Seven Steps to Effective Board and Director Evaluations

By Geoffrey Kiel

Professor, University id Queensland

Founder and Chairman

Competitive Dynamics Pty Ltd

&

By James Beck

Managing Director

Competitive Dynamics Pty Ltd

Board assessment is too often viewed as a necessary evil — a mechanical process of checking off items on a list that ultimately has little real value for the board apart from meeting compliance requirements. However ... an effective board assessment process has the potential to be transformational.1

When a corporate scandal occurs, such as those experienced at China Aviation Oil (Singapore) Corporation Ltd in 2005, it is to the board that the shareholders, media, regulators and community look for answers. As the ultimate decision-makers in the corporation, the board is responsible for the corporation’s actions and performance.

The challenge for boards today is to add value to the organisations they govern. Performance evaluation is a means by which boards can ensure they have the knowledge, skills and ability to meet this challenge. This is recognised in numerous best practice guides and standards. For example, the Singapore Code of Corporate Governance first introduced by the Corporate Governance Committee in 2001 and revised in 2005, states that: “There should be a formal assessment of the effectiveness of the Board as a whole and the contribution by each director to the effectiveness of the Board”.2

This article will provide a practical approach to effective board and director evaluations using a sevenstep framework that asks the key questions all boards should consider when planning an evaluation.

Even good boards can benefit from a well-conducted evaluation. As summarised in Table 1, a properly conducted evaluation can contribute significantly to performance improvements on three levels: the organisational, board and individual director levels. It must be stressed, however, that these benefits can only be achieved through a properly executed board evaluation; if incorrectly executed, an evaluation can lead to distrust among board members and between the board and management.

Table 1 Potential benefits of board evalution3

Although boards may differ in the severity of their governance problems and the range of issues they face, there are still a number of key decisions that are relevant to all boards implementing an evaluation process. An effective framework relies on the board reaching agreement on the answers to the seven key questions illustrated in Figure 1. While these questions must be asked for all board evaluations, the combined answers can be quite different. Therefore, while the questions are common to each, evaluations can range markedly in their scope, complexity and cost.

Although the framework below is depicted sequentially, in practice most boards will not follow such a linear process. Some of these decision areas will be reached simultaneously; for example, ‘Who will be evaluated’ may be decided at the same time as ‘Who will conduct the evaluation’. However, at some point, each of these questions will need to be answered.

Step 1: What are our objectives?

Step 1 is to establish what the board hopes to achieve. Clearly identified objectives enable the board to set specific goals for the evaluation and make decisions about the scope of the review. Such issues as the complexity of the performance problem, the size of the board, the stage of organisational life cycle and significant developments in the firm’s competitive environment will determine the issues the board wishes to evaluate. Similarly, the scope of the review (how many people will be involved, how much time and money to allocate) will be determined by the severity of the problems facing the board and the availability of sufficient resources to carry out an evaluation.

The first decision for most boards to consider is the overriding motivation for the evaluation process. Generally, the answer to this question will fall into one of the following two categories:

• corporate leadership — for example, ‘We want to clearly demonstrate our commitment to performance management’, or

• problem resolution — for example, ‘We do not seem to have the appropriate skills, competencies or motivation on the board’.

Step 2: Who will be evaluated?

Comprehensive governance evaluations can entail reviewing the performance of a wide range of individuals and groups. Boards need to consider three groups:

• the board as whole (including committees)

• individual directors (including the roles of chairperson), and

• key governance personnel.

Considerations such as cost or time constraints, however, often preclude such a wide-ranging review.

Alternatively, a board may have a very specific objective for the review process that does not require the review of all individuals and groups identified. In both cases, an effective evaluation requires the board to select the most appropriate individuals or groups to review, based on

its objectives. To make this decision, we recommend that a list of possible review participants be gradually filtered down to a pragmatic selection of review subjects.

A common issue in deciding who to evaluate is whether to concentrate on board-as-a-whole only or also include individual director assessment. Regular board-as-a-whole evaluation can be seen as a process that ensures directors develop a shared understanding of their governance role and responsibilities. Although board-as-a-whole evaluation is excellent as a familiarisation tool for inexperienced boards, one disadvantage is that group evaluation may give only limited insight into any performance/governance problems. Consequently, some boards choose to progress to the evaluation of board committees, individual directors and the chairperson to gain greater insight into how their board is functioning.

