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COVER STORY

WHATDIRECTORSTHINK

CORPORATE BOARD MEMBER’S12TH ANNUALDIRECTOR SURVEYDELVES INTO HOWDIRECTORS AREMANAGING SOMEOF TODAY’S MOSTPRESSING ISSUESFOR PUBLICCOMPANIES WHILE KEEPINGTHEIR BOARDSNIMBLE.

A CORPORATE BOARD MEMBER/SPENCER STUART SURVEY

Let’s face it—sitting on a publiccompany board is not the job itonce was. In the years since

Sarbanes-Oxley was enacted in 2002,directors have exchanged expense-paidclub memberships, retreats to exoticlocales, and a seemingly untouchablestatus for longer hours, pervasive liability,and increasingly intense scrutiny fromshareholders, regulators, and the public.So why do they continue to serve?

Foremost, directors tell us the job canbe very rewarding—even profitable,though the latter, they note, is not alwayscommensurate with the workload. Tobetter understand directors’ motivations,fears, and desires, each year CorporateBoard Member conducts its flagship What Directors Think study. In thelast 11 years, we’ve gathered data andopinions on a wide range of issuesencompassing risk and liability, strategyand performance, and much more.

In order to share the data we’vecompiled along with post-surveyinterviews where we dug deeper intodirectors’ insights, we’ve organized our survey responses into four key areasthis year: risk oversight, strategy andperformance, shareholder engagement,and board structure. Though risk is not a new focus area, it is certainly one that is expanding and ever changing; likewise,strategic issues are consistently a top-drawer concern for directors. AsCharles Rossotti, nonexecutive chairmanat AES Corp. noted, “At the board level,risks are a focus of every meeting and, infact, every committee. In the last fewyears, focus on risk has been elevated toadopt a more strategic focus that looksacross the whole portfolio for themes and correlations.”

Shareholder engagement, meanwhile,is a more recent focus area—and one thatsome directors may either need coachingon or boards may need to bring ondirectors who have such experience, oursurvey results show.

With those subject areas in mind, readon to see how the directors we surveyedhandle the critical and often complexissues that arise in the boardroom. Armedwith this information, we hope theseresults will help you assess whether yourown board is prepared for the challengesof 2015 and beyond.

R I S K O V E R S I G H TPerhaps the single biggest challenge

directors face is understanding themultiple forms of risk their companies are encountering today. In fact, 55% ofthe directors we surveyed don’t believeit’s reasonable to expect that a publiccompany board can ever fully get itsarms around all the different aspects of

risk in the current corporate environment(Figure 1), particularly the newer forms oftechnology risk like cyber risk and socialmedia risk. This begs the question: Areboards today equipped to tackle all that is thrown at them, especially in theseemerging, and largely unknown, risk areas?

“The expectations placed on boards interms of what they are asked to oversee ismuch greater today due to many factors,including an increasingly dynamic globaleconomy, political uncertainty, disruptioncaused by new technologies, and an activeM&A environment,” says Kevin M.Connelly, CEO, Spencer Stuart. “As aresult, directors find themselves needingto be knowledgeable in areas they may ormay not have had much past exposure toor experience in, such as cybersecurity.”

With a relatively low amount ofdirector turnover, boards today often lookto add directors who tick several boxes forthe board, for example, relevant industryand global expertise as well as financialacumen, Connelly notes. In some cases, hesays, boards have elected to enhance theirboard composition by adding a directorwith digital expertise; however, in mostcases, this is to augment the businessstrategy as opposed to a direct focus oncybersecurity. “As the expectations ofboards continue to grow, we predict moreboards will look to outside experts to helpthem address, and bring an increasedfocus to, areas of expanded oversight suchas IT risks and cybersecurity,” he says.

In terms of their confidence inmanaging risk oversight, surveyrespondents are most confident in theirability to monitor operational risk and internal fraud (72% very confident;only 1% or less not confident), followedclosely by FCPA/anticorruption risk and legal risks related to labor andemployment (64% and 62%, respectively,very confident). Cyber risk and socialmedia risk gathered the highestpercentages of “not confident” ratings, at 23% and 19%, respectively.

