Silencing the Specialist on Corporate Boards or Management Teams

Imagine that you have hired a specialist on your management team, and they are, by far, the most qualified and knowledgeable team member on a particular topic.  Perhaps they know far more about cybersecurity than anyone else on the team, for instance.  What happens when generalists on the team comprise a majority and push for a particular decision about which the specialist disagrees strongly.  How do you handle this conflict?   How do you reconcile the views of the majority with the lone dissenting voice of the specialist?  

Randall Peterson of London Business School has written about this topic in the context of boards of directors.    He describes how specialists can be silenced on boards in many cases, and how that can lead to big trouble.   Here is an excerpt of an article Peterson wrote several months ago for Strategy & Business. In the article, he argues that boards often lack "open and frank discussion" and makes the case for a process of "qualified consensus" to protect against truly disastrous decisions.  Peterson explains: 

I have found consistently in my own research that majority-rule voting actually fails when the will of the majority is used to silence legitimate and specialist minority voices. What is right for the many ought to prevail, but not at the expense of the rights and specialist knowledge of a minority. This means that boards must understand the full implications of their two duties — care and loyalty — especially at a time when they are hiring more specialists. And it’s worth remembering that the sincere embrace of those two duties on the part of each director is key if majority rule is to function effectively.

So if, say, the digital specialist director in my example ends up voting against a cybersecurity-related decision she believes to be ill-advised, but a majority of her fellow board members vote for it, that director needs to consider whether her peers truly understand the risks. She needs to ask herself whether their decision is fully informed, and if not, she is obliged to raise this issue, rather than simply accept the vote. What follows in practice is that when a director believes that a particular decision is fundamentally wrong, whether for ethical reasons or because it violates regulations or because it represents a disastrous strategy, that individual director should be able to challenge boardroom colleagues. This does not mean that each board member must entirely agree with, and vote in favor of, every decision the board makes. But there is an important distinction between a decision that an individual judges to be suboptimal and a decision that the board member believes is totally wrong.

Boards should therefore operate on the principle of qualified consensus. By qualified consensus I mean a state in which a majority are in favor, and no one believes the decision is fundamentally wrong. Board chairs should be giving every member the opportunity to explain a dissenting point of view, to which the others listen and respond. You might think that this already happens as a matter of course. Yet I often hear about cases where the board literally hears the dissent, but does not recognize the distinction between a suboptimal decision and one that is seen as truly wrong. Giving a dissenting member the opportunity to speak up is just not on the board’s radar screen often enough… Unfortunately, open and frank discussion that arrives at consensual and informed decisions — and thus incorporates understanding of the point above — is too often lacking among boards. For example, in another global study of board directors by the London Business School, scheduled to be published in late 2018, 64 percent reported misunderstandings in the boardroom to be commonplace, and one-third reported the need to revisit decisions.

Source:  Harvard Business Review

While Peterson writes here about boards of directors, one might apply his thinking to the top management team and other senior teams as well.   These teams have to think carefully about how they handle the specialist who dissents.  How do you treat that person's voice, and do different types of dissent matter?  I personally like the distinction between an undesirable decision and one that is fundamentally wrong.   Teams at the top definitely need to think about how to build psychological safety, and how to handle dissenting voices once candor is encouraged.    

Boards of Directors: What Happens to Female Dissenters?

Source: Blue Diamond Gallery

Juan Ma and Ithai Stern of INSEAD have published a paper titled, "Gender's Impact on Directors' Career Trajectories."  They examined the disparate impact on men and women of an expression of dissenting views during board of director meetings.  They explain their results:

We find that directors, male and female, are significantly less likely to continue serving on the focal board after issuing a dissenting opinion.  All else equal, dissenters are more than twice as likely to be dismissed from the focal board compared to those who did not dissent.  We also find that female dissenters will be more likely than male dissenters to be knocked off the board due to the in-group/out-group bias: a female dissenter was almost four times more likely to be dismissed compared to her female colleague who did not dissent, while a male dissenter was only (less than) twice as likely to leave the board following a dissenting opinion.

They also found that female dissenters are more likely to be dismissed if there are other female directors on the board.  The scholars explain that result by arguing that the boards may feel that they can "afford losing the female dissenter, as they are no longer subject to the societal pressure to have (at least) one woman on the board."  

