CEOs Risk Exceeding Their Limits With External Board Seats Unless Taking a Balanced Approach
In the intricate tapestry of corporate governance, the decision for public company CEOs to serve on external company boards of directors has long been a subject of tradition and strategic consideration. Proponents argue that such external engagements enhance a CEO’s leadership acumen, broaden their network, and offer valuable insights. Conversely, a growing body of research suggests that a nuanced perspective is necessary to comprehend the full impact on executive performance. This article delves into the topic to provide an analysis for CEOs, board directors and industry experts.
Being a public company CEO is incredibly demanding. Within the life sciences sector, as with all other sectors, we have witnessed plenty of CEOs who have found adapting to the glare of public markets challenging. It is a very visible role and brings into sharp focus the leadership and performance of the CEO, many of whom will have limited experience leading a public company, either as CEO or in any C-suite capacity.
As private companies undergo IPOs, many freshly minted public company CEOs will emerge, some of whom will be tied to existing directorships, others tempted by the pull of opportunity. While 2022/23 saw a lull in new issuance, the life sciences industry’s requirement for capital to fund clinical and commercial programmes implies there will be more IPOs coming as a queue of private companies, led by their CEOs, seek to take advantage of the capital markets.
There is divided opinion about whether a CEO should fulfil external board roles when their primary commitment should be to the executive leadership of their company. In the PwC Annual Corporate Directors Survey, most directors (58%) agree that a CEO should serve on an additional board seat beyond their own board. In contrast, nearly one-third (31%) believe a CEO should serve on no external board. In this article, we will investigate these opposing viewpoints.
Firstly, let us establish the current U.S. guidance of proxy firms and investors regarding the recommended level of external board participation by sitting public company CEOs. Proxy advisory firms and institutional investors have taken an increasing interest in the board commitments of directors, and specific guidance is given relating to CEOs. While newly listed micro-cap or small-cap companies might not fall under these groups’ direct, immediate surveillance, the life sciences industry has many public companies that do, and this article seeks to consider the entire population of public company CEOs.
Glass Lewis: One external public board (two in total)
ISS: Two external boards (three in total)
Blackrock: Two public companies boards as an executive officer (including their own). Board leadership role (e.g. Chair) on a European board may be considered two seats.
Vanguard: Two Boards (Either two external or one external when serving on board of own company)
Fidelity: Two external unaffiliated boards (three board in total).
CalPERS: An executive officer can sit on one outside board (two boards in total).
NYC Comptroller: Two external boards (three boards in total).
These are not rules but voting policy guidelines. In 2020, Glass Lewis looked specifically at the issue of overboarding in biopharma and found that overboarding is more common in biopharma, more than double any other sector. The reason suggested is the high skill and experience quotient needed by serving directors in specialised biopharma fields, alongside the sometimes-challenging dynamics of attracting directors to serve pre-commercial entities with a higher risk profile. This analysis will be familiar to executives working in biopharma but may also suggest that insufficient efforts are taken to broaden the director pipeline. For example, a keen preference remains for appointing serving CEOs as directors when viable, often better alternatives exist.
The regulatory requirements placed on public companies from a governance perspective have only added to the complexity and risks associated with board service. However, despite the increasing demands directors are experiencing, senior executives, specifically CEOs, seem very willing to take on external board seats. So why do busy CEOs take on board roles?
The Positive Perspective:
Advocates of CEOs serving on external boards posit that the experience can profoundly impact executive performance in many positive ways. Research indicates that exposure to diverse industries and markets fosters innovation and adaptability, with CEOs bringing back invaluable strategic insights to their primary roles. It can increase understanding of the CEO role by observing another CEO and offering additional perspectives on the unique dynamics of boards. This cross-pollination of ideas is a catalyst for sustained organisational growth and resilience.
In a study of CEO directorships between 2000-2016, external directorships have seemingly declined since the introduction of Sarbanes-Oxley, and the quality has improved, with greater interest in serving companies where information and learning are likely to have some direct benefit to their own company. CEOs holding board seats at companies in a relatable company and industry, described in the study as ‘vertical’, are likely to experience a significant positive effect on the firm’s value and performance. Furthermore, external board seats within a related vertical industry improve the likelihood that a CEO will better address adverse market shocks and take advantage of positive ones (Hertz, Zhao 2019). The study argues that external board positions with companies unrelated to the CEO’s own industry will likely have a detrimental effect on the value of the CEO’s company and is associated with weaker governance.
A study by the Korn Ferry Institute underscores the networking benefits associated with external board service. Through their participation, CEOs can access a spectrum of resources, partnerships, and potential talent pools, enhancing their ability to attract and retain top-tier talent – a critical factor in achieving organisational success (Korn Ferry, 2020). The positive correlation between effective networking and organisational performance adds a compelling dimension to the argument for external board service.
