Is there a “Zauberformel/Magic Formula” for a good Board of Directors?
Author: Pascal Hänggi
As a follow-up to the recent post (“Is the Board of Directors a Friend or Foe of Founders?”), here are some more thoughts on the quality of a Board of Directors (BoD) and whether there is a "Magic Formula" like for the Swiss Federal Council for a BoD. In challenging times, more attention should be paid to boards. They often fulfil the usual or minimal obligations, including attendance at meetings, remuneration committees and financial governance. When it comes to constructive feedback and strategic decision-making, the quality of boards can vary widely.
However, there are many problems, such as an insufficiently open flow of information or too few independent members, that limit the board's ability to do a good job. Given its power, a bad board can be fatal to a company. Therefore, a less conventional approach to evaluating board performance that looks beyond the C-level team to milestones and financial performance could be beneficial.
Ideally, a board is a high-functioning working group in which members need to challenge each other and often deal with issues that are critical to the strategic future and success of the company. Given its importance, the question is: what are the key elements of good board performance and is there a Magic Formula for its composition?
Regular Meeting Attendance
As simple as it sounds, regular attendance at meetings is important for business. But simply attending meetings is not enough. As American author Nell Minow puts it: "Some big names on the board rarely show up because of other commitments, and when they do, they're unprepared. This sums up the fact that attendance is not enough and doesn't guarantee success. A red flag for any member (big name or not) is when their only and most important contribution is the question: "Where are we going for the board dinner? However, regular and well-prepared attendance is important for the quality of the board and the success of the company.
You might think that more equity would mean more committed and vigilant members. However, a good director or chairman needs more than equity to perform well. So while equity can be a sign of performance, it is not a stand-alone reference point and is not a good indicator of good or bad performance.
Board Size, Executive Sessions, and Board Member Age
Does size matter? There is no black and white or simple answer to this question. Some successful companies, such as Microsoft, have small boards, while others, such as General Electric (GE) and Walmart, have large boards, supporting the view that size does not always matter and that it is crucial that the board is made up of committed members who come to meetings well prepared. Another aspect of good governance is executive sessions. During these sessions, the CEO is excluded so that the board can evaluate its CEO. This is undoubtedly an important part of board meetings. As always, there are exceptions to the rule of successful companies without executive sessions. GE has never had a board meeting where CEO Jack Welch was excluded. But in my view, one example is not enough to argue that executive sessions are obsolete. Similar to size, there is no good or bad when it comes to the age of board members. Older and more experienced members can be an asset to young founders and young CEOs (e.g. Cisco and Dell), while younger board members can bring different perspectives to problem-solving, be engaged and act as sparring partners for younger CEOs.
Board Member Skills
Skills are always the key to a good board. When companies get into trouble, the financial literacy of the members becomes crucial. To exaggerate, if members are in their role because they are well-connected, famous and rich, they are not automatically financially literate. Especially in these challenging times. For a good board, the experience and know-how to identify and analyse complex financial issues in order to address all the risks facing the company is crucial. In addition to financial literacy, scientific literacy is essential in the life sciences sector. The ability to critically analyse results and data from preclinical and clinical studies and identify gaps is essential. Taken together, this is more than “Nomen est omen”. Financial, business and scientific skills are essential for a high quality board.
The Presence of a Past CEO
This is a very complicated issue: sometimes the presence of a former CEO can be helpful, sometimes not. A new CEO can be haunted by the ghost of the past if the former CEO is on the board. On the other hand, a retired CEO can be an invaluable asset as a mentor and sparring partner for a younger CEO. Much depends on the personalities of the new and former CEOs.
There is no doubt that boards should have independent members. However, there is no one-size-fits-all approach to the proportion of members that should be independent. An imbalance can occur if only the insiders are well informed and dominate the board. An example of such an imbalance is Berkshire Hathaway, where 3 out of 7 directors are named Buffett and related to Warren Buffet. Two examples of more balanced boards are Microsoft and Intel. Half of Microsoft's directors are insiders and directly related to Microsoft. At Intel, only three of the nine directors are Intel insiders. Taken together, a significant proportion of dedicated and independent members is beneficial, and a well-balanced board with insiders and independent members is key to a company's success.
It's hard to define the factors that make one board an effective team and another a dysfunctional one. Back to those nerdy life science terms: The chemistry that successful boards have cannot be quantified. The members need to be a team where they respect and trust each other, where they all have the same reasonably complete information, and where they can challenge each other's interpretation of the problem to be solved. In summary, an important part of a good board is the social aspect.
The social aspect of trust extends beyond the boardroom. A company is in serious trouble if a CEO does not trust the board enough to share important information, or sends a report of several hundred pages with endless footnotes containing critical information less than 24 hours before the meeting. It should be remembered that it is the responsibility of the CEO and the board to receive adequate information in a timely manner. The development of back channels from the board to line managers within the company can be a consequence of such inadequate and delayed information flow. To be fair, this can also happen if the board has an agenda to remove the CEO for personal or political reasons. In general, back channels and hidden agendas don't stay secret because the human element is often underestimated and one's own position overestimated.
Taken together, the trust built through timely reporting and the open sharing of difficult information is a cornerstone of a good board. It creates a climate of respect and trust and can prevent unhealthy political alliances. Demonstrating the importance of the human element in board quality.
Challenging each other's opinions and assumptions is important in a good board. Trust and respect do not mean the absence of disagreement and friendliness. The ability to deal with conflicting views and dissent is a great quality. No issue should be treated as off limits. In a good board, members can challenge each other respectfully at any time.
What surprised me at the beginning of my career in a biotech company was that, unlike the C-level team, the performance of the board was less rigorously evaluated or not evaluated at all. This raised some questions given the power of our start-up. My personal experience is that a lack of feedback can be self-defeating. Organizational learning experts point out that people cannot learn without feedback. No matter how good a board is, it's bound to get better if it's intelligently reviewed. As Jeffrey A. Sonnenfeld put it in the Harvard Business Review in 2002: "A board review can include an assessment of such dimensions as its understanding and development of strategy, its composition, its access to information, and its level of openness and energy. In individual self-assessments, board members can review the use of their time, the appropriate use of their skills, their knowledge of the company and its industry, their awareness of key personnel and their general level of preparation. While performance evaluation will not prevent all problems in a company, it can help to improve the quality of the board in the long term.
In conclusion, there is no simple tick-box list for making a better board. But to return to the magic formula, there are seven parameters that make a good board better:
- Regular and prepared attendance at meetings.
- Commitment is more important than equity.
- Size should match the stage of the company.
- Financial, business, and scientific skills are essential; it needs more than “big names”.
- The ability to deal with conflicting views and dissent is a great quality.
- A balanced board with insiders and independent members is key.
- A reasonably complete flow of information and the ability to challenge each other's views.
However, there is no black or white for each parameter and, as in the Federal Council, each member is different and brings their personal strengths and weaknesses to the board to make it a well-functioning team.