To gain an objective view of individual director performance, peer evaluation is preferable, since by having members of the board evaluate each other, it is possible to gain a more holistic picture of the strengths and weaknesses of each director and their contribution to the effectiveness of the board. It can also be used to identify skills gaps on the board or communication issues between directors. Should an individual director evaluation be conducted, it is paramount that the outcomes of this review be correlated with the whole-of-board outcomes to validate the appropriateness of any recommendations.

Step 3: What will be evaluated?

Having established the objectives of the evaluation and the people/groups that will be evaluated to achieve those objectives, it is then necessary to elaborate these objectives into a number of specific themes to ensure that the evaluation:

• clarifies any potential problems

• identifies the root cause(s) of these problems, and

• tests the practicality of specific governance solutions, wherever possible.

This is necessary whether the board is seeking general or specific performance improvements, and will suit boards seeking to improve areas as diverse as board processes, director skills, competencies and motivation, or even boardroom relationships. We suggest boards consider their specific objectives in light of a leading practice governance framework to establish the roles the board is expected to fulfil (see Table 2, for an example).

Table 2 Generic roles of a board5

Of course, a comprehensive list of areas for investigation will need to be balanced with the scope of the evaluation and the resources available for the project. At this stage a realistic assessment of the resources available, a component of which is the time availability of directors and other key governance personnel, can be made.

Step 4: Who will be asked?

The vast majority of board and director evaluations concentrate exclusively on the board (and perhaps the CEO) as the sole sources of in formation for the evaluation process. However, this discounts other potentially rich sources of feedback. Participants in the evaluation can be drawn from within or from outside the company. Internally, board members, the CEO, senior managers and, in some cases, other management personnel and employees may have the necessary information to provide feedback on elements of a company’s governance system. Externally, owners/members and even financial markets can provide valuable data for the review. Similarly, in some situations, government departments, major customers and suppliers may have close links with the board and be in a position to provide useful information on its performance.

After examining all potential sources of information along with their relative advantages and disadvantages, the facilitator must decide which sources to include in the review. This requires an understanding of three issues:

• in light of the specific questions identified in the previous step, who has the knowledge needed to make a valid and reliable assessment

• what is the level of board experience with, and openness to, the evaluation process and what is the impact on who should be asked, and

• what resources are available to collect the information from the required sources.

Step 5: What techniques will be used?

Depending on the degree of formality, the objectives of the evaluation, and the resources available, boards may choose between a range of qualitative and quantitative techniques. Quantitative data are in the form of numbers. They can be used to answer questions of how much or how many. Questions of ‘what’, ‘how’, ‘why’, ‘when’ and ‘where’ employ inqualitative research methods.

Most boards undertake evaluations without a clear view of the issues before them. When the evaluation’s objectives are to identify the key governance problems, screen alternative solutions and/or uncover new approaches, qualitative research comes to the fore. Qualitative data does, however, have several drawbacks.

The major drawback is that interpreting the results requires judgment on the part of the person undertaking the review and analysis. This is best addressed by using experienced researchers for the task and having several participants review the conclusions for bias. Bias can also be mitigated by using both quantitative and qualitative techniques.

The three main methods used for collecting qualitative data in governance evaluations are interviews, board observation and document analysis:

• the interview provides a unique opportunity to collect complex and rich data. It is an excellent way of assessing directors’ perceptions, meaning and constructions of reality by asking for information in a way that allows them to express themselves in their own terms

• observation of a board meeting is especially useful when the evaluation objectives relate to issues of boardroom dynamics or relationships between individuals

• documents can also be a rich source of information in the governance evaluation process. It can be a method of triangulation for use in conjunction with other data collection techniques.

While quantitative data lack the richness of qualitative data, they have the advantage of being specific and measurable. Surveys are by far the most common form of quantitative technique used in governance evaluations and can be an important information-gathering tool. It is vital to understand, however, that surveys are attitudinal instruments.

There is no best methodology. Research techniques need to be adapted to the evaluation objectives and board context.