Diversity in the boardroom has been a hot topic in recent years. Does the traditional boardroom of a fairly homogenous group of individuals really produce the most effective decisions and strategy for a company? Does such a boardroom have exposure to a wide enough range of perspectives to facilitate robust discussions of issues that arise? Is there something missing?
How does a company create the optimally diverse board?
Creating the optimal framework
An optimally diverse board is primarily built on the foundation of a skills-based framework. Accordingly, the appropriate skills, expertise and experience necessary for the proper functioning of the board should be the single largest consideration for the optimal board. Once the appropriate skills, expertise and experience have been identified, other elements of diversity should then be woven into the framework to allow for effective and robust decision-making and discussion in the boardroom. We recommend that the optimal framework is formulated by the nomination committee and approved by the board. Shareholders can influence the framework through stakeholder engagement with the board. They can also express their preferences by including board composition requirements in the Memorandum of incorporation or other founding documents of the company.
Maintaining the optimal framework
Once the board composition framework has been established, it should be periodically reviewed and refreshed as the company develops. The framework should always reflect a composition that will introduce the appropriate level of challenge and discussion in the boardroom to effectively cope with the company’s ever-changing landscape. To this end, the framework should be seen as dynamic and tailored to the environment that the company operates in at a given point in time.
Assessment against the optimal framework
The current composition of the board should be regularly evaluated against the optimal framework. Ideally, this should be done on an annual basis however, in practice, it is likely to happen every 3 years to coincide with board refreshments. The board should however consider the risk and opportunity cost of operating with a sub-optimal board for any given period, if the assessment is performed on a triennial basis. King III supports regular board refreshments by recommending that at least one third of the non-executive directors on the board should rotate every year.
Assessing the board composition against the optimal framework should be inextricably linked to board refreshments, director tenure, succession planning and board recruitment initiatives. According to the 2014 Board Practices Report , an overwhelming majority of companies turn to their own directors for board member recommendations when recruiting.
Given the lack of heterogeneity in many boardrooms, this means that the network of individuals that are recommended to the board are fairly limited and homogenous, which further exacerbates the lack of diversity in the boardroom.
The ICGN1 provides guidance on practically incorporating gender diversity in the boardroom. This guidance has been adapted as below to reflect a wider diversity context:
- The Nomination Committee should conduct a structured evaluation of the board of directors on an annual basis to identify ways to strengthen the board’s effectiveness, to assess the diversity in the boardroom, and to highlight gaps between the skills and background of existing directors and their optimal mix. This exercise will help inform the recruitment of new directors whose diversity of skills and experience should address any gaps.
- The Nomination Committee should also develop a succession plan for the board, recognising that new director recruitment should be conducted strategically to help replace the skill-sets of retiring directors.
- The Nomination Committee should report to the full board on how it takes diversity into account when nominating candidates to the board.
- The Nomination Committee should identify and recommend candidates for new board members and the committee should seek a candidate slate taking into account multiple elements of diversity. This will ensure that new directors are chosen from the widest possible group of qualified candidates.
- The board should consider requiring the Nomination Committee to address diversity and talent management as an explicit element of its oversight work, and to report to shareholders specifically on this.
This article is part of a series that explores diversity in the boardroom. To view the other articles in this series, please click on:
- What is boardroom diversity? – In this article we explore various types of diversity that can exist in a boardroom being a mix of skill and expertise, gender, ethnicity, age, geography and independence.
- External pressures that drive diversity in the boardroom – This article details the external pressures including regulatory reforms, both from a global and South African perspective, that drive diversity into the boardroom.
- The case for and against diversity in the boardroom – What are the benefits and costs of having a heterogonous mix of individuals on the board?
For more insights on Corporate Governance topics, visit the Deloitte Africa Centre for Corporate Governance. http://www.corpgov.deloitte.co.za
For further information, contact:
Dr Johan Erasmus
Tel: +27 11 806 6292
Tel: +27 11 209 8543
1 International Corporate Governance Network, ICGN Statement and Guidance on Gender Diversity on Boards, 2013
THE CASE FOR AND AGAINST