BOARDROOM ISSUES - Do FDs make good non-execs?

Take a good look at the people around the table at the next board meeting. Chances are nearly every second face will be that of a non-executive director. According to recent research by non-executive director consultancy Pro Ned and the Institute of Chartered Accountants in England and Wales, the proportion of non-execs on company boards is steadily increasing as the size of the average board declines.

Another quick look will reveal that a surprisingly small proportion of non-execs have a background in finance. This, despite the fact the non-exec is increasingly expected to be involved in areas with a distinct financial flavour: participating on audit and remuneration committees and keeping a close eye on the company’s management of risk. Are company boards overlooking the potential value a finance director can bring to the non-executive role? Or are FDs simply less likely to be suited to the task?

The increased presence of non-execs in British industry has been influenced by initiatives such as Cadbury and Greenbury and the growing voice of shareholder pressure groups. Sir Adrian Cadbury’s committee on corporate governance recommended greater independence of the non-exec selection process and role, while the Greenbury committee put increased responsibility on the shoulders of non-execs in terms of monitoring director remuneration.

The Pro Ned survey, based on a sample of 504 chairmen of listed companies, shows that 96% of companies with a turnover in excess of #2bn now have non-exec involvement in both their audit and remuneration committees.

For companies with turnover of less than #25m there is still a high non-exec involvement, with 87% of companies having non-execs on their audit committees and 79% with a non-exec presence on their remuneration committees.

Even for smaller, unquoted companies, many of which are under considerably less pressure to adopt the Cadbury recommendations, the non-executive director has become a more significant member of the board. Research carried out by Professor Roger Hussey, the Deloitte & Touche fellow in financial services at the Bristol Business School, concluded that small companies, defined as those with turnover of less than u11m, which achieved the highest net profit during the recession of the early 1990s were more likely to have non-executive directors on their boards than not.

Hussey’s research also highlighted the lack of financial and technical skills in small businesses, which again might suggest finance directors should have a useful contribution to make to small companies on a non-exec basis. Yet, according to Hussey, this is not necessarily so.

“People who have been finance directors of large companies often don’t have the sympathy to deal with the practical day-to-day issues that arise with smaller companies,” he says.

“If you are going to be useful as a non-exec you have to have business experience as opposed to just accounting experience. Someone who has been a finance director and just looked after the books and statutory accounts is going to be of little value to a small business.

“Many small companies are not strongly driven by the desire to constantly improve financial performance – they are often run by families who happily settle for a reasonable return and an easy life. They don’t want a finance director coming along and telling them how to squeeze every last penny from the business.

“On the other hand, a finance director can bring great skills and knowledge of accounting matters which are so often lacking in smaller companies.”

Michael Snyder, senior partner of Kingston Smith, the founders of Gro-Ned, a specialist register for non-execs for smaller companies, says “relatively few” finance directors take non-executive directorships in small businesses.

“I suspect it is because they are already terribly busy. Also they may fear their reputation will be damaged if a small company with which they are associated goes under.”

Snyder says small companies which do not have a finance director may seek to appoint an FD as non-exec with the aim of importing his or her financial skills into the company. “While this is sometimes necessary, non-execs are much more useful in giving advice on strategic and organisation issues such as marketing, networking, innovation, exporting and strategic development.”

One of the real problems is getting people to be good non-execs, regardless of their background, says Snyder, who admits the trend towards using non-execs in smaller companies “is not accelerating as it should”.

“I am convinced if the right type of non-executive directors were used more widely and effectively, the UK’s all-important smaller company sector would further enhance its vitality and success.”

Non-execs should be appointed to challenge the board, to stimulate debate, to make the executive directors more accountable to shareholders and to ensure business decisions are reached after proper consideration, he explains.

The ideal non-exec has the ability to listen and to be able to express his or her views in a constructive and unbiased way. “Non-execs must be able to speak their mind without fear or favour, which means that while it is important they are sufficiently close to the organisation to have a thorough understanding of its core objectives, they should not be financially dependent on the non-exec role,” he says. Dependence on the non-exec fee – which ranges from #5,000 a year for small companies to more than #25,000 for companies with over #2bn turnover – would discourage a non-exec from expressing views that were likely to be unpopular with the management.

The need to be able to offer more than corporate accounting skills to the non-exec role is just as important in large companies, says Pro Ned chief executive Yve Newbold.

“Companies won’t want to take on someone who appears to be replicating or second guessing the company’s own finance director,” she says. “But what companies might want is a finance director who has gone on to become a chief executive who will have a thorough understanding of the figures as well as the entrepreneurial spirit to drive the company forward strategically.

To be a non-exec you really have to understand the strategic role.”

Her point is clearly evidenced by the strong presence of FTSE 100 finance directors – who typically take a “hands on” role in corporate strategy and broader management issues – on the boards of other companies in the non-exec capacity.

