Appointment of a Non-Executive Director to the board of
Small and Medium sized Enterprises (SMEs)
by: Iain Greenwood
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Summary:
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The use and benefit of Non-Executive (Non-Exec) directors on unlisted company boards is one of the more contentious issues that directors of SMEs consider.
This article will aim to assist SMEs in considering the right time and how to appoint Non-Executives to the board, the role of the Non-Executive and the benefits Non-Executives can bring to the company.
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Appointment of a Non-Executive Director to the board of Small and Medium sized Enterprises (SMEs)
Introduction
The use and benefit of Non-Executive (Non-Exec) directors on unlisted company boards is one of the more contentious issues that directors of SMEs consider.
Often the first time that they hear it raised is if Venture Capital (VC) funding is being sought to expand the business, as it is part of most VC’s procedures to place a Non-Executive on the board to protect their investment. This in itself leads to a misunderstanding and a greying of a Non-Executives role in a company. Not only can it create a situation where the Non-Executive has two masters but also at the most extreme leads to conflict within the board and possible breaches of company law.
This article will aim to assist SMEs in considering the right time and how to appoint Non-Executives to the board, the role of the Non-Executive and the benefits Non-Executives can bring to the company.
When is a right time to appoint a Non-Executive?
This is a difficult question to answer, however it should not be a decision made as part of the process of gaining Venture Capital. The decision on when a Non-Executive director should be appointed needs to be based on a fully thought out strategy relating to the expansion and development of the company overall. All Executive directors should be in agreement that not only a Non-Executive director is required but also the timing of the appointment.
Part of this decision making process should consider the following areas:
· Is the company expanding its business into new markets or products?
· Do the Executive directors have contacts in all the key company markets?
· Is the company expanding its employee base?
· Are the employees provided with any share based savings schemes or pension plans?
· Is the company considering gaining significant new or increased funding?
· Are the Executive directors on occasions unsure when to seek outside advice
or
· Are the Executive directors increasingly using the services of consultants or mentors to assist in strategic advice?
The items above are just some of the strategic issues that start to point to the possible benefits of appointing a Non-Executive director to the board.
So why is it that a Non-Executive would be more benefit than just using external consultants or using the current internal resources of the company to expand and develop the strategic business. This really comes down to what are the benefits and the role and of a Non-Executive director.
What benefits does a Non-Executive director bring and what is their role
A Non-Exec should bring skills to the board, which expand and compliment the existing senior staff’s strengths. Some of the specific skills or attributes you should be looking for in a prospective Non-Exec include:
· Strategic thinker
· Influencer
· Balanced
· Impartial
· Diplomatic
· Advisor
· Capable of taking tough decisions
· Heavily networked
. Understanding of your companies business
· Knowledge of Combined Code (even though it may not currently be directly applicable to your business)
but not
· An executive director ‘in the wings’ as this is not the role for that type of person.
As a company you will also need to define the role you want this Non-Exec to carry out as part of your company structure. This is not as daunting as it might seem, as much of this is already set down in Company Law. There also is considerable guidance available from organisations such as the Institute of Directors.
One of the most important points to note is that all directors, whether executive or non-executive, have a core set of legal responsibilities that they must carry out.
A Key issue for both the company and Non-Exec to take particular note of is the requirement to act in the best interests of the company and to meet legitimate interests of the shareholders and other interested parties.
This issue is often one that creates a dichotomy for a Non-Exec who has been suggested by a Venture Capital firm for appointment by the company to the board. His first responsibility is to the company board that he sits on, not to the Venture Capital company that have suggested him. In weighing up items that come before the board it is his responsibility to consider the impact on the company and its operations before he considers the impact on the Venture Capitalists investment and proposed exit strategy.
It is therefore very important that the Non-Exec suggested by the Venture Capital company is completely aware of the legal implications of his role both as a company director and also as the representative of the Venture Capital company. One of the ways that companies can give themselves some comfort in this regard is to insist that any Non-Exec proposed by a Venture Capitalist has attended a non Venture Capitalist company course on the responsibilities of a Non-Exec. This is becoming increasingly important following the issues raised after the particular problems at a number of large American companies.
One of the best providers of this type of course is the Institute of Directors who have a full days course focused on the Role of the Non-Executive Director. Whilst some might consider this to be over kill, it is worth considering the fact that a Non-Exec’s role has to include impartiality, this key word needs to be considered particularly by Venture Capital Non-Execs.
