Board Effectiveness and Company Performance; An Overview
The question of just how much influence the board has on the overall financial performance of a company has been one of the biggest and most complex questions in corporate governance for a long while.
A McKinsey Global Survey was conducted in March 2018, and it covered well over 1000 directors. The aim of this survey was to attempt to build a link between the quality of board operations and the effectiveness of these boards at the formulation and execution of their core activities with the performance self-reported related to those of their peers. At the end of the analysis, it was discovered that most companies that have boards with even better processes and dynamics are able to report stronger financial performance, especially when these boards are able to delegate to people who are able to perform their core activities even more effectively.
These findings are especially important, more so as they come at a time when the responsibilities of companies’ boards are seeing prominent growth beyond the traditional oversight. The roles of boards are branching now into involvement in critical company issues including but not limited to risk, strategy, and digitization. In this survey, the directors of companies were asked about three major dimensions of the operations of boards; the dynamics between the board and the company executives, the dynamics within the board of directors itself, and the board processes.
While the results attest to the fact that there are only a few boards that have been able to maintain proper operations across all the dimensions listed above and that there is a specific pain point when it comes to board processes, they also point to the fact that it generally pays a company when they have proper processes and dynamics; both in the short term and in the long term.
Also, the survey was able to find that on an overall level, the practices and habits that the board has been engaging and have been able to evolve over time. Before, there was a larger propensity for boards to put more of their focus on the development of a strategy. This especially worked, as company directors were also usually inclined to invest more of their time in it as well. However, the same survey has shown that these days, there seems to have been a reduction in the number of company boards that still actually have proper knowledge of their company strategies.
These days, boards actually have good dynamics, but there remains a struggle with processes.
Before anything else, the responses of directors in this survey show no significant improvement in the way that their boards have been operating. When they were asked about the operations of their boards across the three dimensions- dynamics with the company executive, dynamics within the board itself, and board processes- directors’ responses showed that the art that they struggle with the most was the establishment of effective processes.
Less than a quarter of the total respondents said that new directors were made to receive significant orientation and induction training that will aim to help them integrate seamlessly and operate orderly in their new positions. Also, only about 2 percent which represents a very small share of the total respondents) responded that there were ongoing opportunities that were made available to members of the board of directors in order to see to their development and empowerment.
Essentially, this means that as soon as directors can signal their consent and say that they are on board, then there is hardly ever any process of feedback and evaluation.
Also, about 25 percent of the total respondents said that there is a provision for members of their board to sufficiently engaging themselves in formal evaluations or that at the end of every board meeting, the chairmen invite various members of the board to come and discuss how effective the recently concluded board meeting was on a holistic level.
Across the various business ownership types, only the respondents on public company boards are likely to report the presence of sufficient training and formal evaluations. There were even some cases where respondents showed a reduction in the level of attention that was paid to certain topics. This means that there is a likelihood that more directors this year will not be able to say that their boards are able to run things more efficiently and that there is a clear agreement between the members of the board and the management team as regards their roles and what they are expected to do.
When you combine higher efficiency and better operations, you are bound to get a higher level of relative performance.
Over the years, there has definitely been a wide array of discussions as regards the importance of an effective board and how it is able to affect a business. However, of all its importance, the one that will definitely be the most difficult to measure will have to be its effect on the overall financial performance of the firm. The survey was looking to come to a better understanding of this by looking at the operating structure of boards (their processes and dynamics) as well as what exactly they do (how effective they are at carrying out their core activities). After getting this, then they looked at how they could compare each of these measures with the financial performance of their individual companies relative to others in their niche.
At the end of the day, the self-reported results showed that every company will benefit from better boardroom dynamics and processes and greater effectiveness in the handling of activities.
When boards with top quartile dynamics were examined, about 59 percent of company directors were able to report that they were able to financially outperform their industry peers. Also, the directors in the bottom quartile have about twice a likelihood to report a relatively weaker level of fin Also, social performance.
