Setting up the board
Setting up a board of directors allows SMEs to put formal structures of corporate governance in place while having access to expert advice.
A start-up that has successfully raised funds will require some form of governance structure to be put in place, such a board of directors. There is no one-size-fits-all definition of what a board of directors actually does. In Directors: Myth and Reality by Myles L. Mace, it was concluded that the board of directors ‘serve as a source of advice and counsel, serve as some sort of discipline, and act in crisis situations’ if a change in CEO becomes necessary, although the nature of their advice and counsel was never clarified. Mace’s work suggested that a board serves largely as a sounding board for the CEO and top management, while sporadically providing advice when the company is confronted by a problem, about which one or more board members are proficient.
However, a survey conducted by Demb and Neubauer, The Corporate Board: Confronting the Paradoxes found that that approximately two-thirds of directors agreed that setting the strategic direction of the company was one of the roles they filled. Furthermore, 80 per cent of the directors also agreed that they were involved in setting strategy for the company. It was found that more respondents agreed with that description of their job than agreed with the statements that their job entailed; 45 per cent said they oversaw top management and the CEO, 26 per cent said they involved in the succession, hiring, and firing of the CEO and top management, while 23 per cent said they served as a watchdog for shareholders and dividends.
“Before setting up the board a business owner needs to establish what his expectations of the board will be. At the same time the business owner should identify those areas of the business where external expertise will be most beneficial,” said Stephen Armitage, Managing Partner at UAE Business Solutions. Once identified the business owner should enter into dialogue with the prospective board members to confirm the expectations of all parties involved in the board structure and how it will work in practice. The board is there is act independently of the management team and to provide additional expertise to ensure the safe running of the business.
The board of directors serves the specific purpose of overseeing strategy and corporate governance, bringing in the much-desired external perspective and experience. The number of board members depends on whether the staffing approach is based on inclusion of certain skills, stake holder contacts and relationship, the value they can bring to the business, or a combination thereof, according to Mahesh Shahdadpuri, Founder and CEO of contract staffing firm, TASC Outsourcing.
Establishing an independent board demonstrates that that a business owner is committed to good governance and compliance, according to Spencer Lodge, Founder of consultancy, Make It Happen, adding that investors will have a greater degree of comfort if they can see real independence demonstrated in a board and an audit committee, chaired by at least one experienced director with financial expertise. He added that each business will have different needs when it comes to selecting a board, which are dependent on the product or service on offer. There is usually are a minimum of three primary board members: CEO, Finance Director and Head of Sales. There is no limit to how many board members a company can have, but the bare bones should consist of the CEO, someone to take care of the company’s finances, and someone to drive revenue.
Once the decision to set up a board has been made, a business owner has to consider carefully the individuals they will appoint. Ensuring the right people are appointed should, ideally, be achieved from the start.
The right people
“The process of setting up of the board should begin with the SME owner identifying a long-term vision for the organisation and the objectives they plan to achieve. They should be able to identify gaps of knowledge, competencies, or skill sets required to attain that objective. For an SME organisation, the gaps could revolve around innovation goals, setting-up processes, building leadership, building scalable business models or geographical expansion, identifying strategic exit options for the business, raising finance, and going for an IPO. The Board should consist of people who can fill these identified knowledge and skill gaps,” said Shahdadpuri.
Shahdadpuri added that even though it might be easy to bring family or friends onto the board, it is not recommended because board members should be appointed on merit, should understand the SME owner’s business and marketing operations, and they should put the company’s best interests ahead of their own. Also, selecting the right person is crucial because they run the board. They chairperson should be able to listen to all opinions, speak honestly, as well as command respect from fellow board members, shareholders and employees.
“Your first non-executive directors should be people familiar with your industry and the challenges of emerging companies, ideally someone who has practical understanding of growing a SME. You also need someone you respect, trust and believe you can work with,” said Lodge. It may be tempting for SME owners to ask their existing lawyer or accountant to be a director, but they are already advisors and the owner needs to remember the purpose of creating or expanding the board is to introduce new leadership, governance expertise and skills to the business.
However, Lodge added that not every director needs to be familiar with the company’s industry. Professional directors often acquire this knowledge and bring other complementary skills gained from their experience serving on boards, but it is usually considered appropriate that the overall board composition includes some people with industry experience.
The final consideration when looking to hire is access to capital. The owner will need management accountability to enable them to grow the business. To achieve this, it is imperative that the SME owner clearly defines their long-term vision and the expectations they have of their board members, and conveys them effectively.
