Is it Time to Appoint a New Director? Five Corporate Governance Considerations for Board Members

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Regardless of size or industry, thoughtful director appointment is critical to the success of any public company.  Yet following the departure of a director, many boards are left scrambling to locate and onboard a suitable replacement.  Even boards that purposely undertake to increase the number of directors may struggle to balance numerous (and sometimes competing) concerns.  Below are a few pointers for promoting good corporate governance practices when appointing a new director.

Review organizational materials.  Before considering particular candidates, the board should conduct a general review of its responsibilities pursuant to the company’s charter and bylaws.  These organizational documents may contain procedural requirements that affect the appointment of directors, such as constraints on the size of the board or procedures for filling vacancies.  The company’s charter or bylaws may also delineate the role of the board’s nominating committee in the selection of directors and clarify how responsibilities should be balanced between the committee and the board at large.  As always, the board should allow its fiduciary duty of care to inform the entire director appointment process.

Evaluate board composition.  Once the board has an understanding of its fiduciary and organizational responsibilities, it should exercise thorough due diligence when considering candidates for director.  Board members should carefully consider the existing board composition with respect to backgrounds and skill sets and should assess which areas of expertise and experience are not currently represented but would be meaningful to the company.  As part of good corporate governance practices, boards should conduct annual self-assessments in order to identify their strengths and weaknesses.  The appointment of a new director can be a welcome occasion to revisit these self-assessments and re-familiarize the board with its findings, which may highlight opportunities to improve the board’s balance with the addition of a new member.  Savvy boards will also consider strategic planning in connection with new appointments, enumerating the company’s short- and long-term goals and identifying candidates with suitable skills.

Consider diversity goals.  Diverse boards benefit the companies they govern in various ways.  Bringing together a wide range of perspectives and experiences can aid in the governance process by generating new and creative ideas that challenge the status quo, encouraging debate, and preventing echo-chamber thinking.  Diverse boards may also be more knowledgeable about and sensitive to a wider variety of issues that are important to the company’s stakeholders, clients and customers.  Depending on the company’s place of incorporation and physical presence, there may also be state laws and regulations to consider.  California, New York, Illinois, Colorado and Maryland have each enacted board-diversity legislation, while numerous other states are currently considering similar measures.

Reflect on candidate suitability beyond technical competence.  Each company has a unique vision and culture.  Board members should evaluate candidates not only for competence, but for how their backgrounds and skills align with the company’s mission statement, goals, and corporate values, in addition to considering whether a candidate’s management style will complement the tenor of the board.  Boards should also set expectations regarding the expected time commitment for board service, which will vary from company to company (and even within individual boards due to the varying commitments associated with committee membership).  Beyond simply ensuring whether a given candidate will have sufficient focus and availability, shareholder advisory firms pay close attention to “over-boarding.”  Both Institutional Shareholder Services (ISS) and Glass Lewis will generally recommend withholding the vote from the nomination of an individual director who sits on the board of more than five public companies.

Inquire into candidate independence.  Once a suitable candidate has been identified, the board should inquire into whether he or she has any existing relationships with the company that could interfere with the exercise of independent judgment.  The Nasdaq Stock Market and the New York Stock Exchange each set forth standards for independence, with both exchanges requiring listed companies be comprised of a majority of independent directors and maintain independent committees, subject to limited exceptions.  In addition, the board should evaluate whether their candidate serves as a director or an officer of a competing corporation.  Enabling such an “interlocking directorate” with a competitor could result in inappropriate coordination or the sharing of sensitive information and may be a violation of anti-trust laws, such as Section 8 of the Clayton Act.  In addition to evaluating candidates for independence prior to appointment, boards should also conduct an annual review of director independence to assess any changes in status.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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