The result was able to definitively report that the operational activities that we’re able to contribute the most to outperformance are a succession plan for the board that goes far beyond the short term, a significant level of induction training to help new directors easily integrate and function in their positions, and a proper amalgamation of backgrounds and workable skills
Also, the results depicted a strong relationship between the effectiveness of directors at core board activities and the overall company financial performance relative to those of their industry peers. About 60 percent of the directors on the boards of the companies in the top quartile for effectiveness noted that their companies have been able to significantly outperform their industry peers. In a plain contrast, just about 32 percent of the companies at the bottom quartile boards were able to say the same.
It is important to note that the major board activities that help an increase in board performance are all related to the strategy; providing an assessment of the management team’s understanding of the drivers of value creation for both the company and its industry, developing a comprehensive and detailed framework that outlines the company’s operational strategy, assessing how much the strategy has been able to account for the uncertainties and changes that come with ever-dynamic trends in the industry and discussing the various strategic alternatives that are open with the board as well as the CEO.
Only a few boards are able to address the potential business disruptions.
In order for even more boards to be able to get the right amount of payoff that they require from the adoption of better operations and a higher level of effectiveness, it is essential that they make room for aspects such as how and where to improve.
The survey asked directors about the presence of some potential business disruptions on the current agendas of their boards as well as agendas that they had years back. Out of all the disruptions, the most common agenda item was how to change the behavior and preferences of their customers.
However, as far as both the current and previous agenda is concerned, directors were able to report that there has been greater consideration of all issues and the biggest increase in the engagement of boards has been with digitization, cybersecurity, disruptive business models, and geopolitics.
According to the reports gotten from the respondents, the level of knowledge that their boards have of these issues is very varying. Across the disruptions, there is a higher likelihood that they will understand the changes in customer behavior. As a matter of fact, two-thirds of the total respondents note that their understanding is- to a very considerable level- satisfactory.
Also, most of these directors also report a poor understanding of digitization, activist investors, and cybersecurity by their boards.
There has not especially been any real change in that boardroom business.
The nature of the work that is undertaken by directors- including but not limited to the place where members of the board usually spend their time, the amount of time that they dedicate to the execution and completion of their work, as well as the understanding that they have about the operations and businesses of their company- has undergone just a slightly noticeable level of change over the years.
For the past few years, it has been proved that the areas that boards prefer to spend a vast majority of their time when they are in meetings have been performance management and strategy (both its devising and implementation).
However, it was also apparent that respondents will like to like- if they could- to also portion some of their time to solve issues regarding strategy and their administrative organizational matters such as talent management, business structure, and maintaining the culture of the business.
Also, it is clear that board members are actually spending less and less time on board work than ever before. The survey showed that a lot of board members spend an average of 24 days throughout a calendar year on their board duties. There was also a decline in the amount of time that board members would rather spend on their work as actual board duties, although there remains a six-day gap that exists between the ideal and actual number of days that are spent at work.
The next step
Going by the results that were gotten from the survey, it is possible for boards to take a few steps that will ensure that they are more effective and they have an even greater impact on the value creation processes of their companies: Increase the effectiveness of board processes.
The survey showed that of all the dimensions that were reported earlier in the report, the most challenging has been the implementation of effective processes. A majority of the respondents reported that their boards were, in fact, being effectively led, and this is definitely important to the strong overall importance of the board, which in turn will go a long way in driving the value creation process of these companies.
However, while all of these are impressive, it is also essential to report that when it comes to other aspects that speak of how the company works, the results showed that there was still some room for improvement. One of such aspects is the quality and effectiveness of induction training, during which directors are given a good knowledge and a proper understanding of the organization and the industry to which the company belongs. Another is the current access to opportunities for development that directors have so as to continue the earning process and get the chance to make meaningful contributions to the overall effectiveness of the board. Also, there is bound to be a meaningful and significant improvement in the performance of the board if a long-term board succession plan and frequent feedback processes can be implemented as well.