The SME owner must narrow down top three-to-five high-priority areas and define the desired impact on each of those high priority areas, said Shahdadpuri, adding that TASC Outsourcing’s objectives for its non-executive board of directors cover the following areas: growth strategy across geographies, innovation, and new lines of service.
“Further, the SME owner must draft bylaws or policies that clearly define the role, expectation, power, and responsibility of each board member. In doing so, the SME owner must bear in mind the unique knowledge and skill gap that he expects the respective board member to fulfil. The bylaws should clearly state who the ultimate authority for decision making is, whether the advice of the board is final and binding, which areas or functions fall, or do not fall, under board’s prerogative, how often should the board meet, and what the time commitment required from the board member is,” he said.
At a more formal level, the law will help a business owner to define expectations to a certain degree because contracts impose a number of important duties and responsibilities on members. A group of directors working within a board structure must bring together expertise and advice, in areas such as: strategic direction by ensuring the company develops and implements business plans, strategies and policies to operate with profits and sustainability in mind; helping the business owner set and monitor performance targets; ensuring the company complies with its legal and accounting requirements; and ensuring the company identifies and mitigates risks and looks for new opportunities, added Lodge.
Once the potential board members have been selected, it is necessary to carry out the necessary due diligence before formally appointing them. Shahdadpuri noted specific criteria include ensuring that the prospective director has no undisclosed conflict of interest, is honest, and possesses their claimed skills and qualifications. “If possible, the SME owner must network within his contacts to assess the potential board member’s behaviour style, attendance track record, cultural fit, and knowledge, experience, and stakeholder relationships. It is also important to perform a check on criminal records and history to avoid tarnishing the organisation’s image at a later stage. Needless to say, these checks must be carried out confidentially, and tactfully.” These checks are important because if directors have a criminal background or have experienced bankruptcy, in some countries it will not be considered a legal hire, added Lodge.
While companies’ credit checking are not prevalent in the UAE, due diligence should still be done by requesting a CV from potential candidates as well as reviewing their professional network on sites such as LinkedIn, added Armitage. “It might be useful to contact the reference providers outlined on the candidates CV to get a third party perspective. An informal interview with the prospective candidate will also allow for relevant questions to be posed and answers sought.”
Businesses inherently take on risk as a normal part of their operations, but with the advancement of global standards of corporate governance, companies in the MENA region should closely consider the particular risks associated with the personal liabilities directors and officers face, according to D&O: Valued protection in challenging economic times by Middle East Insurance Review. Furthermore the current economic slowdown has contributed to a change in corporate governance norms across territories, with litigation remedies are becoming readily available for stakeholders and tougher regulations are being passed all the time.
“Since the board doesn’t own the business, the SME owner and the board members can sign a contract, which excludes the board members against different forms of liability. It is important that the board member’s responsibility and liability is clearly defined. At times, a board member may request liability insurance, in which case, the SME owner will need to seek Directors & Officers (D&O) insurance or a professional indemnity insurance to protect personal assets of the board members. The SME owner must take into account the possible exposure that may arise through regulatory claims, fraud claims, employee claims, unauthorised transactions, and litigation costs,” said Shahdadpuri.
Succession planning is another crucial consideration because if the board loses a director due to unforeseen circumstances, there needs to be a plan in place for how the member can be replaced and the continuation of the business with minimum disruption, added Lodge. “Protect the key men at risk and insure against disruption and loss should they become indisposed. For instance, what happens if they die? To what extent is the income insured for the benefit of you, your employees and the business? A key man is determined by reliance from the business on running this could be the head of sales–the business being reliant upon revenue or it could be the CEO with legal dependency as the owner.”
Finally, board members have to be compensated in some way, which will depend largely on factors such as their degree of involvement in the business in terms of the number of meetings they attend, any specific expertise they bring to business, or if they have invested any capital. “Remuneration can take the form of cash, equity or a combination of both. Many smaller companies offer shares or options to increase the attractiveness of such roles or because of funding constraints. Most board members receive some shares of company stock. In order to determine how much stock to award based on a variety of factors. Highly sought-after board members can receive a substantial percentage of shares just for signing on, along with additional shares for time spent working with the company or based on the company’s progress,” said Lodge.
br />Traits of a good board member:
- High level of integrity.
- Accountability for execution of ideas and strategy.
- Ability to provide insightful and meaningful ideas.
- Respect within and outside the industry.
- Strong leadership skills demonstrated from previous and on-going experience.
- Good communication skills.
- Analytically minded.
- Emotional intelligence.
- Great work ethic.
Source: Mahesh Shahdadpuri, Founder and CEO of TASC Outsourcing, Stephen Armitage, Managing Partner, UAE Business Solutions, Spencer Lodge, Founder, Make It Happen