In the last 10 years the number and importance of non-executive directors (or ‘NEDs’) in UK companies has grown significantly. While the focus for discussion of non-executive directors is often on listed companies, their value within private companies – and even smaller private companies – is increasingly recognised. We focus here mainly on the contribution that non-executive directors can make to those private companies, helping to scrutinise the performance of the business and giving strategic advice and support to the executive directors.
A non-executive director is a full member of the company’s board of directors and responsible as part of the board for the success of the company. In contrast to executive directors, however, they do not have executive responsibilities within the company and are not an employee of it.
There is no distinction in law between executive directors and non-executive directors. In fact, the Companies Act 2006 simply defines a director as any person occupying the position of director, whatever name they are called.
Because of this, the same duties, responsibilities and indeed potential liabilities apply equally to executive and non-executive directors.
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The distinction between the two lies in the role and purpose of non-executive directors. The NEDs won’t generally be ‘getting their hands dirty’ dealing with operational matters, but instead contribute by stepping back from the day-to-day activities of running the business and asking the right questions of the executive team. By doing so, they can lend an independent and objective perspective to the board’s decision making – sometimes the most obvious questions or most pertinent concerns are those that, absorbed as they are in the day to day running of the business, the executive team may lose sight of or misjudge.
challenge from a ‘critical friend’ can be a positive force
Many businesses will not instinctively welcome this sort of ‘external’ oversight and challenge. As a company grows, however, this form of challenge from a ‘critical friend’ can be a positive force, aiding the performance of the executive directors and the board as a whole. It can also help to protect and enhance the governance and performance of the organisation as a whole. That’s good news for shareholders, staff, customers and other stakeholders: for that reason it’s often external shareholders, keen to protect their interests, who will encourage companies to appoint one or more non-executive directors.
What does a non-executive director do?
By their very nature, non-executive directors cannot give the same time or attention to the company’s business as their executive counterparts. Although NEDs are typically appointed to help improve the effectiveness of the board, the duties they are expected to perform will vary between different organisations.
Most commonly, there will be a requirement to attend board meetings. Proper study beforehand of the reports and other documents presented to the board will be necessary to become acquainted with pertinent issues and therefore to make a valuable contribution.
In board meetings and outside, they will generally be expected to:
- Work with the executive directors to develop the strategy of the business.
- Monitor business performance and scrutinise the performance of management against agreed objectives and targets
- Verifying the accuracy and integrity of financial information
- Validating that risk management systems, controls and processes are robust and effective
- Play a role in appointing and removing executive directors
- Have a view to succession planning, considering how the business can plan for a time when the current executives may no longer be working for the company
- Play a role in agreeing the appropriate level of remuneration for executive directors
Exactly what the role involves will differ from business to business, but will depend a lot on the size of the company and its stage of development.
In a fledgling company, the non-executive director may act as a business mentor, providing advice on a whole range of business issues, perhaps less in formal meetings than informally “at the end of the phone”. The inspiration and moral support they provide could be equally valuable.
At the other end of the business spectrum, a non-executive director in a listed public limited company may have little regular involvement, attending perhaps only 4 board meetings a year. Rather than wide-ranging advice and input, they may contribute predominantly in a specialist area – for example, a non-executive director with a background as a solicitor may be asked to focus on legal challenges facing the business.
The non-executive director’s role may also include:
- In larger companies, involvement in board sub-committees. As well as further meetings, this could involve detailed work on subjects that make use of the NED’s specialist knowledge or experience – for example, on a finance or audit sub-committee
- Similarly, playing a part in special projects
- Representing or liaison with shareholders or shareholder-appointed representatives
- Representing the company externally at public events or in particular negotiations
What’s in it for the company?
The business can gain in several ways from the appointment of a non-executive director:
- Perspective and objectivity – an independent view of the business that is separated from day-to-day operations. This impartiality can be of particular benefit where the executive team cannot agree amongst themselves, or are in agreement but want to check with someone more detached before embarking on a course of action. We’ve already looked at how constructive challenge by non-executive directors can help the business.
- Wide business experience – particularly where the executive directors lack experience, a ‘wise head’ can offer significant benefit and help the business avoid crucial mistakes.
- Specialist knowledge and skills – this might be technical knowledge of a particular industry, product, process or market. It might also be skills in a particular business discipline: for example, the board may seek a non-executive director with a background in finance or marketing if these are areas in which they are inexperienced.
- Personal qualities that can balance or enhance the performance of the board
- Prestige – the very fact that a recognised figure in business or a particular industry has agreed to sit on the board of a company can help raise its profile and credibility
- Investment opportunities – the non-executive director may be willing to invest in the business (or their investment may itself be dependent on receiving a seat on the board). They might also provide access to other investors or have fundraising expertise.
- Key contacts – for many businesses, good contacts may be just as valuable as financial investment. The non-executive director may provide access to key suppliers, customers or others with expertise to help develop the business.
No single non-executive will offer a complete combination of these. For that reason, it’s vital for the business to be clear about what it’s looking for in a non-executive director – which will often be what it feels the lack of most keenly – and then judge potential candidates on whether they will supply this missing piece. If they seek more than one single individual can offer, the business might consider appointing more than one non-executive director to the board.
What’s in it for the non-executive director?
NED roles can benefit the individual in a number of ways:
- A reliable (and occasionally lucrative) income stream, especially if two or more non-executive director roles are combined. Remuneration will be based on the time commitment and responsibilities attached to the role
- Many non-executive directors discover that one NED role can easily lead to another
- Gaining exposure to and experience in different business or community sectors
- Developing profile and credibility
- Learning new skills, particularly for those whose business experience is in executive roles. Non-executive director roles require a different way of thinking and influencing, since the non-executive does not have the structure of line management to support them
- For an retiring executive in one business, a non-executive role in another can fill a vacuum – it can be a particularly useful transition for those looking to retire completely but not ready to sever all ties with the world of business
- For non-remunerated roles in non-profit organisations, personal satisfaction and the ability to lend skills and experience to a good cause can be a major motivating factor
Think twice! Challenges for NEDs
The role of a non-executive director is not an easy one. It can provide significant challenges, some of which are different to those faced by executive directors:
- Getting up to speed – gaining familiarity with the business, its products, markets, opportunities and challenges can be a significant undertaking – and one that is made harder by a lack of day to day involvement. In some cases, the business may help by providing an induction to a new non-executive director.
- Finding the time – all directors, whether executive or non-executive, must be able to allocate sufficient time to effectively fulfil their responsibilities. If a company operates monthly board meetings, these alone – especially where a large number of reports and documents need to be studied in preparation – can absorb a large amount of time. Other activities will only add to the time commitment required.
- Risk and reward – non-executive directors face much the same legal liability as their executive counterparts. The imbalance is often instead in terms of reward, with financial remuneration attached to non-executive directorships often relatively modest.
- Fixed commitments – company boards will often have existing established and non-negotiable meeting dates, which the non-executive will need to organise other commitments around.
- Adapting to the role required – it can be a struggle for first-time NEDs, particularly those with significant executive experience, to adjust to the different role required of a non-executive director. They should not be tempted to try to intervene too closely in operational issues, focusing instead predominantly on the strategic challenges facing the business.
For the company, finding a good non-executive director can help take the business to the next level. For the individual, it can be both a challenging and hugely rewarding experience. Both parties should be mindful of the responsibilities of a director and potential liabilities, which an executive and non-executive alike assume.
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