Provide even more time for the conduction of boardroom business
There is also a notable gap that exists between the number of days that company directors will like to spend on the job and the number of days that they actually end up spending on the job. Shownrience has shown that most times, the amount of time that is required for directors to be effective at their business has actually gone far beyond what most of them expect. While it is also true that there are directors that put in more time than the average that was recorded in the survey, there is no denying the fact that there are some directors that could definitely do with spending more time in meetings (they could invest this time in discussing company strategies, etc.) as well as making extra efforts to learn more about the running of the business as well as getting adequate levels of preparation before each meeting (for instance, they could pay visits to the facilities and structures of their better-performing competitors to learn a thing or two about how they work and seek to implement these strategies in their own business operations).
Also, in order to become worthy members that can keep the management tea on their toes, it will be highly beneficial if a lot of board members are able to learn more about the company and the industry- especially parts such as the major value drivers of the business, the risks that are involved and their levels of relevance, the talent situation of the company, and much more.
Have a reevaluation of the agenda of the company
The survey also showed that the days when directors would simply dedicate more time to their board work are long over. This fact is definitely not beneficial anymore, and there is a need for some management change.
Another task that is equally important is the commitment and choice to send some additional time in order to make sure that the strategic priorities of the company, as well as its overall agenda, are properly in alignment.
The results showed that there are many boards whose effectiveness will definitely benefit from a focus shift; it is time for them to focus even more on the CEO succession planning in the long term, a review of the major risks that they face, and lengthy discussions about the pool of talent that is currently available to the company. All of these are core management activities that have seen little effectiveness on the performances of boards, and there is a need for some form of change.
Also, it is important for boards to provide enough room on their agendas for covering various potential disruptions to the free flow of business activities. There is no company that is completely impervious to the effects of digitization cybersecurity, and geopolitical risks. Due to this, these items are also ideally supposed to belong on the agenda of every board. Thanks to the fact that there are frequent evolutions in business and it is possible for a wide array of potential disruptions to arise at any point in time, the maintenance of flexible agendas is definitely important for boards, as opposed to becoming bound to the dictates of their annual schedules.
The adoption of board assessments
These days, it is expected for corporate boards to exhibit a higher level of engagement, a higher knowledge base, and of course, more effectiveness. However, while a lot of means will be useful in ensuring these, one of the biggest and easiest ways to assure this will definitely be the board evaluation. A growing number of boards have been known to use this to examine and enhance the effectiveness of their boar, and it has definitely been working in the long run.
A lot of companies all over the world have come to adopt the culture of conducting annual assessments. As a matter of fact, almost every listed company in France, Canada, the U.K, and the U.S have reported that they conduct some form of assessment one way or the other on a yearly basis. The practice has also been adopted in other countries and is definitely becoming a global phenomenon (even in Asia Pacific markets where the issue of board effectiveness has long been a major point on board agendas).
However, despite the increased adoption of this trend, it is also true that in some rare cases, board assessments seem to be falling slightly short of their promise and potential to enhance the level of effectiveness that boards have.
Boards that usually adopt a compliance-based approach or which structure their assessment processes in ways that will prevent the assessment from providing a run and in-depth evaluation of the impediments that stand in the way of the effectiveness of their boards will end up losing the chance that they have to gain some valuable and common insights into the operating mechanisms of their board as well as various ways through which they can improve their board compositions, work processes, and dynamics.
Regardless though, when conducted in an effective manner, board assessments will provide company directors with a means of reviewing and making reinforcements to various appropriate management and board roles, and this will help them to ensure that the underlying issues that might reduce the effectiveness of the board holistic level are found out and properly addressed.
In summary, board assessments provide the board with an opportunity to identify and do away with any obstacles that stand in the way of their better performance. From there, they can highlight some of their best practices and start on the road to even higher levels of efficiency.