By highlighting the issues above it is hoped that it can be seen that it is in everyone’s best interests to define the reasons and roles of any appointment of a Non-Exec before the involvement of a VC. It not only protects the company, but also sends a very clear message to the Venture Capitalists that you are serious about making the company a successful business. This is of course in the best interests of all parties.
How do you go about appointing a Non-Exec to the board?
Having considered whether the timing is right to appoint a Non-Exec and drawn up the criteria for the role, it is also useful to consider the current board’s strengths and weaknesses. Once these have been highlighted it is worthwhile using this list to assist in developing the final person specification for the type of Non-Exec you are looking for from the marketplace.
It needs to be understood by the company seeking the Non-Exec that it is a two way appointment process. You will want to consider whether the Non-Exec has the right strengths and abilities for your board and he will want to know that in taking on a legally defined role he is comfortable with the companies plans and structures.
This means that a properly prepared briefing document on who the company is, how it operates and what are its future plans, sends a strong and clear message to any prospective Non-Exec. This document should also indicate the estimated number of days required to carry out the role, level of remuneration for the role and the length of appointment.
A good Non-Exec should be prepared to provide a minimum of 15 days a year input into your business as well as an understanding that in certain circumstances this could rise considerably. Of course, this needs to be reflected in the remuneration, which if less than £10,000 per annum is unlikely to attract the right candidate.
There is currently a lot of discussion relating to whether remuneration should only be in the form of a salary or include share options. One thing that needs to be remembered in relation to SMEs is that the Non-Execs through their networks are likely to be assisting in the company’s growth. If a company only offers a salary then the Non-Exec no matter how many days he puts in past the 15 a year will only be paid the agreed salary. However, if there are share options attached this will give the Non-Exec a greater pay back for the work they put in.
Of particular note here is that the Non-Exec that you appoint before you potentially go for a stock market listing may not be one that the company’s advisors consider attractive to investors at the time of listing. This need not overly concern you as once the company has grown capable of gaining a stock market listing it has moved into a new phase in its development and this can sometimes mean the need to appoint more Non-Execs or change your existing one.
Increasingly additional consultancy provided by a Non-Exec as part of a separate agreement is being frowned upon and therefore this also needs to be taken into consideration when setting the remuneration.
After preparing and defining all the above items you as a company will need to consider where you find the right candidate to take on the role.
There has been increased discussion about whether Non-Execs should be sourced through agencies, contacts or targeted advertising. This is where the difference between a SME and a listed company starts to highlight itself.
Firstly, with a listed company Independence of Non-Execs is a key issue for institutional shareholders, however with SMEs often the reasons are far more focused on an advisory and balanced networking role.
Secondly, often many highly qualified senior staff are not considered by the agencies for Non-Exec roles and therefore an SME is cutting down the potential talent pool by focusing on the agency route only.
Thirdly, as a company starts to expand most SMEs are wary of too much outside involvement, as they fear this may lead to confidential information ending up with competitors. Therefore SMEs who do appoint Non-Execs often turn to people they know to consider a possible role.
Accepting the three issues above, there is nothing wrong in targeting potential candidates from one or all of the recruitment methods as long as the board as a whole agree the way forward, criteria and subsequently the candidate offered the role.
Once you have selected the potential candidates to interview remember they will be interviewing you as well. Do not be too surprised if they have carried out some due diligence on your company and this leads to a number of questions being asked. In fact if they have not looked into your company, your marketplace and asked a number of investigative questions, maybe they are not the right type of person to be a Non-Exec!
After you have made your selection and decided whom you want to appoint you will need to deal with the issues of remuneration and final contracting this is likely to be a negotiation process in the same way as appointing an executive director.
Conclusion
It is important for SMEs to consider as part of their long-term strategic plans the benefits of appointing a Non-Executive director to the board. This should not just be an adjunct to an agreement with a Venture Capital company, but needs to be defined and structured before you approach them.
A good Non-Exec director can assist the executive directors in running a thriving and compliant business and therefore the recruitment should not be taken lightly.
If you require further information please contact Iain Greenwood on either 01622 765454 or igreenwood@fwdmgmt.com
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Author Details:
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Iain Greenwood
Managing Director
Forward Management & Consulting Limited
igreenwood@fwdmgmt.com
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