For example, Brian Birkenhead, chairman of the 100 Group of Finance Directors, is a non-exec at printing group De La Rue, Henry Staunton, finance director of Granada, is a non-exec at publishers EMAP and Christopher Pearce, finance director of Rentokil Initial, serves as a non-exec for the Burton Group.

“There is a view, with which I don’t concur, that FDs make good non-execs because they are strong on numbers and technical skills,” says the finance director of a FTSE 100 retailer who sits on the board of a transport company as a non-exec. “But what any non-executive director brings to a business is experience from other markets and businesses. A good non-exec brings a different perception and is capable of looking at the issues from a different angle. If a finance director cannot do that then he has no place as a non-executive and boards should not look to make the appointment purely on the grounds of the FD’s financial background.

But James Noble, the former finance director of British Biotech, argues that a thorough understanding of a specialist market or experience dealing with financial institutions can be just as valuable to the non-exec role as a generalist business background.

Noble, who holds non-executive directorships with healthcare group Innovative Technology, Oxford Glyco Sciences, a biotech company involved in the development of glyco proteins, and Powderject, a company developing needle-free injection technology, says he adds value to these boards because of his experience in the biotech sector.

“Biotechnology is a very peculiar industry. The finance director of a biotech company is a money raiser first and foremost and is primarily there to make sure the money does not run out,” he says. “The biotech FD plays a much more crucial role in creating a company that is credible with investors and will be closely involved in strategic decisions.”

Noble, who previously worked in the corporate finance department at Kleinwort Benson, says his merchant banking experience has been helpful. “Anyone who has worked only as an accountant may find it difficult to step into the non-executive role, especially if they have had little exposure to the City.”

Robert Shrager, finance director of Dixons, also believes that his past experience as a corporate financier with Morgan Grenfell enhanced his candidacy for a non-exec role at RJB Mining. “At the time I was appointed as a non-exec, RJB Mining were looking to raise capital to acquire some of the British Coal operations, so my City experience and contacts with institutions made me a natural candidate,” he says.

James Sexton, who served briefly as finance director before taking on the chief executive mantle at Southampton-based Southern Newspapers and who is a non-exec of department store group Beale, says a finance background should not be underestimated.

“Financial qualifications are useful to the non-exec in terms of evaluating a company’s report and accounts and understanding its reporting practices,” he says.

“Business life is more complex and more regulated these days and there is a greater need for non-execs to help provide a better balance. This is especially true of companies which are relative newcomers to the stockmarket.”

An intelligent, experienced and business-minded outsider, especially one who is comfortable with finance, is best able to put the incumbent management team to task by asking apparently simple questions about the daily running of the organisation, he adds.

Christopher Pearce, finance director of Rentokil Initial, agrees, claiming there is a compelling case for companies to have at least one finance person among their non-executives.

“On any board you need to have a spread of characters and abilities.

This ensures a range of different approaches to a particular decision or problem and helps the board get the best result.

“I think it is sensible to have finance directors serving as non-execs because they bring a particular skill and approach to the task. They are more likely to ask ‘what is the financial effect of this?’, ‘are we putting too much capital in this project?’ and ‘are we going to be getting the right returns?’.

“At the same time, it would not be sensible to have only finance directors as non-execs. As ever, it’s a question of balance.”

So why would finance directors want to add to what, in many cases, are heavy workloads by taking on non-exec positions? Although most company boards meet just ten times a year, pre-meeting preparations and post-meeting consultations can make a non-exec directorship a time-consuming commitment.

Shrager believes a full-time FD could not afford the time to participate on the board of any more than two other companies. But the reward for doing so, he says, is the ability to get broader experience of other sectors and boardroom cultures.

“This is particularly true for those finance directors who have only worked with one company or within one sector. A non-executive directorship also can provide main board experience to those who have never served at board level.”

But finding a non-executive directorship can be difficult. While an increasing number of those seeking a non-executive position are registering with organisations such as Pro Ned, Gro-Ned and the Institute of Directors, a high proportion of appointments are still made through personal contacts and “word of mouth”.

Despite pressure from Cadbury for more open selection processes, many companies still appoint non-execs who have been personally recommended by their chairmen. The Pro Ned research found that in 53% of cases an individual was already in mind from the start of the appointment process.

As the finance function evolves and finance directors take on broader, strategic responsibilities within their organisations, it is inevitable that more FDs will find their way onto non-exec seats as their skills become more neatly aligned with those expected of the post-Cadbury non-exec.

As James Noble points out, “finance directors do make good non-execs but they have to be selected carefully.

“You need someone who is going to be used to dealing with the City and investors rather than someone who is effectively a corporate accountant.”

by Lucinda Horne.