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					Small Business Boards
     of Directors
     Jim Elwell, 15 May 2008
Today’s Presentation

1. Books to read       5. Compensation &
2. Typical Boards         Liability
3. “Real Boards”       6. Directors’
  1. What is it?          Handbook
  2. Objections        7. Board Meetings
  3. Benefits          8. Board Evaluation
4. Creating a Board
Books To Read – 1

                    • Very methodical, step-by-step
                      approach to creating a Board
                    • Many forms and example
                      documents worth having
                    • A bit weak on topics such as
                      committees and document
                      retention
                    • Ideal if you have never had a
                      real Board.
Books To Read – 2

                    • Much more detail than 5 Steps on
                      Board duties, obligations, etc.
                    • Not as strong on forming a Board,
                      but some material.
                    • Excellent material on getting the
                      most out of your Board.
                    • Excellent list of Board & Directors'
                      duties
                    • Good material on family-owned
                      businesses.
Books To Read – 3

                    • Better for larger companies with
                      Boards in-place
                    • Whole chapters on audit and
                      compensation committees
                    • Best on topics like Minutes and
                      document retention.
                    • Includes chapter on becoming a
                      Director and improving your
                      performance as a Director
Advisory Boards vs.
Boards of Directors

• Advisory boards are not required for any company.
• Management can ignore the suggestions of
  Advisory boards.
• My personal experience on an Advisory board is
  that it was not effective.
• Nonetheless, much of what follows can be used
  with Advisory boards.
Statutory Requirement
for Boards

• State law requires that Corporations (C or S) have a Board of
  Directors
• Generally must have a minimum of 3 Directors
• No constraints on who can be a Director (owner, Mom, golf
  buddy, etc.)‫‏‬except age (18) & not incompetent
• Stockholders elect Directors either annually, or as specified
  in the Bylaws (with Article authorization)
• Most aspects of Boards are governed by the Bylaws
• Similar in all 50 states with minor differences
Corporate Bylaws

• Bylaws govern most operations of the corporation
   – who calls Board/Stockholder meetings
   – who gets to vote; record date
   – what constitutes a quorum
   – Director terms
   – Officer positions and responsibilities
   – Indemnification of Directors & Officers
   – How notice of meetings must be made
Typical Small Business
Boards

   • Often just the owner or owners plus a few family or
     friends.
   • Often never meet formally, even though required by
     law to do so.
   • Directors frequently have little or no business
     experience
   • Family Boards often are contentious and non-
     productive
   • Family/Friend boards have NO upside – only
     downside.
What Constitutes a
“Real Board”?
• Typically 3 members for very small companies (< $1M in
  sales), or 5 to 7 members for larger companies
• Ratio of “outsiders” to “insiders” should be at least 2:1.
  Preferably only one insider – the CEO
• Do not put your managers on the Board – you already get
  their input.
• Do not put advisors (banker, lawyer), vendors or customers
  on your Board.
• Outsiders should have varied experience, and lots of it –
  typically at least 50 years old
  Owner's Objections to a
  “Real Board” – 1
• Directors will see private information.
   – They cannot help you if they do not know what is going on. However, they
     are legally obligated to maintain confidentiality; you can also ask them to
     sign non-disclosure agreements.
• Directors will criticize my decisions.
   – Good Directors offer feedback and suggestions, and justify their suggestions.
• Directors will “take over” my company
   – Shareholders pick Directors, and usually can replace them during the year. If
     you own 50%+ of the stock, you have absolute control. If you own less than
     50%, you may still have effective control, since Directors have no interest in
     running your business.
Owner's Objections to a
“Real Board” – 2

• Directors might fire me.
   – This again relates to who owns the stock. Besides, if you have good
     Directors and they want to fire you, what does that tell you?
• Directors might force changes I do not like.
   – Directors do not “force” anything. They give you their best advice, and
     you mostly can ignore or follow it. Ignore it too often and your Directors
     will quit.
• Boards are not effective
   – Good Boards are extremely effective. This is proven by the fact that
     small companies with Boards have better success than those without.
Owner's Objections to a
“Real Board” – 3