In an effort to better understand theserisks, directors realize they have to facethem head on—in the boardroom. Interms of risk issues the board has coveredas an agenda item in the last 12 months,more than 90% of the directors wesurveyed cited operational risk, followedby cyber risk at 80%, and sudden loss ofleadership at 79%. It’s telling that, whileit appears directors are discussing cyberrisk, a large percentage still aren’t fullyconfident in their ability to manage it.Also of interest, only 35% of respondents

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BY KIMBERLY CROWE AND DEBORAH SCALLY

In light of heightened risk concernstoday, we examined directors’ opinionsabout the formation of a separate riskcommittee, which was mandated forfinancial companies and certain others in the wake of Dodd-Frank legislation.

While some experts maintain thatcordoning off certain aspects of risk fordeeper examination at the board level is a good idea, others believe the entireboard needs to stay fully immersed in risk oversight, and in fact, more than half(54%) of board members surveyed agree,and do not see the need for a separatecommittee. Twenty-four percent concedethat while a separate risk committee is agood idea, their board has no plans tocreate one. Meanwhile, 18% serve onboards that already have a risk committee,and an additional 4% are on boards thatare in the process of creating a separaterisk committee.

S T R A T E G Y A N D P E R F O R M A N C EStrategy and performance, which go

hand in hand in terms of helping to drivethe business forward, are perennially ofconcern to the directors we survey eachyear. This year, we asked directors toidentify board actions that are critical tocompany performance (Figure 3). Regularevaluation of the CEO was rated “veryimportant” by 96%, with review of short- and long-term strategic plans aclose second at 91%.

Bruce Claflin, who has been a directorfor 15 years and currently serves on theboards of Ciena Corp. and as chairman of Advanced Micro Devices (AMD),believes the most important thing a board can do is to make sure it has astrong leadership team in place. “If thesenior team is lacking, they will eithernot be able to think strategically or [not] be able to execute the strategy theydevise, and there will be no compensatingfor this by anything the board can do.”

Indeed developing a strong emphasison having the right talent at the seniorteam level, as well as evaluating thestrength of the entire workforce, can often make the difference between aleading and a lagging company.

Clearly, directors believe humancapital and talent are just about the mostcritical factor tied to the success of thebusiness. But are directors doing enough

said their board had discussed socialmedia risk as an agenda item in thepast year (Figure 2).

The findings indicate that whilethe risk environment for corporationsis evolving to encompass some areassuch as social media that heretoforewere unknown, many boards haveyet to recognize the key issuesinvolved. A 2013 report by GrantThornton points out that social mediacompliance is quite fragmented and largely ungoverned, and thatunderstanding and training in thisarea varies greatly from company tocompany. Without a best practicesframework, directors, and evencompliance officers, are often leftwondering where they stand interms of potential exposures.

This is an opportunity to return tofundamentals, notes Erica Salmon Byrne,head of Advisory Services and Research at NYSE Governance Services. “The most important audience is still youremployees. Do they understand what’sexpected of them in this newer medium?Do they know the risks? And will theytell you when something has gone wrong?Training, communication, and open doors are the best way to mitigate thisrisk,” she says.

The survey also sought to find out howoften boards discuss risks as they relate tothe risk culture, or system of values, ofthe company—a fundamental conceptthat many experts say is at the heart ofsound enterprise risk management andgood governance. Just over half (51%) of respondents said they sometimes havethis discussion and 44% said they alwaysdiscuss risks within this context; only 5% said rarely.

“Risk appetite is critical to comprehensiverisk management” says Salmon Byrne.“Without a clear understanding of the organization’s risk appetite, it istremendously difficult to structure aneffective risk mitigation plan that can becascaded down through the organizationso that every employee, and every front-line manager, understands the company’sapproach to risk and acts accordingly.”

A majority of boards still look to theaudit committee to take the lead onmanaging the wide berth of corporaterisks. However, many eschew that notion.

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F I G U R E 1CAN PUBLICCOMPANIES EVERFULLY GET THEIRARMS AROUND ALLASPECTS OFCORPORATE RISK?YES 45%NO 55%

to plug into the gaps and talent drivingthe human side of their businesses, andwhat tangible impact can that have intheir ability to help drive businessforward?

“In a world where the rapid pace ofchange and growing complexity calls for stronger, more visionary leaders, the ability of boards to make astutejudgments about internal leaders iscritical,” says Thomas J. Neff, chairmanof Spencer Stuart U.S. “While boards findthemselves with increasing accountabilityfor CEO succession planning, they often lack the insights to thoroughlyassess their company’s rising executives,make judgments to understand whether a candidate will be ready when the time comes or know when to seek outside talent.”