Source: Harvard Business Review

The findings are troubling, if not surprising, to many scholars who have examined corporate governance practices.  Many boards do not have constructive debates.   Dissenters are marginalized easily, and they are viewed as disruptive or unhelpful.  Female board members often bring an important, different perspective to board meetings, but it's hard for them to contribute if they are penalized so strongly for expressing dissent.  

Building a Healthy Board of Directors Culture

Several years ago, I served as an adviser for the Alliance for Advancing Nonprofit Healthcare as the organization produced a terrific report titled, "GREAT GOVERNANCE:  A PRACTICAL GUIDE FOR BUSY BOARD LEADERS AND EXECUTIVES OF NONPROFIT HEALTH CARE ORGANIZATIONS.  I think the recommendations in this report apply to any board of directors, not simply those operating in the nonprofit or healthcare space.  One aspect of the report focused on developing a healthy board culture.  I'm glad to have contributed to that portion especially, because it is such a challenging, yet important, aspect of effective governance.  Here's the excerpt on board culture:

Great boards intentionally focus their time on critical issues, dedicating a substantial portion to strategic thinking, in addressing critical issues, they find ways to create healthy tension, constructive debate and respectful disagreement in the boardroom so that diverse perspectives are brought to bear in the decision-making process. 

Key Action Steps: 

Agenda Planning. Taking into consideration the overall board schedule for the year, the board chair and CEO jointly set in advance the meeting agenda, dedicating a substantial portion to strategic issues or ideas. 

Agenda Construction. The agenda should be annotated with a clear description of the issue and purpose of each agenda item and/or required action. Time should be allocated proportionate to the importance of the matters to be discussed. Consequently, board meetings should begin with agenda items that require action at that particular meeting. The next significant block of time should be devoted to learning about and deliberating on critical strategic issues that are likely to require action in the intermediate-to-longer term, with the board chair prepared with specific questions to be addressed in order to focus those discussions. Routine presentations and reports should follow the action items and strategic deliberations, with as many as possible being handled via a “consent agenda.” As appropriate to the agenda, committee chairs should be given the opportunity to make presentations. The agenda should include an item at or near the end of each meeting for the identification and assignment of follow-up actions. 

Preparing to Make Major Decisions.The board should rarely, if ever, make decisions on highly significant issues the first time they appear on the agenda. Adequate time should be provided for discussion at one or more meetings, with the decision made at a subsequent meeting. As noted earlier, the necessary information should be provided in a timely manner in advance of discussion, and the board should consider having at least one “outside” member to help stimulate robust discussion on major issues. In addition, the board chair should use one or more of the following techniques to help stimulate effective discussion: 

• In advance of the meeting discussion, assigning alternative positions to two or more groups, requesting each group to make the best case for its position (irrespective of members’ personal views)
• Appointing “devil’s advocates,” on a rotating basis
• Encouraging all board members during the meeting to express and debate their diverse opinions and even, on occasion, to register minority votes 

Oversight of Committee Work. Where committees are needed, the board should establish charters spelling out their charges, which should relate to the organization’s strategic priorities approved by the board. In addition, the board should challenge committee recommendations wherever appropriate and require periodic assessments of such committees, by their members and by the full board.

Better Governance: Redesigning Board Meetings at Netflix

David Larcker and Brian Tayan have written an article about Netflix redesigned management's relationship with the Board of Directors, while also rethinking how board meetings should be conducted. They describe how Netflix built a more transparent relationship with the board, while helping the directors gain a better understanding of the business and the management team. Larcker and Tayan explain:

Netflix takes a radically different approach. It incorporates two unique practices. First, board members periodically attend (in an observing capacity only) monthly and quarterly senior management meetings. What’s more, communication with the board comes in the form of a short, online memo that allows directors to ask questions and comment within the document. Executives can amend the text and answer questions in what is essentially a living document. We believe these two innovations meaningfully contributed to Netflix’s extraordinary performance in recent years.

I find the memos be particularly interesting as a means of preparing directors for a fruitful discussion at the board meeting itself.   The roughly 30-page online memos provide links to supporting analysis and to the Netflix systems, so that directors can examine raw data behind the conclusions.  Directors can post questions and comments on this memo before the meeting.  Fellow directors, as well as the executive team, can review these questions prior to the board gathering.  The board meetings themselves become a dialogue, rather than a series of canned presentations filled with tons of powerpoint slides.  