• We do not have a strategic Plan
   – A good Board can help you develop one.
• My business is too small.
   – This is when you really need a good Board to help you overcome the
     hurdles to growth. It may be small and meet only four times a year, but it
     can be tremendously helpful.
• My managers will not like it.
   – They have the same question to deal with as you do: if a good Board
     offers advice you do not like, is it bad advice, or are your managers
     missing something important?
Owner's Objections to a
“Real Board” – 4

• I am too busy
   – Boards take time, perhaps 16 to 20 hours preparation per meeting
     (meetings are quarterly for most small companies). They save time
     in helping you avoid serious mistakes.
• Boards are too costly.
   – The cost varies with company size, and the value of a Board far
     exceeds its cost.


     The main function of a Board is to support and
    nurture the CEO, not beat him up. A good Board is
               a CEO's greatest champion!
Benefits of a “Real
Board”– 1

• Experienced, Unemotional, Objective Advice
   – Owners have few, if any, avenues for posing problems and getting
     unbiased feedback and advice. This is by far the most important service a
     Board provides to the closely-held business owner.
• Expanding your network
   – Five experienced Directors will have far more contacts than you do, in a
     wide variety of areas.
• Improving Accountability
   – You and your managers will be more accountable for your actions and
     failure to meet projections and expectations. The mere fact of having to
     answer to the Board improves performance.
Benefits of a “Real
Board”– 2
• Enhanced Credibility
   – Almost all outsiders, such as bankers, investors and customers find a
     business with an independent Board to be more credible than one
     without.
• Strategic Advice
   – Boards are outside the daily grind, and can often offer strategic advice
     that simply escapes the insiders, and offer fresh insight into
     Management's strategic planning.
• Protects the Shareholders
   – If you have Shareholders who are not involved in the business, you have
     a legal, fiduciary responsibility to them. Boards help you fulfill this
     responsibility.
Benefits of a “Real
Board”– 3
QSI Sales ($)
How to Create a
Board of Directors

Step 1 – Define Who You Need
• What skills are you (the owner) missing?
   – Be candid – you are not the best at everything!
• You need Directors who have expertise you do not.
   – Might include: Marketing, Sales, Operations, Finance,
     Administration, Strategic Planning, Human Resources, Engineering,
     Mergers & Acquisitions, Franchising, etc.
• Decide which skills to put on your Board.
   – You will only have 2 to 6 seats to fill. Which of the many areas are
     most important to your long-term success.?
How to Create a
Board of Directors
Step 2 – Write a Board Search Memo
• Define the skills/positions you are looking to fill.
   – Do not be too specific – you will not find perfect matches. Include
     experience level, integrity demands, prior Board experience, etc.
• Describe your company
   – This Memo is the first thing most potential Directors will ever see about
     you. Tell them who you are, what you do, what your plans are for the
     future.
• Describe the responsibilities of being on your Board.
   – Number of meetings, need to come to meetings prepared, etc.
   – See Exhibit 1 – QSI's most recent Board Search Memo.
How to Create a
Board of Directors
Step 3 – Network & Interview
• Send your Board Search Memo to anyone you know who might
  know good, potential Directors.
   – Attorneys, accountants, bankers, CEO members, clergy, people you know
     are Directors, etc.
• Follow up promptly
   – Contact candidates, meet them, ask them for bio information (i.e.,
     résumé). At the meeting, discuss their business experience.
• Rate your candidates
   – Prepare a rating chart of important characteristics; use it to
     unemotionally evalute your candidates.
   – See page 86 of 5 Steps to Board Success
How to Create a
Board of Directors
Step 4 – Select & Recruit
• Send your preferred candidates more information.
   – How they will be compensated, high-level financial statements,
     description of your indemnification Bylaws and D&O insurance.
• Ask them to join your Board
   – Most candidates are honored to be asked, and are very serious about
     wanting to help. Most will accept.
• Elect them to your Board
   – Mid-year appointment by current Board, election by stockholders, etc.
     Follow your Bylaws!
• Send Director's Handbook, schedule meeting dates.
   – Handbook is described later in this presentation.
Compensating
Directors
• Some combination of
   – Annual retainer: $0 to $2k per year
   – Per meeting fee, in person (local): $250 to $1500
   – Per meeting fee, in person (out-of-state): double the in-state fee
   – Per meeting fee, teleconference: about ½ of in-person
   – Expenses: mileage, airfare, hotel, etc.
   – Stock or Options: none to 0.2% of issued stock per year
   – Opportunity to help a small, growing company!
• Top-quality Directors are worth more than you can afford.
   – They serve because they want to help, not for the money. The modest
     amounts above are an honorarium, not consulting fees.
QSI's Director
Compensation
• As of the 2008-2009 term (sales ~$20M)‫‏‬
   – Annual retainer: $2k per year
   – Per meeting fee, in person (local): $1000
   – Per meeting fee, in person (out-of-state): $2000
   – Per meeting fee, teleconference: $500
   – Expenses: mileage, airfare, hotel, etc.
   – Stock or Options: 5k share option, vesting over 3 years
• Total cost (4 outside Directors, one out-of-state): about
  $32,000 plus 20k shares (about 0.7% of outstanding).
   • 14 years, 10% increase in stock issued, 11X increase in revenue.
Director Liability
Concerns
  • The one issue that might keep Directors off your Board
    is Liability concerns
     •   You must provide indemnification – check your bylaws
     •   Consider obtaining Directors & Officers (D&O) insurance – it
         is not cheap, but some people will not serve on a Board
         without it
     •   QSI's D&O insurance: $2M policy, $5500 per year
  • In reality, the likelihood of a Director getting sued for
    his/her performance on a small company Board is very
    small
     •   According to Creating Effective Boards (page 80), risk of a
         D&O liability claim for companies under $25M assets is less
         than 2% over a 9-year period.
Board of Directors'
Handbook – 1