He says one reason directors sometimesmiss this important piece is because their exposure to likely candidates (forboth CEO and senior management roles)may be limited, and therefore they maynot have the insights or the informationneeded to make the most informeddecisions. “In order to help boards feelmore confident in their knowledge ofinternal talent and that they have theright candidates to move the companyforward, it’s important that the boardengage with HR and the CEO to ensurethat the company’s assessment anddevelopment process is active, robust, and well managed,” Neff says.

Claflin agrees, noting that once a strongC-suite team is in place, “the board mustmake sure it allocates sufficient time atevery board meeting to discuss strategy in order to keep it top of mind with themanagement team,” whom he says willinevitably have more immediate pressuresdominating their time.

Other crucial issues directors identifiedinclude regular evaluation of the use ofcapital as well as frequently reviewingmanagement’s assessment of organizationalbench strength (both were rated “veryimportant” by 83% of respondents),regular analysis of potential acquisitions(73% very important), periodicallymeeting with managers onsite (62% veryimportant), and bringing innovative ideasto the boardroom (58% very important). In a follow-up question, the surveysought to evaluate how effective boards

F I G U R E 2HAS YOUR BOARD PUTSOCIAL MEDIA RISKON THE AGENDA?YES 35%NO 65%

are at these activities. Again, regularevaluation of CEO performance washighly rated, along with regularevaluation of the use of capital.

Turning the lens inward, we askeddirectors to rate the effectiveness of theirboard in monitoring corporate performance.Nearly 70% said understanding andagreeing on the company’s key performanceobjectives and strategy is what theirboard does best (69% very effectively;28% somewhat effectively). Furthermore,63% said their board is very effective atdeveloping and confirming that keyperformance objectives are monitored and achieved, while 32% said their boardis somewhat effective at doing so.

But when we asked directors if theyfeel comfortable in their understanding of management’s rationale when there are fluctuations in the financial numbers,there was a more mixed response. While50% said yes, always, 46% said yes,usually. Though notable in comparison tothe other figures, this latter finding likelyreflects the wide range of expertise amongboard members—some of whom qualifyas financial experts and others who rarelydeal with in-depth financial reporting.

In addition, for senior management,knowing what to include in the board’sfinancial review can be a challenge—too

much financial detail can beoverwhelming, while too littlefinancial detail could create gaps in areas where board members must make key strategic decisions.Thus, striking the right balance to ensure directors are comfortableand responsibly informed is key tohelping them perform theirfiduciary duties.

Finally, we asked directors aquestion we’ve asked in some formevery year since our survey began.Does your board spend enough timeon strategic planning? Interestingly,although nearly three-fourths (74%)said yes (Figure 4), the response“more time for strategic planning”still topped their list of aspects theywished for to improve their boardexperience (Figure 5).

S H A R E H O L D E R E N G A G E M E N TCommunicating with

shareholders has occupied more of

F I G U R E 3TOP DRIVERS FOR THE BUSINESSREGULAR CEOEVALUATION 96%STRATEGIC PLANREVIEW 91%REVIEW OF BENCHSTRENGTH 83%CAPITAL USEREVIEW 83%M&A ANALYSIS 73%MEETING ONSITEMANAGERS 62%

This year we received nearly 500responses from directors who didn’t mindsharing their opinions and comments onthese issues. More than 70% came fromthose who identified themselves asoutside directors, and another 20% saidthey serve as board chair or lead director.Forty-four percent have served on a boardfor more than 10 years, and another 33%have served five to 10 years. Just over30% are at companies whose annualrevenues are in the $1.1 billion to $5billion range; another 20% servecompanies in the $500 million to $1 billionrange. The remainder are fairly evenlysplit between companies with less than$500 million in revenues and those withrevenues $5.1 billion and above.

WHO DO WE SURVEY?

the board’s time in recent years, spurredby issues related to increased disclosure,majority voting in director elections, and say on pay, among others. And there’s little doubt the current uptick in shareholder activism has increasedawareness of the need for transparencyand external communication.

John Ballbach, who has served on severalboards in the last 10 years, including hiscurrent directorship at Valspar, explains,“Today’s public companies need at leastone or two board members with experiencein private equity and/or with activism. It is important to understand the mindset of activist investors, their(determined) approach, and levers theyare likely to engage.”

To get a feel for how well boards knowtheir investors, the survey asked directorsto rate their board’s understanding of itsinvestor base. Nearly 60% rated theirboard’s understanding as good, while29% rated it as excellent. Only 12% said fair and 1% poor.