This format provides for a much more productive board meeting.  In my view, management and board meetings should always involve a healthy dose of preparation.   The meetings themselves should be about dialogue, not documents.  The written materials should be distributed and reviewed prior to the in-person meeting.   Insuring equal access to information means that people can come to the table prepared to discuss a topic and not disadvantaged because some in the room have seen the data while they have not.   

What's stopping many boards from adopting these types of practices?  Of course, you know the answer.  It takes a chief executive who is very secure and confident in their abilities, and one who is willing to listen to tough questions and dissenting views.  Moreover, it takes a committed board with members who are prepared to put in the work prior to the meetings.  

Scarcity of CEO Talent? Are Board Members Right?

Joann Lublin of the Wall Street Journal reports today on directors' beliefs about the CEO talent pool. She writes:

The pool of executives qualified to take over the top job at the biggest U.S. companies is incredibly shallow, especially in the technology industry, a recent survey of directors finds. On average, directors of Fortune 250 companies estimate that fewer than four people inside and outside their company have the management expertise and industry-specific knowledge to step into the CEO role and run it as well as its current leader, according to a Stanford University survey of 113 such directors. Board members also say an average of six executives could perform at the same level as the head of their largest rival. 

I found these results interesting. It certainly explains why CEOs receive very high compensation packages. The question, however, is whether directors are right. Apparently, the conventional wisdom is that the talent pool is very shallow. Do directors have concrete evidence to support this belief? What if they are wrong? What would that mean for corporate leadership, governance, and compensation? I haven't seen any concrete, valid research that supports the conventional wisdom here. I'm not saying they are absolutely wrong; I would just like to see proof.

Pressure for Directors to Sit on Fewer Boards

The Wall Street Journal's Sarah Krouse and Joann S. Lublin report today that several major institutional investors have been pressuring companies to reduce the number of directors that simultaneously sit on a number of other boards of directors.  The writers report that, "The number of directors on five or more corporate boards has declined in recent years."   Why the pressure?  Investors argue that these directors cannot possibly provide adequate attention to their monitoring and oversight duties at a company if they sit on many other boards at the same time.  That makes good sense to me.   In fact, a study by research firm Equilar "suggests that leaders with multiple outside corporate board seats and their employers make more money, but their shareholders see lower returns than those with one or zero outside directorships."   Still, more than 60 directors of firms on the S&P 500 serve on five or more boards of directors at this time.   That should change.  Shareholders and other constituents deserve directors who are not only highly capable, but also who have the proper amount of time to devote to understanding a firm and its industry and engaging in effective oversight and control.  

The Dark Side of Board of Director Mentoring Relationships

Joann Lublin wrote a Wall Street Journal article this week titled, "Boards Try Buddy System to Get Newcomers Up to Speed."   Lublin describes how some boards have assigned mentors to new directors, so that experienced board members can help newcomers assimilate to the culture of the group.   Lublin offers the example of Carol Martz mentoring new director Amy Chang at Cisco Systems.  She explains, 

More boards are pairing new members like Ms. Chang with seasoned mentors like Ms. Bartz as they scramble to improve their oversight of management in the face of intensified investor scrutiny. Board buddies can help newcomers figure out the boardroom’s cultural norms, power brokers—and even the right place to sit.  Mentors make sure “you don’t come in as a bull in a china shop,” observes Steven R. Walker, managing director of the board services group at the National Association of Corporate Directors.

I certainly understand the importance of helping new directors learn the ropes when joining a board.  These mentoring relationships certainly appear to have a good intent.  However, I do have some worries about such systems.  What if the mentors provide the wrong message?  What if they encourage newcomers to refrain from challenging the status quo, expressing dissent, or asking the tough questions.  In the article, Martz acutally encourages Chang not to apologize for asking a challenging question.  However, some directors might provide very different advice.  They might promote norms that include conflict avoidance and deference to management.   Long-time directors might protect the harmony of the group, and in doing, send a signal that speaking up is not welcome.  Rocking the boat might not be the right strategy during your first board meeting. However, discouraging people from ever rocking the boat might also be a very dysfunctional dimension of some of these mentoring conversations.  