• A vital tool – do not dismiss it!
   – Helps orient new Directors
   – Provides a wealth of necessary information in one place
   – Ensures Directors are informed of important issues such as their
     obligations as Directors
   – Discusses general Board operation
   – Gives them direct access to your Bylaws. In general, improves the
     productivity of Board meetings
Board of Directors'
Handbook – 2
Sections of the Directors' Handbook
• Mission & Vision & Philosophy
   – A page or two that help Board members know why you exist and what
     you are trying to do.
• History
   – Where you have been, how you got where you are
• Products & Markets
   – A detailed discussion of what your company does, the customers and
     markets it serves, and who your competitors are
• Board Charter (purpose, goals, etc.)‫‏‬
Board of Directors'
Handbook – 3
• Strategic Summary
   – What is your business model? What is your strategy for success?
• Organization
   – Ownership of the company; names & ownership of major shareholders
   – Organizational Chart, at least three levels deep
   – Key advisors – attorneys, accountants, etc.
   – Executives – include pictures and biographical information
   – Board – pictures & biographies current Directors
• Financials
   – Current Balance Sheet, Profit & Loss, Cash flow
   – Projections for the current year
   – Most recent Audit Report
Board of Directors'
Handbook – 4
• Articles of Incorporation, Bylaws
   – These are the legally-binding governance documents
   – Helps Board understand its duties
• Board Policies – how the Board is run
   – Director General Responsibilities
   – Director Legal Responsibilities
   – Scope of Activity (i.e., stay at a high level)‫‏‬
   – Director compensation policy
   – Code of Conduct
   – Procedural Rules
       • Mostly informal, but take formal votes on agenda items
Board of Directors'
Handbook – 5
• Board Policies – continued
    – Board Committees
       • Audit Committee
       • Compensation Committee
       • Committee responsibilities & authorities
    – Document retention policy (very important!)‫‏‬
    – Succession Plan (tells the Board what to do if you get run over by a truck)‫‏‬
    – Board Evaluation Policy
    – Activity Lists – Board Do's and Don'ts
•    Use three-ring binder; tabbed sections for quick access
Board of Directors'
Handbook – 6
     List of Director Duties
     •   Review corporate objectives
     •   Monitor corporate performance
     •   Adopt or change bylaws
     •   Approve amendments to articles of incorporation
     •   Elect corporate officers
     •   Set senior officer compensation
     •   Approve any merger, acquisition or sale
     •   Recommend dissolution
     •   Approve dividends
     •   Many more – see Table 2, page 50, in Creating
         Effective Boards
Prior to the
Board Meeting
• Have a half-day Orientation the day before a Director's first
  Board meeting
   – Give them a Facility Tour, show them your products, etc.
   – Have them meet all senior executives
   – Compensate the Director with ½ of a meeting fee.
• Have a pre-meeting Dinner (night before) or Breakfast (day of)
  the Board Meeting
   – Lets Directors get (re)aquainted.
   – Allows time for personal discussions (“how are the kids?”)‫‏‬
   – Provides better focus on business at the actual meeting
   – No compensation
Running Board
Meetings – 1