Next we ascertained the level and type of communication boards have withtheir shareholders. One such form ofcommunication involves shareholderproposals. Though data from Georgesonindicates the number of shareholderproposals submitted annually hasremained at an active and steady levelsince 2012, only 20% of the directors we surveyed indicated shareholders hadintroduced proposals on their proxyballots in the last 12 months. Of thosethat saw proposals introduced, 68% saidthe process went smoothly and amicably,while 23% said that despite somedissension, shareholders, the board, and management were ultimately able to come to an agreeable outcome.

Although they may not have hadshareholder proposals to contend with,many of the directors we surveyed didindicate they engaged with shareholdersoutside of the annual meeting in the last year, with the most common topicsbeing executive compensation (41%),financial underperformance (33%),change of leadership (27%), and boardnominations (27%).

Communications and activism relatedto the composition of the board hascertainly ramped up in recent years andwas especially acute in 2014, when

ISS’s new focus on director tenure shineda bright light on the issue of directorindependence.

“We are observing that shareholdersdesire more transparency into boardcomposition—specifically, who is in the boardroom and whether they have the skills and perspective to bringindependent oversight in making smart,strategic decisions for the company incritical areas including CEO succession,risk oversight, and corporate strategy,”notes Julie Daum, leader of SpencerStuart’s North American Board Practice.

“Most boards (93%) have annualelections, a practice that is viewedfavorably by large investors, Daum says.“Investors are also starting to becomemore vocal on director tenure whenindependence may become blurred basedon the length of time a director has beenon a board.” As a result, she explains,“We’ve seen proactive boards morecommonly preparing skills matrixes toprovide deeper understanding of the skillsand demographics of directors, as wellas communicating on topics such assay on pay, CEO compensation,director slate, and chairmanindependence.”

With these conversations in mind,we asked directors if their board hasclear protocols designed to explainhow to engage with investors. Whilealmost two-thirds (62%) said yes,nearly 30% said no.

And though that 30% figure mightraise some eyebrows, John Ballbach,the Valspar director, says he would besurprised if a standard set of protocolscould easily be developed to deal witheach and every situation. In fact, hesays the bigger concern is whetherboard leadership understands theimportance of having a member withdirect experience who can help the boardand its advisers when preparing for andreacting to an activist environment. “Ibelieve too many boards rely primarily on outside advisers to educate themselveson the potential for activism and how todeal with an activist,” he explains.

So while developing a standard set of protocols might sound tricky toimplement, the recently introducedShareholder-Director Exchange (SDX)

F I G U R E 4DO YOU SPENDENOUGH TIME ON STRATEGICPLANNING?YES 74%NO 24%

whether board diversity should bemandated in the United States. Morethan 70% strongly disagree with thatpremise, though a nearly equal numberbelieve boards ought to voluntarily setdiversity goals and agree that a morediverse board stimulates better decisionmaking. Nearly half of those surveyedbelieve there is still an inadequate supplyof diverse board candidates. So whatshould be done, that isn’t currently being done, to continue the momentumtoward greater boardroom diversity?

“Progress toward more diverseboardrooms in the US is slower than in other countries, particularly incomparison to those countries that have opted to mandate changes in boardcomposition,” says Daum of SpencerStuart. “In the US, one of the primaryreasons we see a lack of increase indiversity is the lack of turnover in theboardroom.” Daum notes that US boardshave traditionally steered away from term limits and have relied instead onretirement ages to encourage turnover.Indeed when we asked directors whetherit is a good idea to have a policy ondirector tenure that specifically outlineshow long a director should remain inplace before the board needs refreshment,nearly two-thirds (65%) said no.

Moreover, retirement ages have beensteadily moving up, and most boards now have a retirement age of 72 or older,which has had the unintended effect ofstifling refreshment, she says. “The resulthas been an increase in board tenure, anincrease in average age, and a decrease inboard turnover. The result is a lack ofopportunity for new directors, includingwomen,” explains Daum.

Many directors we spoke to are quitecertain, however, that the tide needs tochange to encourage refreshment anddiversity. Charles Yamarone, a boardmember for more than 20 years whocurrently serves as a director for UnitedContinental Holdings and El PasoElectric, says that having a diverse board is especially critical with regard to creating a culture of “continuousimprovement.” Yamarone also notes that directors from “varied backgroundsare more likely to help management gain a wider range of insights into areasfor improvement.”

Protocol, a working group of independentdirectors and representatives from some of the largest and most influentialinstitutional investors, has aimed to dojust that. But their effort, announced inFebruary of last year, may need moresteam. Only about half (51%) of thedirectors we surveyed said they werefamiliar with the SDX program. Of those,13% said the effort is a step in the rightdirection in creating logical rules of the road, 12% disagreed, and 25% were unsure.