While the networking benefits of external board service are widely acknowledged, CEOs must adopt strategies to maximise the positive impact on their executive performance. Strategic networking involves intentional relationship-building, identifying key stakeholders, and aligning external board service with the organisation’s broader strategic goals. CEOs who actively cultivate strategic networks, both within and outside their organisations, are better positioned to leverage the benefits of external board service (Brass et al., 2004).
Moreover, the development of leadership skills is a crucial aspect highlighted by proponents of CEOs engaging in external board roles. CEOs can refine their strategic thinking, crisis management abilities, and decision-making processes by navigating the complexities of different industries and corporate landscapes. This perspective is substantiated by research demonstrating a positive link between diversified experiences gained from external boards and enhanced leadership efficacy.
The value associated with board service experience among appointed CEOs is seen from data published by the Harvard Business Review (Tinsley, Purmal, 2019), which showed that 42 per cent of male CEO appointments and 59 per cent of women had prior public board experience. One conclusion from this data is that nomination and governance committees view public board service as a positive attribute in fulfilling the top job. The appointment to a public board may validate that an executive is recognised for having capabilities valued among their executive peers, indicating their readiness for the CEO office.
The Negative Perspective:
However, the allure of serving on external boards comes with challenges, as evidenced by a growing body of research. A comprehensive study published in the Academy of Management Journal cautions against CEOs spreading themselves too thin across multiple boards, leading to potential challenges in prioritising their primary responsibilities and consequent declines in firm performance (Zona et al., 2018). This highlights the delicate balance required when considering external board engagements.
Research also raises concerns about potential conflicts of interest stemming from CEOs’ involvement in external boards. In life sciences, the potential for conflict of interest is considerable, as companies commonly pursue prevalent diseases and seek to establish partnerships or make acquisitions in critical strategic areas, giving rise to regular conflict considerations. A McKinsey & Company report underscores the importance of balancing potential benefits with the risk of distraction, emphasising that excessive external commitments may divert a CEO’s attention from core strategic priorities (McKinsey & Company, 2021).
Mitigating conflicts of interest requires transparency, effective communication, and a clear understanding of the potential impact on executive performance. Research suggests that organisations can implement robust governance mechanisms to meticulously manage conflicts of interest, including clear disclosure policies, recusal protocols, and ethical guidelines (Baucus et al., 2018).
Boards and CEOs serving on external boards must be vigilant against the possibility of ‘interlocking’ boards. Rule 8 of the Clayton Act prevents the same person serving simultaneously as a board director or officer on the board of two competing organisations, subject to limited exceptions. Boards and the related committees should actively assess any ‘interlock’ contravention of the Clayton Act or anything that otherwise raises conflict issues. This should be a regular board process aimed at capturing conflicts which arise over time.
By adopting the appropriate measures, CEOs can engage in external board service while minimising the risk of conflicts that may detract from or otherwise inhibit their primary responsibilities.
Furthermore, the issue of time management emerges as a critical consideration in evaluating the drawbacks of external board service. CEOs are already stretched thin by the demands of their primary roles, and the additional commitments associated with external boards may impact their ability to focus on critical aspects of organisational strategy and performance.
Neither the CEO nor an independent director’s role operates in a continuous, steady state, with both being subject to activity peaks that can sap time, something CEOs can rarely afford. When stepping onto a board, it is impossible to predict future events requiring board input, ranging from significant crises, activist investor campaigns or CEO departures. A CEO must be mindful of time allocation and its impact on executive effectiveness in facing such external pressures.
The Balanced Approach:
Navigating external board service complexities demand a balanced perspective that acknowledges potential benefits and risks. When engaging in external board roles, CEOs must consider their circumstances, organisational contexts, and strategic priorities. This requires transparency and honesty on the part of the CEO, so that a careful examination and analysis of the circumstances can be performanced and assessed for their impact.
Regarding positive impact, the knowledge enrichment gained from exposure to different businesses, industries, and markets is a significant factor in favour of external board service. CEOs can leverage this knowledge to drive innovation, enhance strategic planning, and adapt to dynamic market conditions. The positive correlation between diversified experiences and enhanced leadership skills supports the argument for a balanced approach.
As highlighted by the Korn Ferry Institute’s findings (2020), networking advantages contribute to the positive perspective, emphasising the role of external board service in creating opportunities for strategic alliances, partnerships, and talent acquisition. Through their expanded networks, CEOs can tap into diverse pools of expertise and resources, enriching their organisations in the process.
