The Dream Team

8th February, 2017

Published: Company Director Magazine, Australian Institute of Company Directors (1st January 2017), Domini Stuart

Assembling a board for the first time can be daunting for small or family owned companies. Domini Stuart outlines the key things to consider when taking the leap.

Two years after he took over as managing director of packaging and container business, The Winson Group, Jack Winson MAICD and his fellow shareholders decided to create a more independent board.

“My father and his brother had started the company almost 50 years before and were thinking about stepping back,” he says. “We could see that, if we wanted the business to be sustainable and successful in the long term, we needed to bring our governance in line with that of a listed company.”

On the advice of a consultant, Winson drew up a list of the company’s expectations. “This made us realise that we should start with an independent chair,” he says. “We needed someone who could turn what was essentially a gathering of shareholders into a formal board.”

As chair of Queensland Sugar Limited and a director of Santos, Guy Cowan MAICD had the skills the Winsons were looking for. He also had experience with a large family concern as chair of Beak & Johnston.

“Guy joined us in 2014 and, after a while, he recommended that we recruit a second independent director,” says Winson. “Having independent board members has done as we hoped by lifting governance to a higher level. We now focus on more strategic issues in the boardroom. And we also have access to much higher levels of skill and experience than a company of our size could attract in any other capacity.”

Ian Pratt FAICD, co-founder and chief executive officer (CEO) of South Haven Group, had almost 30 years’ experience in the Australian property market when he appointed the first independent director to the group’s family board.

“We were ambitious and keen to keep growing and we could see the limitations of having just four family members sitting around the table,” he says. “We started by bringing in a partner of a leading accounting firm, who we knew and trusted, as a board adviser. When that went well, we added a second independent director followed by an independent chair. They have brought in a wealth of diverse experience and knowledge. We have also found that people outside the company, such as bankers, financiers and investors, look at us through different eyes now they can see that we have a high level of governance in place.”

Board triggers

Succession planning and growth are common triggers for forming an independent board. “Boards can help small and medium-sized enterprises (SMEs) to manage fast growth by ensuring there are checks and balances in place,” says Kerryn Newton FAICD, managing director of Directors Australia. “They can also take them to the next level of growth – a new geographical market, for example – or help them to address stagnated growth.”

The first step is to identify the problems that need to be solved. “Often, companies that want help with finding their first independent director aren’t clear as to why they want to make this move,” says Newton. “They’re looking for an answer without understanding the question.”

A board charter can help to articulate a company’s expectations. “It doesn’t have to be long or elaborate – a single page of bullet points could be all it takes,” Newton continues. “It should include what you want from directors in terms of their contribution, duties, time commitment and conduct. And, in closely held companies, it is also useful for shareholders to spell out their intentions for the future of the company, such as expected returns, employment for family members or that the business should stay in family hands for generations rather than be prepared for listing or sale. Most importantly, every decision-maker in the company should agree to everything the charter contains.”

Directors bring more than independence to a board. The next step is to identify the skills and other attributes that would add most value. “This is best done by drawing up a board skills matrix aligned with your strategic plan,” says Newton. “You also need to think about board diversity and the personal qualities you would like to see in a director, as well as the culture of your organisation. For example, if yours is a very informal and down-to-earth business, you might look for a director with a similar style.”

Pratt is very keen to preserve the best aspects of family culture. “We’re very careful about who we bring into the company at every level, including the boardroom,” he says.

An emotional leap

Not every problem can be solved by an independent board, however. “Each case needs to be considered on its own merits,” says Newton. “Not all companies have the size or structure to benefit from an independent board. Timing is also critical – it’s not a good idea to have too many major changes happening at one time. And, when a closely-held company is bringing in independent directors, everyone should be sure they’re emotionally ready for the transition.”

Pratt has been challenged by having someone who isn’t a family member at the head of the table – though that was the intention.

“We were all very comfortable with our independent directors,” he says. “For me, having an independent chair was definitely the biggest leap.”

At Cowan’s first meeting as chair of The Winson Group, one of the founders told him: “I’m not really sure why you’re here, Guy. Two and a half years later, I’m happy to say he has very much changed his view,” says Cowan. “Both founders now feel comfortable that Jack is getting the right advice, that there’s continuity in the business and that the family interests are protected for the long term.”