Finally, we asked directors if theirboard has ever undergone a trainingsimulation or exercise related to dealing

with shareholder activists. Nearly90% said no.

B O A R D S T R U C T U R E A N D A S S E S S M E N TA board is only as good as the

abilities and experiences of itsmembers. A successful board needsstrong leadership, diversity ofthought and skill sets, and goodcommunication. To keep the boardlimber, there is increasing emphasisamong investors and academics, andeven a growing number of directorsthemselves, to embrace the conceptof “board refreshment” to handlethe rigors of today’s marketplacewhile upholding the higheststandards of independence.

Given this quest to maintain a fresh approach by bringing in new blood, we asked directors toprioritize necessary attributes whenselecting the board’s next newmember. Not surprisingly, industry

expertise was rated very importantby 52% of our respondents, withanother 38% rating such expertisesomewhat important. The second

most popular attribute was financialexpertise, with 38% rating that skill very important and 47% finding it somewhat important. IT/cyberexperience, gender diversity, and CEO experience also ranked highly. Other attributes that are becoming more important compared to previoussurveys include legal/regulatoryexperience and racial diversity.

Realizing that diversity of thought,gender, and race has become more of apriority recently, we asked directors

F I G U R E 5TOP FACTORS THATWOULD IMPROVE YOURBOARD EXPERIENCE:MORE STRATEGICPLANNING 56%MORE DISCUSSIONTIME 55%BEING MOREPROACTIVE 49%BETTER RISKOVERSIGHTUNDERSTANDING 42%ELIMINATINGINEFFECTIVEDIRECTOR 21%

Claflin, the Ciena Corp. and AMDdirector, agrees, saying management and boards should “expose themselves to others who may have insights into the company’s industry, customers, and competitors in order to ensure they are not too inwardly focused.”

This matter is particularly poignant at present, as companies strive to find abalance that seems appropriate for theirboard as well as to address the concerns of investors and ISS, which has elevatedthe issue to a top priority.

“Boards are not good at refreshingthemselves,” said Michael Garland,assistant comptroller in the New YorkCity Comptroller’s Office, during a recentappearance on “Governance Minutes,”produced by the Society of CorporateSecretaries. “I don’t think directors arecomfortable telling their fellow directorsto go, and when you have a board with a large number of tenured directors, itraises concerns about director independence,first and foremost. But also, investors arelooking for diverse boards, with diverse,fresh perspectives,” Garland said.

I S Y O U R B O A R D R E A D Y ?Considering the rapid pace of change

in today’s corporate environment, yourboard will likely face numerous challengesin the coming months, and on multiplefronts. Topping that list, many directorssay, is risk. Boards must be ready to overseea myriad of risks, especially those relatedto cybersecurity—and the social mediarealm—which is unfamiliar territory forsome current directors (Figure 6).

As a result, forward-thinking boardslooking to refresh their ranks will want to add members who have technologicaland social media experience to guide theboard in an arena where it is all too easyto make innocent but often damagingcorporate blunders. Boards also valuedirectors who have industry, financial,and regulatory experience, our resultsshow. Filling these roles may provide theadded bonus of attracting directors whowill bring diversity to the boardroom—in terms of thought, age, gender, andethnicity.

In addition to refreshment in theboardroom, directors also need to makesure they have the right management teamin place to drive the business forward.

Our survey results have consistentlyindicated that strong leadership in boththe boardroom and C-suite, with leaderswho share a common vision, is the key to long-term performance. Thus directorsmust continue to devote meeting time toreviewing the strategic plan—and makingsure management sticks to that plan.

Finally, directors will want to continue to improve their dialogue withshareholders, who ultimately will holdthe board accountable for the company’soverall success. In doing so, theseimportant stakeholders—alongwith regulators, employees,and the public—willcontinue to demandtransparency anddue diligence fromboard members.

Now is agood time totake stock and ask your fellowdirectors: Is our boardready to meetthe challenges2015 andbeyond willbring?

Corporate BoardMember would like to thank its researchpartner, Spencer Stuart, and all the directors who took time to participate in our survey. �

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F I G U R E 6HOW CONFIDENT ARE YOU THATYOUR BOARD IS ADEQUATELYOVERSEEING CYBER RISK?VERY 15%SOMEWHAT 63%NOT CONFIDENT23%