In October 2008, the National Association of Corporate Directors (NACD) launched the Key Agreed Principles to Strengthen Corporate Governance for U.S. Publicly Traded Companies with the support of both business and shareholder organizations. Subsequently, NACD developed a white paper series on four areas that warranted more specific attention at the practice level, particularly in this environment: development of strategy, oversight of risk, approval of executive compensation, and transparency. This excerpt of the NACD White Paper on Corporate Strategy is based on input from hundreds of corporate directors in forums around the country, as well as an NACD Blue Ribbon Commission. It is a catalyst for thoughtful, deliberate debate in the boardroom and is presented within the context of the Principles.
A core responsibility of the board is to engage with management in the development of an effective corporate strategy. After all, corporations are managed “under the direction” of boards, according to most state corporate laws—and therefore the board is ultimately accountable for the quality of the company’s management, including any strategic plans made and pursued by management.
As fiduciaries, directors have a duty to protect the corporation against threats to its long-term viability. To be sure, the level of direction provided by a board varies from company to company. Directors can be strategic assets to the corporation in a number of ways: by serving as a sounding board for management; providing performance-enhancing ideas; and offering constructive skepticism. Most importantly, the board can be a source of strategically relevant competencies.
As boards anticipate regulations to come from the new presidential administration, focus on the more intangible aspects of governance, such as strategy, will likely be redirected toward concrete compliance-oriented tasks. In surveys conducted for more than 15 years, NACD has found that director interest in strategy rises and falls in negative correlation to regulatory change affecting boardrooms. Following any period of regulatory reform, interest in strategy tends to wane while interest in compliance rises.
Directors should stay focused on strategy. Principle VII of NACD’s Key Agreed Principles provides the necessary guidance to create governance structures that enhance a board’s ability to maintain this focus. Sustaining and enhancing the value of a company through a well-conceived plan is vitally important. Even the best leaders can fail if they are fulfilling a bad or poorly implemented plan. Boards can veto poor strategic choices and make sure that management’s plans, well implemented, enable the organization to fulfill its highest potential for the benefit of all.
Current Guidance
Existing guidance on the board’s engagement in strategy has been issued by commissions of directors and governance experts, notably in the Report of the NACD Blue Ribbon Commission on the Role of the Board in Corporate Strategy (issued in 2000 and updated in 2006). We’ll review this universal guidance for engagement and then identify new challenges that boards must address quickly in the current environment.
The nature and extent of the board’s involvement in strategy will depend on the particular circumstances of the company and the industry in which it is operating. While the board can—and in some cases should—use a committee of the board or an advisory board to analyze specific aspects of a proposed strategy, the full board should be engaged in the evolution of the strategy.
The board should be a strategic asset—directors should individually and collectively seek to go beyond mere compliance and add value to the corporation. In general, directors can be effectively engaged in strategy by:
- Providing advice, counsel, and perspective;
- Challenging the underlying assumptions of management;
- Establishing high, realistic standards;
- Identifying additional opportunities and risks associated with the strategies under discussion;
- and Supporting the CEO during challenging periods of strategic implementation.
Corporate strategy is an ongoing process requiring oversight. Management brings vision while boards bring perspective. Management chooses a direction while the board, based on members’ diverse viewpoints, asks: Why? How? What if? As such, boards should be constructively engaged with management on an ongoing basis to support the appropriate development, execution, and modification of the company’s strategy.
Development
To take full advantage of their respective strengths, management and the board can jointly establish the process that the company will use to develop its strategy, including an understanding of the roles of both management and the board.
There is not always a “bright line” between management’s role and the board’s role, and involvement may vary. The role of management, ideally, is to engage the board in the strategic discussion and ultimately obtain board approval. The role of the board is to evaluate the strategy and challenge underlying assumptions. The board can serve best by providing strategic thinking and enhancement, rather than suggesting specific tactics. It is important to bear in mind these distinct roles so that the board does not usurp management’s role or fail to fulfill its own.
Companies can benefit from establishing clear yet flexible procedures whereby management and the board can exchange ideas through constructive interaction. This will help management develop a sound strategy, and help the board ensure the use of appropriate measurement criteria and benchmarks. It will also ensure that both management and the board fully understand and support the long-term direction the company will take. This “team-oriented” or cooperative approach can also foster a higherquality dialogue between management and the board, and enable management to make use of the expertise and experience of board members.
Evaluation and Monitoring
Once a strategy is approved, the role of the board is to provide ongoing evaluation of the strategy by monitoring implementation and encouraging changes, as events require. Therefore, to participate effectively in the strategic process, directors must thoroughly understand the assumptions and analysis upon which the strategy is based. Management should regularly update the board on the implementation and execution of the strategy. Directors should be prepared to ask incisive questions—anticipating, rather than reacting to, issues of major concern.