When Ian Klug FAICD took on the role of chairman of the Place Design Group, the board consisted of the 10 shareholders who founded the company. “They weren’t quite as close-knit as a family, but they were all friends,” he says. “That made some of the decisions I’ve had to make over the past five years particularly tough.”

A condition of his appointment was that both he and the shareholders would review the business situation after a year. “We needed time to find out whether I could offer what they were looking for and how well we could work together,” he says. “There was also a matter of building trust. They wanted someone to help with governance, finance and strategic thinking and that involves a lot more than just turning up to a meeting once a month. I made it clear from the start that I would only be able to do my job if they were prepared to tell me everything. Fortunately, they were very open to that and, five years on, I’d say we all trust each other implicitly. I get on very well with all of the directors and, as I have most to do with the managing director, he and I were both very committed to building our relationship.”

Small businesses are often run quite informally, particularly if the managing director is also the majority shareholder. The transition to the formality of an independent board can be challenging for both sides.

“It’s very easy for the board to get involved where it shouldn’t and for the managing director to make decisions that should go to the board,” says Cowan. “A very clear delineation of responsibility is vital from the outset.”

It’s also easy for those who aren’t familiar with a formal board to get caught up in granular detail. “At times I’ve had to be quite firm in steering discussions away from minor operational matters and back to strategies that will take the business forward,” says Cowan. “As an independent chair, you have to be prepared to take control of the proceedings.”

Counting the cost

Smaller companies in particular might regard a board as a luxury they can’t afford. “When you’re establishing a board there will be costs associated with preparing board papers, gathering information, setting up the meetings and remunerating the directors,” says Newton.

Pratt’s additional administrative costs were minimal thanks to the influence of his father Bill, who brought Safeway to the Australian grocery market in the 1960s. “External people have a right to expect certain structures to be in place and to have access to certain information,” says Pratt. “Fortunately, that was not a big step for us because my father had set us up for good governance. He was used to sitting on corporate boards such as Woolworths, so he expected corporate professionalism from the start.”

Where cost is an issue, Dr Caroline Hong FAICD, an international business consultant and experienced director, suggests both sides explore a range of options. “In order to attract good and willing directors, I would advise SMEs to consider equity or a mix of equity and remuneration,” she says. “I am currently on the boards of SMEs which remunerate me with a combination of fees and equity, some with stages set out for milestones achieved. Remuneration can be scalable and, if the directors are required to be more hands on, there are opportunities to incentivise the achievement of specific targets.”

The challenges of disruption

For some companies, a board could be more of a liability than an asset. “If the board is not adapting to a fast-moving strategic or disruptive environment, it might impede agility and slow down decision-making,” says Newton.

Two years after Mike O’Hagan formed his first independent board, his company was hit by disruption on two separate fronts. “MiniMovers had been growing continuously for 22 years and was the market leader,” he says. “I’m an entrepreneur and I’d achieved this with a business model based on experimentation – doing more of what works and not doing what doesn’t work – which is very different from a corporate model.”

When he decided he wanted to exit the company but retain 100 per cent ownership, he changed strategy. “My plan was to put a non-executive board in place and change the whole management structure so that we would be well-positioned to move to a much larger business model,” he says. “Then the global financial crisis (GFC) hit and, practically overnight, our market shrank in size by 60 per cent. At the same time, the internet was driving a massive shift in consumer behaviour. I had been spending over a million dollars a year on advertising in the hard-copy Yellow Pages when, suddenly, everyone started searching for services online.”

The board struggled to manage the changes. “This had nothing to do with the skills of the directors,” O’Hagan continues. “The problem was that the board had been structured to roll out a growth model, not to deal with disruption. I don’t believe that any committee can run a business effectively in a disruptive environment. It’s like being on a plane that gets into trouble – you don’t want a group of people sitting around discussing what they should do next, you want one qualified person to take control.”

O’Hagan dismantled the board, restructured the management team and moved the back end of the business offshore. Today, the business is thriving once again. “Things are never going to go back to the way they were before the GFC,” he says. “We’re living in a time of massive and continuous change and I believe the corporate business model is on the wane while entrepreneurial models are on the rise.”

