Overseeing a company’s corporate governance process and structure, the nominating and governance (nom/gov) committee is essential to a company’s long-term success. In this BoardVision interview—moderated by NACD Director of Partner Relations and Publisher Christopher Y. Clark—Bonnie Gwin, vice chair and co-managing partner of the global CEO and Board Practice at Heidrick & Struggles, and Thomas Bakewell, CEO and board counsel at Thomas Bakewell Consulting, discuss the qualities of an effective nom/gov committee chair:
Sets the right mix between board culture and composition
Facilitates cross-committee communications
Performs effective board evaluations
Spots diverse talents in director candidates
Bonnie Gwin, vice chair and co-managing partner of the global CEO and Board Practice at Heidrick & Struggles (left) and Thomas Bakewell, CEO and board counsel at Thomas Bakewell Consulting.
Here are some highlights from the discussion.
Christopher Y. Clark: Depending on what your definition of best is, why should the best director on the full board be the chair of the nom/gov committee?
Bonnie Gwin: In my opinion, it is an incredibly critical role. You’re talking about a director who is helping guide the board in not just developing a great composition for the board that is strategic and focused…, but also a director who understands the culture of the company and the board that they’re trying to build. You really need an outstanding director who understands that mix between composition and culture and can work closely with the board to get it right.
Thomas Bakewell: Bonnie is spot on in terms of composition and having the right team around the table. The other magic that you need in a terrific nom/gov chair is somebody who can draw people out, spot talent, make sure everybody gets heard, [and] really…build the team. Coming from a baseball town where we have a pretty good manager [who] wins a lot of World Series, we know the value of having a great person who can draw everybody out and get the team to work together. It’s really [about teamwork] … and using a lot of the tools that are available today. One of the trends in tools is…much more thorough and in-depth evaluations. [These are] … not just check-the-box or check-the-list [exercises] but in-depth individual board evaluations to know what’s really going on in the boardroom and among directors.
Clark: NACD [held] a combined meeting of the NACD Audit Committee Chair Advisory Council and NACD Risk Oversight Advisory Council. … It was invaluable for both sets of committee members. How do you feel about [meetings between committees] … whether it’s audit and risk [or] compensation and nom/gov? Do you think those interrelationships of committees should be enhanced or promoted?
Gwin: Generally speaking, transparent communication across all the committees of the board is essential. It’s essential for a high-functioning board. And in particular where you have, for example, [the] nominating [and] compensation [committees], there’s a lot of interplay between them and the issues they’re addressing. I think it’s important to ensure that there [are not only] good transparent lines of communication between those two committees, but frankly across the whole board.
Bakewell: The magic ingredient is how people work together, and part of that key element is how they communicate. The old approach to boards was everybody showed up the day before the board meeting [and] went to the committees. A lot of times people went to every committee [meeting]. What’s the point [now]? You don’t have the time. You don’t have the energy. You don’t have the resources today. So how do you have a board where everybody trusts each other and they communicate? If you’re not on the audit committee and important issues come up…, can you simply pick up the phone and reach out to the audit committee chair, or is there another process that’s very helpful for you to get the information you need?
Clark: Please give us one last piece of wisdom.
Gwin: The piece of wisdom I would share is the importance of long-term succession planning. We’ve talked about that several times, but I really think, looking at board composition [and] board dynamics… over the next four or five years…is very important.
Bakewell: I would say my secret sauce is [that when looking at director candidates] it’s not so much [looking at] … particular talents, [because] everybody can look at a resume and see what somebody has. They’re going to see if they’re a CEO, [or] they’re skilled in marketing. The real magic is [asking], “What is their true personality? Are they a ‘driver’ personality? Are they a curmudgeon?” Sometimes boards need curmudgeons. … Is somebody a strategic thinker, or is their skill set not [being] a strategic thinker but taking strategy and converting it into action? What have they done in their past experience that really makes them qualified for this role?
