Outside directors are paid. Aside from attending board meetings, outsiders are often chosen for their expertise in associated fields that can add value in fostering a healthy business structure. Compensation can vary depending on the company's size.
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Internal board members are not usually monetarily compensated for their work, but outside board members are paid. The board makes decisions concerning the hiring and firing of personnel, dividend policies and payouts, and executive compensation.
A board member is likely to be removed if they break foundational rules, for example, engaging in a transaction that is a conflict of interest or striking a deal with a third party to influence a board vote.
A board of directors is elected by shareholders but nominated by a nominations committee. In an earlier study, I found that the powers of control are in the family owners, and what the board of directors does is determined by the owners.
The owner-managers of some small companies add outside directors to multiply the inputs to policy making, policy implementation, and day-to-day operating problems. The primary function of the outside directors is to provide a source of advice and counsel to the family owner-managers, and they do not serve in a decision-making role, except in the case of the unforeseen death of the dominant family owner-manager.
They have the authority to manage the enterprise, and the board is at most a legally required body which can be used for advice and counsel on management or family problems. The family owners determine what the board does or does not do. At the opposite end of the spectrum is the large, widely held corporation in which typically the president and members of the board own little stock. Here, the de jure powers of control are dispersed among thousands of stockholders who are generally both unorganized as owners and essentially unorganizable.
With this absence of control or influence by the corporate owners, the president typically does have the de facto powers to control the enterprise, and with these powers of control it is the president who, like the family owner-managers in the small company, determines in large part what the board of directors does or does not do.
Between the two corporate situations just cited, there are many variations and combinations of centers of control, or ownership influences on control, of the company. Complete de facto control by the professional manager-president may be diminished or influenced by the presence on the board of a person who owns, or represents ownership of, a substantial block of stock.
This may constitute a challenge to the president. My research findings show that many directors who own, or who represent the ownership of, substantial numbers of shares of stock take a deep interest in the operations of the company, spend considerable time in learning the business, and insist on being involved in major company decisions.
My analysis of the situations where substantial stockholdings are represented on the board has produced no factors which make possible any reliable prediction of whether the stockholder-director will take an active and involved question-asking role.
There is some evidence that if the owner of the stock had come into possession of it through his own efforts, such as an entrepreneur developing his own business and then selling it to a larger company for its shares, the acquired entrepreneur will take a very active role as a director of the acquiring company. If the outside director with large stockholdings is a second or third generation heir of an entrepreneur, his involvement as an active director is less likely.
Another situation in which the president of a large-or medium-sized company does not possess the full and complete de facto powers of control is that of a retired president who stays on as a member of the board. Then, typically, the outside board members have been selected and invited to the board by the retired president, not the new president.
A similar complication of relationships exists in the situation following the sudden death of the president where his successor is designated by the board of directors. The new president holds his position because the directors selected him—directors who were themselves selected by his predecessor. While the new president is demonstrating his capacities to head the enterprise, the outside directors generally share the powers of control of the company. In both cases, with the passage of time, and with the designation by the new president of new directors who are his directors, the complete powers of control will flow back into the office of the president.
Generally, when the president and the directors own only a little stock, the president possesses and exercises the complete powers of control of the enterprise. But, here again, it should be noted that the president with complete powers of control could determine that the directors will, to the extent he wishes, serve primarily as sources of advice and counsel. The controlling influence of the president in determining what the directors will or will not do was illustrated by many of the discussions during my field research.
The top executive of one company said:. If he wants to use the board, he will use them. Basically, the board can be made just about as useful as the president wishes it to be.
Most presidents are completely aware of their powers of control, but they choose to exercise them in a moderate manner acceptable to their peers on the board. Many of them, as presidents of their own companies with board members of their own, thoroughly understand the existence and location of the powers of control. The president, with powers of control, generally selects and invites directors to serve on the board.
In some instances, a nominating committee of the board is created to identify, screen, and recommend candidates for board membership.
Even with the presumed objectivity of a committee of outside directors, though, the president makes the decision as to new members. In these cases, the stock-owning directors are interested in adding new directors of their choice, and the president is interested in new directors of his choice. Discussion and negotiation inevitably result in some sort of agreement on who should be added, and the balance of power issue continues.
My interview discussions on the topic of who makes a good director indicate that presidents, in selecting directors for their companies, regard the titles and prestige of candidates as of primary importance. Candidates are usually chosen who are a in positions equal to those of the other board members or b in companies of prestige equivalent to that of the company being served.
If existing board members are chairmen and presidents of companies or senior partners of leading financial or legal firms, potential board members with lesser titles are rarely considered.
In addition to the qualifications of prestige titles in prestige institutions—both business and academic—outside directors are selected because they are noncontroversial, friendly, sympathetic, congenial, and because they understand the system.
Boat-rockers and wave-makers generally are not the choice of presidents with de facto powers of control and with freedom of choice as to who should serve on their boards.
While most presidents prefer to include on their boards only those who have appropriate titles and positions, there are a few but not many presidents who believe that the requirement of prestigious titles is not important.
They want board members who will participate in the management of the company. Not surprisingly, these presidents are the same few who want board members who will help establish corporate objectives, ask discerning questions, and evaluate the performance of the president. Today, many business leaders are concerned about the workings of boards of directors.