The board should ensure that management demonstrates commitment to the strategy, allocates adequate resources to its fulfillment, has a professional and financial stake in its execution, and adequately reports on its progress. The board should additionally monitor execution of the strategy against milestones. On an ongoing basis, the board must be willing and able to recognize whether or not the company has a winning strategy—and, if it does not, must be ready to urge corrective actions. The board should ensure that management makes modifications to the strategy as necessary.
Linking Strategy and Leadership
There is a strong tie between leadership ability and corporate performance. The board must ensure that the CEO has a clear understanding of the corporation’s strategic vision and has concrete ideas on how to implement that vision.
Moreover, the board needs to understand that leadership competencies are not all the same and industry dynamics are constantly changing. The strategic skills that senior managers possess must align with the future strategic challenges they will face. The board should establish achievable executive compensation objectives that reflect the company’s strategy, and define and communicate clear metrics and criteria for CEO evaluation that are tied to long-term strategic goals.
Future Challenges
Directors will always be challenged with finding a winning combination of strategy and risk for their companies. As boards grapple with the current complexities of strategy, the NACD believes the following issues will confront them.
Information is essential but it must be actionable. In strategic planning, the right information can help an organization successfully navigate its way through the marketplace. Directors are generally satisfied with the reliability of information contained in reports they receive from management, but the presentation of that information is often difficult to digest. Management’s main job is to bring the right information to the table. Directors, on the other hand, must then help management determine how the company will act in response to the information over the short, medium, and long term.
Greater Board Engagement
Typically, management develops a strategy with input from the board. In fact, according to the NACD Survey, slightly more than half of companies follow this model, while about 16 percent of boards work collaboratively with management in developing the strategy. Boards and management should consider earlier and greater collaboration when creating, refining, or (in rare cases) overhauling a strategy.
Directors must increase dialogue with management by asking the questions they want answered, rather than receiving information management wants to provide. Finding the right questions to challenge management’s conclusions is a director’s most difficult yet most valuable responsibility. As such, directors can ask management to limit their use of presentations in the boardroom and request unscripted time with the CEO for a free exchange of ideas.
Aligning Board Composition with Strategy
Companies have always tried to recruit accomplished professionals to sit on their boards, but sometimes directors’ backgrounds bore little connection to the company’s strategy. Today, enlightened boards are seeking directors with particular skill sets and expertise to complement their strategic goals. All boards can benefit from continually reviewing and evaluating the board’s size and membership mix to ensure a close fit with the strategic direction of the company.
Directors can develop a matrix of skills and expertise that the board requires in order to identify the leadership needs of the corporation, work with leaders to develop an appropriate strategy, and offer needed perspectives and advice in key areas. For example, a company looking to expand into international markets would seek directors who have business experience in those markets to ensure that the board can appropriately oversee the strategic plans and underlying risks of those plans.
Aligning Goals
The problem of short-termism has been well-established by a variety of studies and commissions, including, most recently, the Aspen Principles (Long-Term Value Creation: Guiding Principles for Corporations and Investors). The Aspen Principles, supported by the NACD, state that companies and investors should recognize that firms have multiple constituencies and many types of investors, and they should seek to balance these interests in accordance with their influence on the corporation’s long-term success.
Generally, companies should not seek short-term profit at the cost of long-term value. To avoid this, boards can develop forward-looking strategic metrics of corporate health. At the same time, boards can emphasize the need to achieve long-term goals while retaining benchmark reviews for the shortand medium-term goals as well.
Conclusion
Corporate performance depends upon corporate strategy. The board’s role in overseeing strategy is crucial. While a number of best practices have emerged, defining appropriate strategic engagement is still among the biggest challenges for boards. Improvement of corporate performance will require board members to become more actively engaged in the process of strategy creation. Directors must begin by requesting both time and information from management.
Boards must request unscripted time with management to probe the assertions and direction of the strategic plan. To foster this dialogue, boards need relevant and concise information—a current snapshot of performance. Improvement will also come from within the board itself. Careful selection of directors with relevant past experiences will enhance the board’s professional skills matrix. Most importantly, boards must have a steady hand to guide the company to long-term success.
Educating directors is vitally important to board success. NACD will deliver the findings in this white paper to boards directly through educational initiatives such as our Director Professionalism Courses and our Board Advisory Services, with the essential goal of empowering directors to act in the face of changing business, economic, and governance conditions.
The NACD White Paper Series I and Key Agreed Principles are not meant to prescribe a specific course of action; they point toward a direction—one that only the board, with management, can choose. The time to make that choice is now. Directors are leading the way to help restore confidence in the corporate governance of U.S. companies through the Director Challenge campaign. To obtain the Principles and White Papers, along with discussion tools for exploring them in your own boardroom, visit www.nacdonline.org/directorchallenge.