Risky advice

Some companies see an advisory board as an opportunity to “try before they buy”. “They can be cheaper; advisory boards tend to meet quarterly rather than monthly and their members are typically paid about 25 per cent less than those on an equivalent governing board,” says Newton. “They are also easier to assemble and dismantle.”

For some SMEs, an advisory board can be a good place to start. “You could appoint key experts or influencers for a fixed period with specific objectives and goals,” says Hong. “For example, three private SMEs have appointed me to their advisory boards for an agreed term to provide them with Australia-Asia business and cultural expertise, knowledge and experience.”

However, the role of an advisory board is not always clearly defined. “In practice, some companies want the advisory board to act as a governing board,” says Newton. “The danger here is that the members could be deemed to be de facto directors. If this were the case, you could find yourself with the same responsibilities and liabilities as a director on a governing board but with fewer rights and protections.”

Paul Nielsen MAICD is very mindful of the risks associated with providing both paid and unpaid advice. He is chair of the Council of Small Businesses of Australia (COSBOA), whose members include around 450,000 SMEs. He also owns a number of small businesses and has a corporate advisory practice.

“As soon as you give advice – or say anything that could be interpreted as advice – you’re opening yourself up to a whole raft of legislation,” he says. “Under Australian Consumer Law – the old Trade Practices Act – the implication is that you can be sued for providing advice even if you weren’t intending what you said to be interpreted as advice to take any action. If you are invited to join an advisory or a governing board, you need to do a thorough due diligence on the company, its constitution and the other members of the board and think very carefully about the risks. Talk to your own accountant or lawyer before you accept the position and make sure you have appropriate insurance in place.”

Lack of information

Due diligence can present a challenge when a business is small and privately-held. “It can be much more difficult to find in-depth information on a company that isn’t listed or highly regulated,” says Newton.

A company with an immature governance structure might – deliberately or inadvertently – provide information that proves to be misleading. “Whatever the size of the company, you need to know that the people running it have, at the very least, an understanding of insolvency risk, that all cash flow projections are properly done and that management is competent enough to provide reliable information,” says Cowan.

Fortunately, smaller companies can offer benefits along with the risks. “I’m a chartered accountant by trade and I really enjoy learning about businesses in a completely different sector,” says Klug. “It’s also rewarding to see the outcomes when governance improves. A number of the other board members have been inspired to do the Australian Institute of Company Directors’ Company Directors Course and we are considering adding a second independent director in the next 12 to 18 months.”

Cowan enjoys the contrast with his listed companies. “Winson and Beak & Johnson are both successful businesses with ambitious long-term targets and very strong values,” he says. “I find helping them to grow to be very stimulating and fulfilling, and the mentoring aspect of the role also appeals to me. On the board of a smaller company, you have a more direct influence on outcomes.”

Should you form an independent board?

An independent board is not always the best alternative. Kerryn Newton provides a guide.

Consider forming a board now if:

1. As an owner you are technically very good at what you do but you need help with key areas that lie outside your expertise, such as capital raising, doing business in new geographic locations, restructuring or strategic marketing.
2. You’re seeing symptoms of stagnated growth, such as missed opportunities or loss of market share.
3. You don’t have an effective succession plan or exit strategies in place. A higher standard of corporate governance and a more professional organisation can open the door to a range of options.

Consider forming a board later if:

1. Appointing a board would result in too much change at one time – for example, if you’re in the process of replacing the CEO.
2. You’re not emotionally ready to hand over an element of control of the company that still feels like your “baby”.
3. You’re working in a fast-moving or disruptive environment where a board might impede agility and slow down decision-making.

Questions to ask before joining a new SME board

1. Has every decision-maker agreed to a written charter that sets out the company’s expectations of the directors and the board as a whole?
2. Will there be other independent directors? Some directors find it easier to govern when theirs is not the only independent voice on the board, particularly in close-knit family companies.
3. If you’re joining a family business, does everyone understand the importance of keeping family governance completely separate from the governance of the business?
4. Are you a good cultural fit for the company?
5. Will the company provide appropriate insurance cover and ensure that your personal assets are protected?
6. If you are considering joining an advisory board, are you clear about the role you will play? Is there any danger that you will be deemed a de facto director?