Many small and medium-sized enterprises (SMEs) are owned and managed by the founder(s), sometimes with the involvement of family members, and in the early stages of the life of a small or medium-sized company there would seem to be little reason or motivation to appoint independent non-executive directors to the board. However, as an entity grows in size, complexity and, hopefully, market share, there may well be a need for, and advantage in, having diversity and independence of thought in the direction of the company.
All members of the board, whether executive, non-executive or independent non-executive have a legal duty to act with independence of mind in the best interests of the organisation.
Firstly, what exactly is an “independent non-executive director”?
The Companies Act and King IV define a director as “a member of the board of a company, as contemplated in section 66”. There is no definition in the Act of ‘Independent’ or ‘non-executive’. Accordingly, all directors have the same responsibilities.
King IV, however, explains independence as follows: “When used as the measure by which to judge the appearance of independence, or to categorise a non-executive member of the governing body or its committees as independent, it means the absence of an interest, position, association or relationship which, when judged from the perspective of a reasonable and informed third party, is likely to influence unduly or cause bias in decision-making”.
Why appoint independent non-executives?
- Appointing independent non-executive directors does not, in itself, ensure the entity’s governance is enhanced.
- However, establishing a well-balanced governing body is a meaningful step towards good governance. The King IV code states: “The governing body should comprise the appropriate balance of knowledge, skills, experience, diversity and independence for it to discharge its governance role and responsibilities objectively and effectively”.
- Bringing in additional skills, experience and thought to the leadership of the entity has the potential of enhancing the ability of the board, recognising and dealing with risks and opportunities, and even lifting quality and effectiveness of the deliberations in the board.
- Non-executive or independent non-executive directors are charged with maintaining an arms-length relationship with management, exhibiting professional scepticism and bringing independent judgment to bear on issues of strategy, risk management, performance and resources including key appointments and standards of conduct. Non-executive directors may not have any operational capacity within the entity; no employment relationship; not be a major supplier or major customer and should not be rewarded on the basis of the entity’s performance.
- An entity recognised for its strong ethical and effective governance will likely attract more business as a trusted partner. After all, while a company requires a licence from CIPC (Companies Intellectual Property Commission) to commence business, it also needs a Social License to Operate!
What should the independent non-executive director bring to an SME?
- Someone, as mentioned above, who will bring specific skills and a range of business experience of relevance to the entity. While it may be helpful to have experience in the entity’s particular industry, diversity of experience in other sectors such as, for example, the financial sector, could add value.
- Clearly, an understanding of the business and the industry is essential in order to make a positive contribution. A non-executive director is expected to make a creative contribution to the board by providing objective and constructive challenge and advice.
- Owners and management of an SME should not seek to appoint independent non-executives who will simply reflect management’s views, but accept that honest, respectful and robust challenge should be expected and encouraged.
What qualities should you seek in an independent non-executive director?
Clearly, an independent non-executive director should exhibit appropriate behaviour, have a strong ethical stance with absolute integrity; a disciplined and dedicated approach to the role together with a good understanding of the requirements of good governance, controls and risk and opportunity management.
A knowledge and understanding of the regulatory environment of the entity together with the key players and risks in the supply chain and customer base (the entity’s market) is an added advantage.
What should you offer a new appointee to your board?
Any new independent non-executive should insist on an induction programme together with appropriate Directors’ and Officers’ indemnity cover.
Realistically, most SMEs may not be able to offer competitive fees, compared to large or listed companies. The Institute of Directors in South Africa issues a useful annual guide to directors’ fees. SMEs should consider making use of this resource in determining the level of fees they are able to afford.
Furthermore, they need to consider how the fees are determined i.e. per meeting attended; a retainer regardless of meeting attendance or a combination of both – retainer plus per meeting attended. The SME should also undertake annual director’s performance evaluation.
A non-executive and independent non-executive director needs to balance the contribution they can make in considering an appointment where the fees are, perhaps, not quite at the level they expect. Serving on NPO (Non-Profit Organisation) and SME boards is an opportunity to ‘put back’ their experience and skills. They should consider the responsibility and risks they undertake against the potential contribution they can make to these essential sectors of the economy.
For additional reading:
The Companies Act, Act 71 of 2008, is downloadable from the University of Pretoria’s “Laws of South Africa” website – find it under “Companies and Close Corporations” and see particularly the definitions and sections 66, 68, 69, 71 and 73 to 78 dealing with directors.
Read the King IV Report and Code Parts 6.1 (page 75) and 6.5 for the Supplement relating to SMEs here.
Read the Non-Executive Directors’ Fees Guide© 5th Edition here.
The article is a general information sheet and should not be used or relied upon as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice.