Skip to main content

Get On Board: Understanding The Role of Corporate Directors

Get On Board: Understanding The Role of Corporate Directors Insight

When it comes to calling the shots at a public company, CEOs run businesses on a day-to-day basis and are often in the limelight. But there’s another group of people who shares in the oversight of company business—the board of directors.

A public company’s board of directors is chosen by shareholders, and its primary job is to look out for shareholders’ interests. In fact, directors are legally required to put shareholders’ interests ahead of their own. In general, the role of the board is to provide high-level oversight of corporate activities and performance, while some individual board members may take on more involved or activist roles.

Directors’ actions can have a critical impact on a company’s profitability. As such, it’s important for investors to understand the role of corporate boards—and your own role in electing them.

Once a year, during proxy season, shareholders have an opportunity to vote on at least some members of the board of a public company. This is your chance to have a say over who leads the company. You’ll want to scrutinize the proxy materials. Take a close look at who has been nominated to serve on the board, and ask questions before you make your decision.

Here are some of the factors you may want to consider.

What Are Some of the Key Duties of Directors?

Directors weigh in on such matters as strategic planning, mergers and acquisitions, share repurchase programs, declaring dividends and nominating future board members. They’re also responsible for hiring and firing the CEO and for setting the compensation of senior executives.

Boards are organized around committees that focus on specific functions. For instance, the audit committee works with a company’s auditors, while the compensation committee oversees matters such as executive pay rates, profit sharing, bonuses and employee stock options.

Some types of board committees are required for public companies and must meet certain standards for independence, while others are up to the discretion of the company. It’s not uncommon for working groups or special committees to pop up from time to time to address specific issues as needed.

Who Are the Members of the Board?

Corporate board requirements are set in the company’s bylaws and subject to state and federal legislation, as well as stock exchange listing standards.

For example, the New York Stock Exchange and Nasdaq require listed companies to have boards with a majority of independent directors and to include independent directors on key board committees such as the audit and compensation committees.

Corporate boards typically include a mix of inside and outside members. Inside directors are company executives, while outside directors are non-employees. To qualify as an independent director, a member must meet an even higher standard. On top of being an outsider, they must have no material ties to the company. For instance, a close relative of a high-ranking executive or an individual with substantial financial dealings with a company would be seen as having material ties.

What’s the Board’s Role in Diversity and ESG Investing?

Individual shareholders vote for board members for many different reasons.  Recently, there has been a lot of public discourse around corporate diversity and environmental, social and governance (ESG) investing. In August 2021, a Nasdaq requirement aimed at increasing board diversity was approved by the Securities and Exchange Committee (SEC). The rule change requires listed companies to provide board diversity metrics and, with some exceptions, to have at least two members on their board who qualify as “diverse” or to explain why they do not. The new requirement reflects an increasing drive for companies to have boards of directors with members from traditionally underrepresented communities. This aligns with the rise of ESG investing, of which leadership diversity is one factor.

If diversity and other ESG factors, like climate-related disclosures, are important to you as an investor, you should consider the board’s corporate goals and strategic philosophy given its overall role in the governance of the company.  For example, you might ask whether the company has established ESG-related goals, whether board members support those goals, and what that means for the corporation and for you as a shareholder.

How Long Can Directors Serve?

The term length for members of a company’s board of directors, as well as whether members are subject to term limits, is established in a company’s bylaws. Term limits are relatively uncommon for corporate boards. Corporate boards also tend to see less turnover than nonprofit boards, with many members serving tenures of 10 – 15 years.

Many critics of long service terms say members might become too close with management or lack a variety of professional experience and competencies. However, others note that longtime directors bring important experience and institutional knowledge.

Investors might want to look for a mix of tenure lengths to combine knowledge continuity and fresh skills.

Can CEOs Also Serve as Board Chairs?

While having a single leader serve as both CEO and board chair is still common, especially among S&P 500 companies, a growing number of companies are choosing to separate the roles. At some companies, CEO succession has been seen as an opportunity for restructuring of roles, while others have found that increased workloads of boards and management support a need for two leaders.

In addition, activist investors and some corporate governance experts criticize what they see as an inherent conflict of interest when the person who runs the company day-to-day also heads the board tasked with overseeing the company’s management. Regardless of the reason, many major companies today are choosing to keep the CEO and chairman roles separate.

Companies where the CEO and chairman are one and the same have increasingly added another role, such as “lead director,” to monitor such issues as CEO performance. These non-management directors are typically board members who have responsibilities such as calling and chairing executive sessions and acting as a liaison between the CEO-chair and non-executive directors.

Learn more about evaluating investment performance and other investing basics topics.