Clark: Well I think we’ve got all the synapses popping. I wanted to thank the both of you for joining me today.
Leading boards increasingly take an approach to board succession that goes beyond traditional placement and even planning. They don’t want to be caught flatfooted in the event of unexpected departures of directors, multiple retirements, strategic evolution that calls for new skills on the board, or the sudden appearance of an activist investor demanding seats at the table.
Bonnie W. Gwin
Theodore L. Dysart
At its most advanced, this approach includes establishing relationships with potential candidates even when foreseeable board vacancies lie far in the future. At a minimum, it involves identifying robust candidates across the various sets of competencies the board might need down the road, and then keeping tabs on them, looking for opportunities to get to know these individuals, and learning how they might one day fit into the company’s future. Boards that employ this approach:
Manage foreseeable vacancies and skill-sets as a portfolio. Through detailed assessment, boards can identify critical gaps in their committees or expertise, and zero in on the skills they will need. They can then develop a competency index that enables them to manage succession planning holistically, not as a series of one-offs.
Continually identify a broader range of potential candidates to address expected (and unexpected) vacancies. The board of a leading consumer company, for example, maintains what they call an “evergreen book” of 40–50 potential candidates they keep their eye on from year to year. Similarly, the board of a leading financial services company, facing four vacancies in the next five years, conducts periodic “lit searches” and at any one time is aware of a dozen or so potential candidates.
Engage potential candidates before they’re needed.Activist investors, for example, are well aware of annual meeting cycles, and they use this time pressure to push through their proposed director candidates. Boards must, therefore, either be able to conduct rapid searches for world-class alternative candidates or face the prospect of a proxy fight. Boards that have already engaged with candidates and gotten to know them will not only understand who would best fit the bill but also who has the stomach to enter the fray. Moreover, these candidates will better know the company. We find that this not only gives the company an edge in convincing widely sought executives to join the board, but also helps ensure a faster, more productive start when they do.
Anticipate cultural fit. Through proactive engagement, board members can get a sense of how potential candidates might improve upon (or poison) the atmosphere of candor and collegiality that effective boards require.
Boards differ in how they engage with potential candidates, but the process is usually jointly owned by the CEO and an independent director. In some cases, the CEO takes the initial meeting with potential candidates. In others, the lead director or a member of the nominating committee makes initial contact. In all cases, the encounters should be informal, get-acquainted sessions, not formal interviews. The subject of board membership should be brought up only as a casual point of conversation with no commitment to timing and with no certainty that things will move forward.
Why, then, should potential candidates agree to meet? Because the worst that can happen is that they have made contact with the CEO and board of a prominent company and established relationships that could lead in any number of directions.
By identifying and engaging with potential colleagues, boards can reap big dividends, enabling themselves to:
Respond faster, more flexibly, and more effectively to unforeseen events
Refuse to settle for less-than-ideal candidates
Evolve the board in step with the company’s long-term strategy
Strengthen the board’s culture, both through thoughtful appointments and the board’s better understanding of that culture
As we have found, once the process begins to pay off—in a faster search in an emergency, the successful recruitment of an accomplished leader, a rapid and smooth onboarding of a new director, or the fine-tuning of the board’s culture or mix of skills—board members get firmly behind it. Most importantly, they give themselves a perpetual head start on one of their most important responsibilities.
Bonnie W. Gwin is vice chair and managing partner of Heidrick & Struggle’s board practice in North America. Theodore L. Dysert is a vice chair in Heidrick & Struggles’ Chicago office, where he is a leader in the global board practice and an active member of the CEO practice.
Director compensation continues to gain attention in the corporate governance community. Once one of the most mundane topics of corporate compensation, director pay is becoming the topic du jour as governance experts and current board members alike debate the value of a strong, engaged board of directors, as evidenced by the fact that ISS now assesses director compensation levels on a relative basis using QuickScore, its analysis and rating system for corporate governance practices. All of this prompts the question: What is a quality board of directors really worth?
