No outside directors? You may be missing out

They’re not owners, employees, consultants, investors or customers. More than half of private company board directors are independent directors, according to a recent survey from NACD. These directors, who have no other relationship with the company, bring significant value to a board. Because they have no conflicting interests, their presence can improve decision making, enhance governance, and increase shareholder confidence. Independent directors play a catalytic role in protecting and enhancing stakeholder value.

Yet many boards haven’t expanded to include outside directors.

If you’re one of them, you may be missing out on an important strategic asset. “I think the central issue for all boards is making sure that the leaders are looking out for the best interests of the organization and not for their own personal interests,” says Peter Cappelli, George W. Taylor Professor of Management at The Wharton School. “That is a much bigger challenge in private companies where the owners can often find it difficult to distinguish between those two and especially when they have board members who are beholden to them.” Sometimes the founder of the company is its principal shareholder, Chairman of the Board of Directors, and the Chief Executive Officer. “Independent board members can help them see whether they are getting the organization and ultimately themselves into trouble in ways that are otherwise extremely difficult to know when there are no objective views being presented.”

Decision making can be tricky.

In private companies where all board members are part of company management – more so when they’re all family members – priorities can become obscured, and self-interest can prevail. Are decisions being made for the long-term performance of the company, to maximize stakeholder value, or for profit to the owners? Independent directors can add a level of objectivity and unbiased pragmatism to decision making.

Unlike public company boards, whose responsibilities center around quarterly results and compliance with regulatory requirements, private company directors can focus on providing guidance to management that drives toward long-term business performance. Private company boards are more focused on all the stakeholders – employees, customers, and community – not solely on the shareholders. Outside directors add wisdom or expertise that facilitates this wider focus.

Ever had a fight with your brother?

Boards without independent directors can devolve into a high-stakes version of the family holiday dinner. Conflict resolution is a brand of diplomacy that is essential when disagreements about whether to invest in new product design start to seem like fights about who was supposed to pick up Aunt Mary at the train station. Even when opinions aren’t heated, perspectives may be warped. Founders or their children can feel attached to legacy methods or hesitate to retire long-term employees who no longer perform. Directors who are too close to operations may love what they have built over the years and resist change.

Independent directors can play a vital role, bringing fresh thinking to resolve conflicts that may arise within the board or between the board and management. Their impartiality makes them well-suited to mediate and find solutions that align with the company’s best interests. This contributes to company results, but also to board effectiveness.

Got risks? Sure you do.

Boards must provide guidance that helps companies survive and thrive, even in challenging times. External perspective allows independent directors to identify and address potential risks that might be overlooked by those deeply involved in day-to-day business. The oversight function of independent directors can be invaluable to private companies as they strive to grow rapidly amidst volatility, uncertainty, complexity and ambiguity.

What kind of risks do companies face in 2024? They include financial, regulatory compliance, operational, reputational and strategic risk. They also include really expensive risks, like cybersecurity risk. (According to IBM’s 2023 Cost of a Data Breach report the average impact of a data breach on organizations with fewer than 500 employees is $3.31 million!) The list goes on — competitors could steal your customers, your code, your employees, your intellectual property. Regulators could investigate your compliance, and you’d have to pay to defend your company even if you are squeaky clean.

One valuable exercise is an impartial review of potential risks, and whether you have the expertise to address them. Independent board members can help assess and advise management on how to fill the gaps while making processes iron-clad and residual risks minimal.

Independent directors instill confidence among outside stakeholders.

In 2019 The Business Roundtable, for 50 years “the voice of America’s leading CEOs in Washington” released “a new Statement on the Purpose of a Corporation signed by 181 CEOs who commit to lead their companies for the benefit of all stakeholders – customers, employees, suppliers, communities and shareholders.”

The idea that companies exist to do more than generate profit for their owners is powerful and may be difficult for some private company leaders to support. That’s an important assessment for any board to undertake: asking “what is our purpose — beyond profit?” The presence of independent directors on the board signals to stakeholders who aren’t in the boardroom that the company is committed to good governance practices and diverse leadership and is actively working to protect the interests of all stakeholders.

Everything is changing, faster than ever.

Companies with solid strategies before the pandemic had to pause, or pivot, or reinvent themselves. Many failed. And even after the economy recovered, that pace of change continues. Media has changed so much it is unrecognizable. Manufacturing has automated, healthcare has transformed, and AI is everywhere. And change won’t stop. But for some legacy boards, tied to an original vision and led by a founder or their descendants, it’s difficult to consider a dramatically different future.
Adding independent directors can be a game-changer. Independent directors can add real value and diversity of thought to the development of long-term strategy.

Their external viewpoint helps the board challenge assumptions, evaluate strategic alternatives, and remain adaptable to changing market conditions. It’s critical to select outside directors who bring the right experience, industry knowledge and diverse skills.

Sustainability matters.

Whether you lead a multi-generational family-owned business or you’re just gaining traction with a unique, future-focused product, independent directors will contribute to the overall effectiveness, transparency, and diversity of thought on your board. Outside directors can foster a culture of open discussion and constructive dissent. Their independent status allows them to ask challenging questions and provide critical feedback without concerns about internal politics.

Their presence helps build trust among stakeholders, improves decision-making processes, and enhances the long-term sustainability of the business. Built on the bedrock of a solid foundation in corporate governance provided by outside directors, private companies can become scalable in a purposeful and sound manner.

Glenn Davis is a principal emeritus with Kaufman Rossin and a director in the firm’s risk advisory services department. He has served on both public and private company boards and specializes in providing compliance and consulting services to companies and their directors. He can be reached at gdavis@kaufmanrossin.com

Janet Kyle Altman is a principal and Chief Marketing Officer for Kaufman Rossin. She is past chair for several non-profit boards and certified by Wharton Executive Education in Building Exceptional Boards. She can be reached at jaltman@kaufmanrossin.com.

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