• Prior to the Board meeting
   – Have an Agenda and supporting documentation distributed at least
     one week prior to the meeting!
• Agenda Guidelines
   – Put times on each item; keeps the meeting on track, indicates item
     importance to Directors
   – Agenda items should be descriptive enough that Directors do not
     have to guess at what the discussion will be.
      • “Inventory” is not an adequate description
      • “Discuss large obsolete inventory write off” is much better
Running Board
Meetings – 2
• Agenda Guidelines (continued)‫‏‬
   – Use the Agenda to keep the discussion at a high level; keep the Board
     out of day-to-day management
   – Always have an Agenda item setting the dates for the upcoming
     meetings one year in the future!
   – Always have an Agenda item approving the minutes from the prior
     meeting.
   – Try to keep the “housekeeping” items to no more than one-half of the
     meeting. Leave half for substantive discussion of big issues.
   – If you can, send a preliminary agenda earlier than one week, especially if
     there is a lot of reading to do.
   – See Exhibit 2 ̵̶̵ Sample QSI Agenda
Running Board
Meetings – 3
• Minutes
   – Minutes must record formal decisions by the Directors.
   – Minutes should record any objections by any Director to actions taken by
     the Board as a whole.
   – Do not record the details of discussion that take place, only the decisions
     that are made.
   – A four-hour meeting should generate no more than two pages of
     minutes.
   – The rule is: If it is in the minutes it is a permanent part of company
     records. If it is not in the minutes it did not happen.
   – Minutes that are too detailed are dangerous to Directors in case of
     lawsuits.
Running Board
Meetings – 4

• Boards should stay at the big picture, strategic level
   – Do not let Directors get involved in day-to-day operations
   – The Chairman (& all Directors) should be ready to say “That is an
     operational issue, not something the Board should spend time on.”
• Listen, Listen, Listen
   – You are paying money and time to have your Directors there – LISTEN TO
     THEM!!
   – You should spend far more time listening and asking questions than
     preaching to your Directors.
Running Board
Meetings – 5
• Committees
  – Review your Bylaws for committee requirements.
  – Almost certainly the Board should set the CEO/President pay.
      • A compensation committee should be formed to do this, and it will
        not include the CEO.
  – Committees serve at the pleasure of the Board, and can be formed and
    disbanded as the Board desires. Their main purpose is to relieve the
    Board as a whole of time consuming research, resolution writing, etc.
  – In general, a committee is obligated to perform the tasks assigned to it,
    and has no authority not specifically granted by the Board.
Running Board
Meetings – 6
• Committees (continued)‫‏‬
   – Committee Chairmen are either appointed by the Board upon formation
     of the committee, or, if not, the Committee members pick their own
     chairman.
   – Be sure to have a committee guideline such as:
      • Any Director may communicate with any committee member at any
         time. Substantive communications should be copied to the
         committee Chairman, who determines what committee discussions
         are read into the official minutes of the Board.
   – An Audit committee is essential if you have an annual Audit done. The
     Audit committee communicates directly with the audit firm, and must
     not contain any inside Directors.
Board Evaluation

• Boards that self-evaluate improve every year; those that do not
  self-evaluate may not improve.
• Good Directors want feedback to help them perform better.
• Have Directors fill out evaluation forms at the end of each Board
  year
   – Excellent forms and process in 5 Steps
• Do something with the evaluation!
   – Replace poor performers, provide materials or training where lacking,
     etc.
Summary

    • Real Boards dramatically improve small
      business success.

    • Real Boards cost significant time and
      money to create and operate.

    • The return of a Real Board far exceeds its
      costs.

				
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