Communicating the board’s skills, experience and qualifications is more important than ever
Greater emphasis has been placed on the makeup of corporate boards recently as a way to increase director accountability, improve company performance and strengthen overall corporate governance. As a practical matter, corporations often review the skills and experience of board members in the context of risk management, making sure the board comprises members with important experience and skills that are vital to the future growth of the company.
Even more recently, the skills, experience and qualifications of directors have come under scrutiny by activist investors seeking a change in board representation that could force a sale, merger or other strategic business decision, or give the activists minority representation on the board. To head off such challenges, it is recommended that companies use their proxy statements to communicate to shareholders that they are doing an effective job of assessing director skills, so the board is well prepared to help execute corporate strategic objectives.
Companies have had to disclose information on their directors’ skills, experience and qualifications since the SEC amended the director and officer biographical disclosure rules (Item 201 of Regulation S-K) in 2010. In a press release at the time, the SEC said the new rules would require ‘new disclosure of the qualifications of directors and nominees for director, and the reasons why that person should serve as a director of the company at the time at which the relevant filing is made with the commission; the same information would be required in the proxy materials prepared with respect to nominees for directors nominated by others.’
Transparency and results
Because companies must disclose information about their directors’ skills and experience, it is critical that this is done in an upfront manner and that it gives the best possible impression of the company’s ability and efforts to choose competent leadership.
‘Investors and shareholders are looking for more and more transparency, and they want directors who have real input on the board. Consequently, it becomes more important for a company to communicate [those directors’] effectiveness,’ says Clint Williams, a director at Labrador. With most boards carrying out periodic evaluations of their members and the full board, he adds, ‘it’s valuable for the company to communicate in its proxy statement the results of that evaluation and to give some indication about the methodology of how the board arrived at those assessments.’
But much of the specific results of a full board evaluation or assessment of the effectiveness of one director over another is considered confidential and should not be included in the proxy statement disclosures. Releasing such confidential information could act as a deterrent to board service and, in some cases, potentially damage the company’s ability to do business. For example, Williams explains, revealing that an evaluation of the board which led to the decision to nominate a new board member with skills and experience in a business the company intends to develop could tip off competitors, thereby endangering the success of that strategic decision. ‘Transparency is very important, but it shouldn’t jeopardize the company in any way,’ he says.
Williams and other experts say companies can easily use the proxy statement to document that the board conducts regular evaluations of how the board is composed, how it operates, the rules for selecting its members, and what it has done effectively within the last year.
‘Most investors would be satisfied with knowing that there is indeed a regular and organized process of board self-evaluation, or evaluation facilitated by the chairman of the board, the lead independent director or an independent consultant,’ points out Ron Schneider, director of corporate governance services at RR Donnelley Global Capital Markets. ‘I don’t think they want to get into the specifics.’
Connecting the board to corporate strategy
Writing effective disclosure starts with determining what shareholders want to know about the company they are investing in. Rhonda Brauer, senior managing director at Georgeson, advises companies to take a step back and explain what the company does so there is some context to what the directors need to do to help the company succeed.
‘An explanation of what the company does, along with some description of the business and strategy, is useful to have in the proxy statement so investors know you have the best board at this moment in time,’ she says.
Brauer also notes that because companies must explain why their board is effective every single year, a case must be made that the current board members’ skills and experience have adapted to any relevant changes to the business, and that these individuals can provide expertise the company anticipates needing in the future. ‘So, if this year the company expands and goes into a new geographical area or develops a new product line, that’s a change,’ she explains. ‘Do you have a director who can ask the right questions of management and then roll up his or her sleeves and help out with something the company might need to do?’
Experts agree there is no single best way to communicate board members’ skills, experience and effectiveness because every company has a different board whose directors have individual stories to tell. In general terms, however, companies will use the director’s bio to highlight relevant skills and experience, and then include an explanation of why that person is qualified for the board.
When it comes to communicating effectiveness, in the discussion of each board committee, an explanation of the duties and functions of each committee will often further clarify the kinds of skills required to be effective. While this may seem simple, the challenge for most companies is providing this information in a format that is easy to read and understand and does not involve endless blocks of text.
‘It’s all about the reader experience,’ says Ron Warren, a senior adviser with Labrador. ‘The more appealing you make the information and how it’s presented, the more compelling it will be to shareholders, as well as easier for them to comprehend and act on.’
Warren suggests companies highlight experience by creating a separate paragraph or callout box section in the bio, clearly labeled ‘Skills and qualifications’.
‘I think we’re seeing more and more companies starting to do this,’ he says. ‘This way they can tie experience back to the business: how effective the directors are based on their background, knowledge and expertise.’ Companies should expect that there will always be investors who want to focus on the directors’ skills and qualifications, so they need to break this information out for those investors in a way that is easy to find. ‘At a minimum, make it a separate paragraph under that director nominee,’ says Schneider. ‘Some companies are even using design elements like shading behind the skills and qualifications to draw
the eye to it and make it easier to locate.’
Enter the matrix
To capture the overall strength of the board, Schneider suggests using a director’s skills matrix – an at-a-glance snapshot of skills, and which directors have them. This illustrates very quickly whether the board comprises the right people with the right backgrounds, experience and skills for the industry and for the particular company at its current stage of growth. ‘We’re seeing more companies adding this, but it is still a minority of companies that put it in their proxy,’ Schneider says.
Brauer also likes the idea of including a skills matrix because you can easily see what type of industry or management expertise a director has that might be useful. She cautions, however, that if they choose to use a matrix, companies should be very careful which ‘experience’ categories they select. Selecting too few categories or categories with very basic names could be a mistake.
‘Every board member might have financial experience, but not everyone will have international experience or operating experience or experience as a chief executive,’ she says, citing Prudential’s proxy statement as providing a good example of a skills matrix. ‘I like filling out the categories a little more – seeing how far they can be broken down. There are many talented directors, but if you’re going to get in a proxy fight, I think you need to drill down a little bit further [on their experience] to show you’ve got a good mix on your board.’
Remembering details
Skills and experience are critical, but Williams says companies shouldn’t forget to add other relevant details about directors’ diversity, including their age, gender, nationality, education and international experience. Everything should be written in plain English so that it is easily understood. Providing information about the independence of each director is also essential, and ‘it’s really important that the company give a precise definition of what its criteria for independence is,’ Williams adds.
Another detail he strongly suggests including somewhere in the proxy statement is the way in which the variety of experience and skills assembled across the board produces an overall benefit. ‘Obviously, every board member doesn’t have the same level of expertise, so how do those various skill sets work together?’ he asks.
Ultimately, companies will have to make hard decisions about what to disclose in the proxy statement when potential transitions on the board are imminent. For example, if a company knows it will be replacing board members because it has rules limiting years of board service, should the company announce that the new board members it will seek will be younger versions of those who will be leaving, or instead say the new directors will fill an emerging need the company believes it will have in the future? Those are internal decisions each company will have to make individually.
‘Some companies are confident their current board has the right composition and skill sets for their needs,’ Schneider says. ‘Others looking forward are probably planning some strategic additions to the board, perhaps coinciding with some directors retiring from the board. And others might feel they’ll have a better board story in a year or two and don’t want to go into as much detail until they can get the right board members in place.’