Simulating an Activist Investor

As I read the lengthy Wall Street Journal article about how Mondelez CEO Irene Rosenfeld has coped with two major activist investors, I was reminded of some thoughts I heard from a CEO recently.  When I gave a leadership talk recently to a group of executives in Chicago, I had the opportunity to listen to a Fortune 500 CEO address the group before I spoke.  He offered a terrific piece of advice for these executives.   One person asked him whether his firm had dealt with any activist investors pushing for strategic and financial changes.   The CEO responded that he had not faced that issue.  However, he described how his management team asked itself a simple question each quarter:  If an activist investor took a substantial stake in our firm, what changes would they advocate?  The team then discussed that question at length each quarter, and it determined which changes might actually make sense for the firm.  Then it made those alterations to the organization's strategy in a proactive manner.  The CEO felt that this proactive approach had helped the firm avoid a confrontation with an activist investor.   I think the technique sounds like a very effective way to not only avoid a battle with an outside investor, but it helps executives take a fresh look at their strategy.  It asks the executives to put themselves in the shoes of an outsider and to consider how someone external to the team would view the strategy. That is a very worthwhile exercise for all management teams.  

Are Smaller Boards More Effective?

The Wall Street Journal reported last week on a new study conducted by GMI Ratings for the newspaper.  The study examined boards of directions, and it took a look at the link between board size and performance.  Here is a summary of the findings:

Among companies with a market capitalization of at least $10 billion, typically those with the smallest boards produced substantially better shareholder returns over a three-year period between the spring of 2011 and 2014 when compared with companies with the biggest boards, the GMI analysis of nearly 400 companies showed.  Companies with small boards outperformed their peers by 8.5 percentage points, while those with large boards underperformed peers by 10.85 percentage points. The smallest board averaged 9.5 members, compared with 14 for the biggest. The average size was 11.2 directors for all companies studied, GMI said.

What are the advantages of smaller boards? Why might they perform more effectively? Here are a few potential reasons cited in the Wall Street Journal article:

• Decisions can be made more quickly with a smaller team. It can be more nimble.
• Each person is more likely to be fully committed, prepared, and engaged. There's less likelihood of free riders on a small board.
• People are more likely to be candid in a more intimate atmosphere than on a large board.
• A small board can dig into an issue in much more depth. On a large board, you may have a tendency to deal superficially with issues rather than really "getting your hands dirty."

I would add one other reason. We already know that teams tend to focus their discussion on information commonly held by all participants, and they don't spend enough time on information held privately by one or a few members. That challenge becomes even more pronounced as a team becomes larger. Therefore, a smaller board benefits from a higher likelihood that information and expertise from all members will be shared and discussed.

When Should Corporate Governance Become More Vigilant?

Dalida Kadyrzhanova and Matthew Rhodes-Kropf have written a new working paper that I found intriguing.  They examined how corporate governance changes as firms enter periods of high performance, even perhaps periods of equity over-valuation (they use some interesting measures to examine potential over-valuation of equity).  They found that, "Firm performance seems most impacted by governance when firm and industry deviations are high."  

The scholars argue that, during periods of equity over-valuation, executives are most likely to pursue investments and other decisions that may maximize personal utility at the expense of shareholders.  They do so because they essentially have some slack - plenty of resources at their disposal, and presumably some credibility with investors given the high performance.  During these times, then, corporate governance should become more vigilant so as to protect shareholders from "misbehavior" by executives.  The paper has important implications for boards of directors.  We typically think that the board role is most important during a crisis, when performance is poor.   That is probably correct. However, this paper reminds us that the board also has to be careful during periods of abundance.  That may be the time when the seeds of future crises are planted, as managers make flawed decisions - putting excess cash flow to work in ways that are not in the best interests of shareholders.  

Biased Samples Hike Executive Compensation

When company boards of directors set executive compensation, they often benchmark against peers to determine the appropriate pay levels.  Unfortunately, as this Business Week article by Zachary R. Mider and Jeff Green indicates, many firms choose "peers" that are much larger than them.  Bigger firms tend to pay their executives higher salaries.  Thus, choosing to benchmark against bigger companies creates heftier pay packages.  For instance, the authors report that:

Setting the CEO’s salary is one of the most important duties of a public company’s board. So CBS (CBS) directors decided to give Chief Executive Officer Leslie Moonves a $69.9 million pay package last year only after assessing the competitive market for senior executive talent. The board of directors, however, looked at companies that are, on average, more than twice as large as CBS and included many in businesses far afield from media.