Total board cost (defined here as the sum of cash, equity, pension value changes, and all other compensation amounts as reported in the director compensation table of a company’s latest proxy statement) has emerged as another way for directors and other stakeholders to evaluate director compensation and to demonstrate the value of boards to shareholders.
Steven Hall and Partners studied the early proxy filings of 100 U.S.-based companies with revenues in excess of $1 billion. The study examined the aggregate amounts of cash, equity, and other compensation paid to directors, as disclosed in proxy tables. Among this year’s early proxy filers, the median increase of total board fees was 7 percent in 2014, bringing the median total cost to $2 million. The movement in pay was driven by a number of factors, including a median increase of 6 percent in equity awards granted, a 2 percent rise in the cash compensation, and an increase in the number of paid directors.
In addition, we found at median:
Total cash payments to directors increased 2 percent to $777,000
Total equity compensation rose 6 percent to $1.1 million
Total board fees grew 7 percent to $2.0 million
Boards were comprised of nine paid directors, up from eight in 2013
Average cost per director increased 5 percent, to $230,000
We also compared total board cost to revenue, net income, and market capitalization amounts to show the minimal financial impact of director fees. At median, total board cost equals 0.05 percent of revenue, 0.66 percent of net income and 0.03 percent of market capitalization. These figures reinforce the notion that the board continues to represent one of the wisest investments of capital, particularly in light of the experience and specific expertise that directors bring to the companies they serve.
Average Cost per Director
Among the companies studied, average cost per director ranged from $78,617 to $410,678 in 2014. Among the companies reviewed, the median increase over 2013 pay levels was 5 percent. The median average cost per director equaled $229,899 in 2014.
According to the study, the mix of pay delivered to directors remained virtually unchanged in 2014. Equity awards accounted for 55 percent of total board cost, up from 54 percent in 2013. Cash compensation decreased as a percent of total board cost to 42 percent, from 44 percent in 2013. Change in pension values increased to 1 percent of total board cost, from 0 percent in 2013, and all other compensation remained equal to 2 percent of total board cost. The increase in pension values is attributable to changes in actuarial assumptions used to value these programs, rather than a shift in approach; pension programs for directors are no longer a part of most pay programs.
Among the 100 companies studied:
Revenues ranged from $1 billion to $183 billion
Median equals $2.9 billion
Median one-year revenue growth equaled 7 percent
Net income ranged from negative $53 million to $40 billion
Median equals $269 million
Median one-year net income growth equaled 11 percent
One-year total shareholder return grew 10 percent
Action Items for Director Consideration
The recent focus on director pay by shareholders and members of the corporate governance community has prompted a number of important changes in the way directors consider and implement director pay programs. First, consider director pay issues on an annual, rather than a biennial or triennial basis. Staying abreast of market movements with small annual adjustments is generally preferable to larger, sporadic jumps in pay. While the ways of delivering pay (cash and equity retainers, meeting fees, and additional retainers for committee service) may vary depending upon the company, directors should focus on total pay per director as well as the total cost of the board. In addition, companies should remain mindful of how pay compares to that of their direct competitors as well as companies in their peer group, as defined by proxy advisory services like ISS.
As it comes time for your company to conduct its annual review of director compensation, we recommend that you consider the following questions:
Is your director compensation program fair and competitive?
Does the program allow you to attract and retain high quality director candidates?
Is the program justifiable to shareholders?
Are modifications to your director compensation program appropriate and reflective of projected market increases and company growth?
How does your director pay mix compare to the pay mix at companies of similar size and/or industry?
Is your program’s structure aligned with the current best practice of delivering at least half of total value to directors in the form of equity? If your program’s equity awards are denominated in shares, does your company account for the total potential volatility in grant value?
To what degree does your company consider total board cost when making modifications to your director compensation program?
For a more detailed analysis on director compensation, look for Steven Hall & Partners’ annual Director Compensation Study due out later this year.