A guide to setting up the board of a company
A guide to setting up the board of a company – PART 1
Introduction
Board Composition is a significant contributing factor to the performance of a Board of Directors (“Board”). It is crucial for an organisation to get the right mix and balance of people to sit on its Board. It is important to note, however, that every company is different and therefore each Board needs to determine its composition based on its unique circumstances. While there are legal requirements addressing the minimum size of an organisation’s Board, terms of office of members and who would be disqualified to act as a director, the requirements around Board composition are limited in terms of the Companies and Other Business Entities Cap. 24:31 (COBE Act).
As such, organisations should look to good corporate governance practices for further guidance when considering what their optimal Board composition is. In terms of good corporate governance practices, factors such as size, the balance of power, independence, diversity, skills and attributes, and rotation should also be taken into account in determining the optimal Board composition. This article discusses these factors in detail.
Size of the board
It should be noted that the size of the Board will always be relevant to the size and needs of the organisation. Section 195 of the COBE Act provides the minimum number of directors that must constitute the board of a company. It states that a private company with more than one and fewer than ten shareholders shall have two or more directors, a private company with ten or more shareholders shall have not fewer than three directors, and a public company shall have no fewer than seven and nor more than fifteen directors. Of the appointed directors at least one director shall be ordinarily resident in Zimbabwe[1] and at least one must be a company secretary ordinarily resident in Zimbabwe.[2]
The COBE provides companies with the discretion to constitute the rest of the board in their best interests once these statutory requirements have been adhered to. As such consideration should be given to the guidance provided in best corporate governance practices.
The National Code on Corporate Governance Zimbabwe [CHAPTER 10:31] (Zimcode) does not provide any recommendations on the size of the board. Reference is made to the King Report on Corporate Governance, a booklet of guidelines for the governance structures and operation of companies in South Africa as it is the most effective summary of the best international practices in corporate governance.[3] The King IV™ when determining the size of the board recommends that the following factors should be considered[4]:
- The appropriate mix of knowledge, skills and experience, including the business, commercial and industry experience, needed to govern the organisation. For example, a large public company in the financial sector may need more specialised skills on its Board to fully understand the business and its sector. In addition to the sector, the size and nature of the business itself would also impact the skills and knowledge needed on the Board.
- The appropriate mix of executive, non-executive and independent non-executive members. For example, if a company has 3 executive directors on the Board (being the CEO, CFO and COO), to ensure the Board has a majority of non-executive directors, the majority of whom are independent, it would need an additional 4 independent non-executive directors to maintain a balance of power, therefore, the minimum Board size would be 7. It is also important to take into account the nature, size and industry in which the organisation operates and if there are paramount additional skills, knowledge, or experience required (if the current 7 directors do not possess collectively all the required knowledge, skills, experience and resources required for conducting the business of the Board) and/or due to the number of Board committees required, the size of the Board may increase.
- The need for a sufficient number of members that qualify to serve on the committees of the governing body. Consideration should be given to the membership needs of the various Board committees, in terms of numbers as well as skills requirements. For example, at least 3 independent non-executive directors will be required on the Board if the company is required to have an audit committee – perhaps even more than 3 depending on the knowledge and skills of those directors, bearing in mind that it is recommended that an audit committee have quite a wide range of collective knowledge. In addition, specialist skills may be required to effectively fulfil the Board committee duties with regard to nominations, risk, remuneration and social responsibilities and ethics.
- Regulatory requirements as certain industries may have specific regulatory requirements which would impact a Board size.
- Diversity targets relating to the composition of the governing body. For example, if a company is striving towards 30% women on their Board, and already have 10 men who are adding value and they wish to retain, they may decide to increase their Board size to 14 or 15.