CBS is not alone though. The practice appears pervasive in publicly held corporations.   According to the authors, four of five academic studies that they found on this subject demonstrated evidence of bias in the selection of peer groups by boards of directors.   Why do directors build these clearly biased peer groups?  They want to stay in the good graces of the CEO, and they are often executives themselves... and would like similar treatment when their compensation packages are set.

Facebook and Instagram: Where was the Board?

The Wall Street Journal reports today that the Facebook Board of Directors was not involved until very late in the process with regard to the Instagram acquisition.  According to the article, "By the time Facebook's board was brought in, the deal was all but done. The board, according to one person familiar with the matter, 'Was told, not consulted.'"  Later in the article, it describes an amazing meeting that took place at Zuckerberg's home:

At around 6 p.m. that evening, Facebook board member Marc Andreessen showed up at Mr. Zuckerberg's house for a regular meeting. What he didn't know was that Mr. Systrom was in another room, getting his own board to sign off, people familiar with the matter said. Mr. Andreessen, whose venture-capital firm was the second to invest in Instagram, cutting a $250,000 check before the service launched, was surprised when Mr. Systrom walked into the room about an hour into his meeting with Mr. Zuckerberg, the people said.

You can imagine the reaction of corporate governance experts!    Most people have pointed to the fact that the Board and Mr. Zuckerberg will have to interact much differently when Facebook becomes public.  If not, minority shareholders will be quite concerned.  It's interesting, of course, because agency theory says that we ought to like it when CEOs own lots of shares of a company. In those cases, according to theory, there's less divergence of interests between shareholders and executives as opposed to publicly traded companies in which top executives own a tiny ownership stake.  The theory says that we like it when CEOs are playing with their own money, not other people's money.   While I generally agree with that theory, there are limits to the applicability in the real world.   In particular, the interests of minority shareholders need to be considered, particularly when a founder is CEO.   Good governance processes matter, even if we assume that the CEO generally is trying to do right by all shareholders.  Moreover, founder/CEOs rightfully should get held to a different standard when a company goes public.  

Corporate Governance and a CEO Search at Avon

Avon recently announced that CEO Andrea Jung would be stepping down, but remaining at the firm as Executive Chairman.  The firm announced that a search for a new CEO would commence immediately.  Today the Wall Street Journal reports that two former Avon CEOs (including Jung's mentor and predecessor) have criticized the decision to have Jung remain as Executive Chairman for at least two years.  According to the Wall Street Journal,

Former Avon CEO James Preston, once one of Ms. Jung's closest mentors, took the unusual step of writing a letter to the board two days after the shake-up. He criticized Ms. Jung's leadership, stressed that departing CEOs should step aside and called on the board to replace her with someone with deep experience in the direct-selling world. "I have long held the belief that once a CEO leaves that position, he or she should make a 'clean break' and not question or second-guess the actions of his successor," wrote Mr. Preston, who ran Avon from 1989 to 1998, in the letter, dated Dec. 15, that was reviewed by The Wall Street Journal. "I have held true to that belief, even though in recent years I have become increasingly concerned—and saddened—by the declining fortunes of the company."

I found the Avon decision puzzling as well.   I wonder whether the decision will make it very difficult for Avon to find a top quality CEO.  What executive would want to take the job, knowing that the former CEO would be looking over their shoulder for the next two years?  It's particularly problematic, given that Avon has struggled lately.  Big changes will have to be made.  Will Jung prevent some of that change from occurring as fast as it should?  

The Board now has a major problem.  The fact that Preston's letter has become public puts pressure on the directors to clarify and justify their rationale for keeping Jung as executive chairman for two years.  They cannot ignore this issue.  They'll have to address it, or they jeopardize their ability to find a high quality CEO.  Moreover, a lack of response will raise more questions about the efficacy of corporate governance at the firm.  That could hurt the share price, as investors may be leery of investing in the company if they perceive governance to be weak.