In recent corporate disasters, hindsight suggests that it would not have been meddling in the management if the directors had in fact asked some discerning questions and had been involved in the allocation and appropriation of company capital resources. If what I have reported is what boards of directors in fact do—is it enough? I suggest it is not.
During my research interviews, many plausible reasons were given for having insiders on the boards—e. I believe that these seemingly plausible reasons for having insiders on boards of directors are essentially fallacious and specious. The objectives of the reasons cited for having insiders on boards could be accomplished through other means. The specific functions of the board should be discussed and agreed on by the chairman, the president, and the outside board members, and reduced to writing as a charter to board activities.
A model for the process of defining appropriate board functions through discussion is provided here by John D. Gray, Chairman of the Board, Omar Industries:. I proposed the initial draft, and then met with the individual directors in three separate geographical locations to get their detailed input.
This input was finally distilled into one document, circulated again to the directors, and with minor changes, adopted.
It has been so far a most helpful document. I shall include a select few of the many roles in each area to illustrate the specific job defined:. Establish the criteria by which the board is required to evaluate the performance of the president annually, on a formal basis.
One of the findings of my research is that generally directors do not do an effective job of evaluating or measuring the performance of the president. Measurement of the performance of subordinate executives is commonplace. I suggest that measurement of presidents be accepted as a commonplace and important function of boards of directors. In , E. Everett Smith suggested that boards of directors have the kinds of information needed to evaluate the performance of management:.
The company executives are in a far better position to appraise and evaluate division performance. By criteria I mean material that will really identify, in each segment, the key factors that control profits and the general health of the business. The fact that there are distinguishing characteristics for each company in each industry requires, I believe, that criteria for the measurement of a president in a company be uniquely tailored to that particular situation.
Accordingly, the definition of the criteria should be a joint effort of the president and the board of directors of each company. Generally, the development and recommendation of major corporate policies and long-range objectives are initiated by the president and recommended to the board.
Some presidents have found outside consultants helpful in designing the appropriate and relevant criteria for the measurement of top-management performance. After the president has prepared what he perceives to be the appropriate criteria, they should be submitted to the board of directors for discussion, approval, and commitment.
Directors should ask those discerning questions of presidents at board meetings that they would ask if they owned a substantial part of the companies they serve as directors—i. One of the conclusions of my research on directors is that in most companies directors do not in fact ask discerning questions. Presidents generally prefer not to have discerning and challenging questions, especially at board meetings.
And directors comply and accept limited and passive roles by serving as sources of advice and counsel, providing some sort of discipline value, and becoming active only when forced by the conditions of a crisis. I believe that directors willingly accept the nonquestioning, noninvolved role partly because they are not concerned about their legal liabilities as directors.
The questions a director would ask in the management of his personal business affairs should be the questions a director poses to the president. With this standard of liability, I believe directors would ask those questions owners would ask or they would resign.
Directors unwilling to accept the legal responsibility of representing the shareholders—the owners—in my judgment should resign. Establish compensation rates for outside directors which motivate them to fulfill active and responsible roles as directors. Outside directors, in my judgment, are today generally overpaid for what they do, and underpaid for what they should do.
There was a time when a corporate director could regard his appointment as just an agreeable tribute to his wealth and his connections, a sign that he had entered the inner circle of the business community. If any director still thinks of his job that way, the proliferation of stockholder suits, the drumfire criticism of the militant consumerists, and the mounting complaints of minority groups should make him think again.
The problem of the modem director is to define his role so that he does not meddle with day-to-day management but nevertheless knows what is going on and makes his influence felt in the determination of broad policy. It is not a problem that lends itself to easy answers. Each company is a separate case, and it is fair to ask whether a man who serves on a dozen or more boards really is doing his job on any of them.
In too many recent cases—Penn Central, for example—no one has been more surprised than the directors when the management finally admitted that the company was in deep trouble. Discharging these responsibilities means thinking not only about particular tasks but also about ways of working as a board, and ensuring individual directors can be fully equipped to play their part. Again, there are four particular areas worthy of time and energy:. These activities are normally undertaken by the Chair, part of whose role is to manage board business and act as its facilitator and guide.
Where the managing director is also the Chair, it is important that these two distinct roles are properly separated and that sufficient attention is given to carrying out the Chair's role effectively. The board should not just be an executive team. The NEDs play an important part in assisting the Chair to fulfil their role by regularly and rigorously assessing the effectiveness of the board's processes and activities.
Given their outside perspective, they are sometimes best placed to ensure that the board focuses its energies effectively on meeting the demands described earlier. Each board of directors is faced with unique problems and circumstances that must be addressed for the company to be truly successful. As this factsheet seeks to show, however, there are some universal challenges that are faced by all boards and a number of strategic tasks that any board must perform if its central purpose is to be achieved.
Legally speaking, there is no distinction between an executive and non-executive director. They share exactly the same individual and collective duties and responsibilities. Where the executive director has an intimate knowledge of the company, the NED may be expected to have a wider perspective of the world at large.
Where the executive director may be better equipped to provide an entrepreneurial spur to the company, the NED may have more to say about ensuring prudent control.
At the end of the day, however, it is important to be clear that the challenges and tasks discussed in this chapter are those of the board, not of individual directors. While each individual may have a distinct contribution to make, it is the collective responsibility of the board to ensure the company's successful operation. View our courses. Do you know what you need to know?
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