Independence and Conflict of Interest
The COBE Act requires public companies to ensure that their directors are independent. The COBE Act under the definition of “nonexecutive director” defines an independent director as a director of the company who, or any of whose family members either separately or together with him or her or each other, during the two years preceding the time in question; –
(a) was not an employee of the company; and
(b) did not—
(i) make to or receive from the company payments of more than fifty thousand (50 0000) United States dollars or the equivalent thereof; or own more than a twenty (20) per centum of the shares or other ownership interest of the same extent, directly or indirectly, in an entity that made to or received from the company payments of more than the amount stated in subparagraph (i); or
(iii) act as a partner, manager, director or officer of a partnership or company that made to or received from the company payments of more than such amount; and
(c) did not own directly or indirectly (including for this purpose ownership by and family shareholder or related person) more than twenty (20) per centum of the shares of any type or class of the company; and
(d) was not engaged directly or indirectly as an auditor for the company.
(2) A public company shall have at least three non–executive or independent directors on its board of directors.
(3) In a public company, any person who nominates candidates for the board who would comprise a majority of the members of the board must nominate at least three candidates any one of whom would if appointed, be an independent director.
Independent directors are critical to good governance. While private companies are not required by law to appoint independent directors, management teams of companies should consider constituting a Board of Directors that includes a combination of executive, non-executive and independent directors.[5] The presence of independent directors in the Board ensures the exercise of independent judgment on corporate affairs and proper oversight of managerial performance, including prevention of conflicts of interest and balancing of competing demands of the corporation. Corporate governance best practices provide that the ideal number of independent directors ranges from one-third of the board’s members to a substantial majority.
With regards to conflicts of interests King IV™ recommends the following practices:
a) each member should submit to the governing body, at least once a year or whenever there are significant changes, a declaration of all financial, economic and other interests held by the member and related parties; and
b) all members should be required at the beginning of each meeting (i.e., governing body/committee) to declare whether any of them has any conflict of interest in respect of a matter on the agenda.
Disqualification
Section 200 of the COBE Act states that any of the following persons shall be disqualified from being appointed a director of a public company— (a) a body corporate; or (b) a minor or any other person under legal disability; or (c) a person who is removed by the court from any office of trust on account of misconduct save with the leave of the court; or (d) a person who has at any time been convicted whether in Zimbabwe or elsewhere, of theft, fraud, forgery or perjury and has been sentenced therefor to serve a term of imprisonment without the option of a fine or to a fine exceeding level five.
The King IV™ recommends that before nominating an individual or when looking at the skills and suitability of a proposed candidate, the Board/governing body should consider the following factors:
a) the collective knowledge, skills and experience required by/on the Board and/or to fill the gap on the Board;
b) the apparent integrity of the individual;
c) the diversity of the Board;
d) the skills and capacity of the individual to discharge his duties on the Board;
e) the competency of the individual to serve as a director (i.e., against the IoDSA Director Competency Framework™);
f) whether the proposed candidate meets the appropriate fit and proper criteria.
It is of great significance and impact to the organisation to have the right directors sitting on the Board i.e., directors who are aligned to the organisations’ ethical standards and values as well as directors with suitable skills and knowledge. As much as there is an objective test (i.e., the disqualification/ineligibility rules found in the COBE Act) the subjective elements above cannot be ignored.
Conclusion
Board composition is not susceptible to a one-size-fits-all approach. It reflects a mix of director skills, independence, diversity, and size, each of which has its complexities. Individual personalities and how the directors interact with each other and with management are also critical components of board composition and are difficult to measure or objectively assess. Boards should consider their composition to ensure they have the right skills and experience to allow for diversity of thought, varying perspectives, and innovative, strategic discussions
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[1] Section 195 (2)
[2] Section 198 (1)
[3] Banhegyi, Steve (2007). Management: Fresh perspectives. Pearson Education South Africa. p. 317. ISBN 978-1-86891-594-1
[4] Principle 7 of King IV™
[5]http://c.ymcdn.com/sites/www.iodsa.co.za/resource/collection/49D62EF3-F749-403C-BE47- 73C50F27F30F/General_guidance_note_on_frequently_used_terms_for_directors_and_Governance_role_players_.pdf