However, the potential drawbacks demand careful consideration. Zona et al.’s study (2018) sheds light on the perils of CEOs stretching themselves thin across multiple boards, emphasising the need for strategic prioritisation to avoid compromising firm performance. The McKinsey & Company report (2021) underscores the importance of managing conflicts of interest and time commitments, cautioning against the detrimental effects of distraction on executive performance.
Additionally, a nuanced examination of the types of external boards CEOs engage with is essential. Research suggests that the impact on executive performance may vary depending on factors such as board size, industry alignment, and the time demands associated with specific external roles. CEOs should consider these factors when evaluating potential board service opportunities, ensuring alignment with their strategic goals and minimising potential conflicts of interest.
Conclusion:
In a world of rising regulatory requirements, investor scrutiny, and stakeholder pressure surrounding public company governance, the decision for CEOs to serve on external boards often demands a nuanced approach. While the potential benefits, including knowledge enrichment, networking advantages, and leadership skill development, are apparent, the risks of time mismanagement, conflicts of interest, and distraction require careful consideration.
The board of any company supporting their CEO to serve on an external board needs to be sure they have established clear governance protocols that manage the risks, such as conflict of interest or the potential for reputation harms, especially where the external board role operates in the same industry sector. Also, any dilutive effect on the CEO’s strategic focus and effectiveness as an executive leader is quickly detected and addressed. A board of directors can only continue to support a CEO serving external boards if they continue to derive value from it. The multifaceted nature of the impact necessitates a thorough understanding of individual circumstances, organisational contexts, and the strategic alignment of external engagements.
Complying with the guidelines set out by proxy firms or major investors does not necessarily mean a CEO should be given the green light by their own board to take up an external board seat, particularly if they are likely to be stretched by the commitments. For example, adding private company boards might not raise overboarding concerns, but undeniably adds to the workload a CEO has acquired.
In managing the impact of serving on external company boards, CEOs must recognise that the decision is not binary. Instead, it demands a strategic evaluation of potential benefits and risks, aligning external engagements with the overarching goals of their primary organisation. This includes careful diligence and targeted selection of external board seats, with clear agreements around expected service levels and the cadence of meetings, board calls and associated commitments. CEOs can position themselves to harness the positive impact of external board service on their executive performance if they are balanced, strategic, and, above all, honest about its value and their capacity limits.
References:
PwC and The Conference Board (2023). Board Effectiveness: A Survey of the C-suite.
McKinsey & Company. (2021). “Staying focused: CEO strategies for managing time.” McKinsey Quarterly.
Zhu, Pengcheng, Do CEOs’ Outside Directorships Affect the Performance of Their Own Firms? (June 2020).
Korn Ferry. (2020). “The CEO Report 2020: From Crisis Management to a New Vision of Success.” Korn Ferry Institute.
Hertzel, Michael G. and Zhao, Hong, Why Do Boards Let Their CEOs Take Outside Directorships? Entrenchment and Embeddedness (May 2019).
Zona, F., Gomez-Mejia, L. R., & Withers, M. C. (2018). “Diversification as a CEO Survival Mechanism: Evidence from the Dual CEO Market.” Academy of Management Journal, 61(6), 2206–2229.
Baucus, M. S., Norton, W. I., Jr., Baucus, D. A., & Human, S. E. (2018). “The Mediating Role of Moral Disengagement in the Relationship between Ethical Climate and Outcomes: A Study of Salespeople.” Journal of Business Ethics, 147(1), 177–196.
Boivie, S., Graffin, S. D., Oliver, A. G., & Withers, M. C. (2016). Come aboard! Exploring the effects of directorships in the executive labor market. Academy of Management Journal, 59(5), 1681–1706.
Tinsley, C.H, Purmal, K (2019). Board Experience is Helping More Women Get CEO Jobs. Harvard Business Review
Brass, D. J., Galaskiewicz, J., Greve, H. R., & Tsai, W. (2004). “Taking Stock of Networks and Organizations: A Multilevel Perspective.” Academy of Management Journal, 47(6), 795–817.
U.S. Justice Department’s Ongoing Section 8 Enforcement Prevents More Potentially Illegal Interlocking Directorates (2023)
2024 Glass Lewis Proxy Voting Policies
2024 ISS Proxy Voting Guideline – Benchmark Policy Recommendations (United States)
2024 BlackRock Investment Stewardship, Proxy Voting Guidelines for U.S. Securities
2024 Vangaurd Proxy Voting Policy for U.S. Portfolio Companies
2024 Fidelity Investments Proxy Voting Guidelines
2023 CalPERS Proxy Voting Guidelines
2019 The Office of the NYC Comptroller, Corproate Governance Principles and Proxy Voting Guidelines
