To Board or Not to Board… A Primer for Forming a Board of Directors
Wednesday, July 1, 2009 at 03:06PM 
“I need to put together a board of directors. Can you help me out?”
“Why do you need a board of directors.”
“Because I need some good business advice”
“Tell me again why you need a board of directors.”
So goes the typical conversation about small companies deciding to take a more formal approach to managing their companies. As the company begins to grow, several transitions occur. New processes become important like marketing and sales management. A good set of financial documents needs to be developed and maintained. Cash needs to be managed properly and, of course...there are shareholders. A mentor or key advisor may not have expertise in one or more of these areas. You can’t afford to hire a CFO yet and you don’t have a clue about why a balance sheet is necessary. Time for a board of directors right?
Not necessarily.
Key Roles
A good place to start is to identify which key roles are necessary for the company to be successful. There are certain specific roles that must be filled in any company. Some of them are formal, others are more informal but no less important. Here is a typical list to consider. There may be others depending on the specific needs of the company.
Formal Roles
· Finance
· Technology
· Marketing
· Management
· Merchandizing (Sales)
Informal Roles
· Bob the Builder – Someone who has built a company from the ground up and knows what needs to be done
· Market Man – Someone who has lived in a specific business and knows the customers and competition
· Dr. Fixit – the person who has the maturity and experience to help find solutions to difficult problems
· The Enforcer – the one who knows all about the legal issues and has the fortitude to step in when necessary to keep the founders out of jail.
· Mr. Connections – this person knows people who have money or who can help forward the business in other ways.
· Captain Geek – This person lets you know if your engineers have switched from caffeine to some other type of illicit stimulant.
Advisory Board
Once key roles are defined and evaluated, the next step is to form an Advisory Board made of people who fill the roles that were found lacking in the company management team. This group is the sounding board for the CEO and assists in devising the corporate strategy. They may even serve in an accountability role by providing a forum for the CEO to present progress toward fulfilling the strategy, receive feedback and help keep things on track.
There is no prescribed formality to forming a board of advisors. That is to say that the board can be as big or small as the CEO wishes it to be. There is no legal obligation of these people on behalf of shareholders or investors. The role is purely advisory. There is no requirement to meet on any regular schedule. The reason these people would choose to be involved is typically because of the relationship they have with the founder and their desire to have a role the company’s success.
For many companies, an advisory board is all that is needed. Even if the company does form a board of directors, the CEO may choose to retain a technical advisory board or assemble a board of coaches and mentors outside the formal board of directors.
Board of Directors
A primary difference between an advisory board and a board of directors is that a board of directors is a formally organized group that has a fiduciary responsibility to act in the best interest of the shareholders of a corporation. The primary responsibility of the board is to ensure that management is doing its job. This responsibility has legal implications and is more relevant to larger, publicly held companies than small closely held startups. Fiduciary requirements of board members include avoiding conflicts of interest, not putting personal interests first and board members must not profit from their relationship with the company (not to be confused with appropriate compensation discussed below).
When a company incorporates as a C-Corp or S-Corp, they are required to name a board of directors and have at least one board meeting annually. This group would typically include the founder(s) and maybe a close advisor and/or a private investor. At this point, the board fulfills a legal obligation relative to its incorporation but its authority is largely symbolic since the board is fully controlled by the company owner/founder.
And now, the answer you’ve been waiting for...
The time for a small company to consider forming a board of directors is when they take on external investors and shareholders. In fact, venture capital investors will require the company to form a board where they will have a seat. The president of the company then becomes the chairman of the board and typically takes on the title of CEO. In representing the shareholders, the board has the authority to fire and replace the chairman and set his or her compensation. Board meetings will occur more frequently, typically quarterly but in some cases monthly.
When a company decides it is time to form a board of directors, it is best to consult an attorney, who can explain in detail the implication of forming and having a board. For example, the attorney will have templates of bylaws which set the meeting schedule and the rules for conducting board meetings.
Author Contact
Shawn Carson
Reader Comments (4)
Shawn,
Great Blog. I just heard about it through the grapevine. Do you have any feel as to whether a board of advisors helps increase the success rate for startups? While the first reaction might be to say yes, I was wondering if there was any data to back that up. CEG has probably been exposed to more startups than anyone around so would likely have a better answer.
Great question William and thanks for being the first "outsider" to post a comment. We do not have specific statistics on success rates of companies that either have or do not have boards of advisors. I would relate it back to gathering Validations. If you are able to engage an advisor who is recognized in thier field of expertise, it shows that you have created enough value in your company such that someone is willing to lend their name and reputation, as well as their time and expertise, to help you be successful. Be real though... I have seen companies put names on their business plan and website for the very purpose of showing legitimacy when they do not actually the the permission of the person they are promoting as an advisor. This can kill your credibility in a hurry. Anyone doing their homework will figure out quickly if you have lied about who your friends are.
Do LLCs generally form a board of directors?
LLC's are not required by law to have a board of directors. By the same token they are not prevented from doing so. One of the foundational reasons for having a board is to exercise that fiduciary responsibilty acting in the best interest of shareholders. If it makes sense for a board to activly make strategic decisions and provide accountability for the management team, then you may choose to form one. Otherwise, most avidsory capacity can be accomplished with advisory boards.
Hope that helps...