evidence on the performance of CEOs as directors is mixed, with some studies finding “no evidence that the appointment of an outside CEO to a board positively contributes to future operating performance, decision making, or monitoring,” and that active CEO-directors are associated with higher CEO compensation levels. One survey suggested that directors who are also CEOs may be too busy to devote sufficient time to other boards, and are often unable or unwilling to serve on time-consuming committees or to participate in meetings on short notice. There was also criticism of CEO-directors as “too bossy, poor collaborators, and not good listeners.” More recently, the level of active CEO-directors has declined, according to the authors, with companies instead recruiting to their boards retired CEOs or executives below the CEO level. (See this PubCo post.)
Effective board leadership, with the benefit of well-designed board evaluations, may be able to shape board culture to be more conducive to constructive interaction. To help address these issues, the authors recommend the following:
- “People do not join boards knowing how to be an effective director. It is important to learn how to become an effective director. Give objective feedback to individual directors through the evaluation process.
- Encourage directors to develop range to their style so that they know how to effectively enter a discussion. Encourage discipline in how directors contribute to board discussions. Stay on topic. Build on points. Do not repeat or rephrase what others have already said. Do not refer excessively to personal experience. Avoid derailing the conversation.
- Board leadership should play a key role in keeping discussions to the topic, drawing others in who have not contributed, and ensuring that disparate perspectives are vetted.”
SideBar: Another approach may be to increase board gender diversity. In a speech in 2014, former SEC Chair Mary Jo White cited increasing evidence “that board diversity makes for stronger boards. Some research has highlighted key strengths that women bring to boards. For example, it has been found that women tend to better understand the perspectives of stakeholders, including consumers and employees. Another study shows that women tend to use cooperation, collaboration and consensus-building more frequently, and they are more likely to make consistently fair decisions considering competing interests.” Similarly, Bloomberg agrees that “there’s a pile of research showing that boards and other leadership panels with 50 percent women think more critically, which may explain the better results. Group dynamics change for the better when both sexes are present. Diverse groups solve problems better than homogeneous ones do, possibly because the men and women monitor each other’s performance more closely.” Or, maybe companies might follow the approach recommended by new UK Prime Minister Theresa May to add employee representatives to corporate boards. (See this PubCo post.)