Governing Body Composition

Governing Body Composition

Corporate Governance Network

August 2017

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Contents

Page

Introduction

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Purpose

3

Knowledge, skills and experience

3

Diversity

3

Independence

4

The governing body composition matrix

4

Size

5

Executive representation on the governing body

5

Rotation and succession

5

Performance evaluations and removal of underperforming members

6

The role of the committee responsible for nominations

6

Conclusion

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Annexure A ? IoDSA Director Competency FrameworkTM

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Annexure B ? Governing body composition matrix example

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Annexure C ? King IV recommendations on disclosure of governing body composition 9

Annexure D ? Summary from King IV Sector Supplements on governing

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body composition.

The information contained in this paper is published by the Corporate Governance Network (CGN) and is provided for discussion purposes only. As such, it is intended to provide the reader or his/her entity with general information of interest. The information is supplied `as is' and has not been compiled to meet the reader's or his/her entity's individual requirements.

It is the reader's responsibility to satisfy himself or herself that the content meets the individual's or his/ her entity's requirements. The information should not be regarded as professional or legal advice or the official opinion of PwC, the Institute of Directors in Southern Africa and/or individual members.

No action should be taken on the strength of the information without obtaining professional advice. Although the CGN takes all reasonable steps to ensure the quality and accuracy of the information, accuracy is not guaranteed.

The CGN shall not be liable for any damage, loss or liability of any nature arising directly or indirectly by whomever and resulting from any cause in connection with the information contained herein.

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Introduction

Governing body composition is a critical element of organisational success, as the governing body plays the role of steering the organisation and setting the strategic direction; approving policy and planning; overseeing and monitoring implementation thereof as well as ensuring accountability.

Whilst shareholders are generally responsible for appointing members to the governing body, governing bodiesthemselveshaveacritical roletoplayininfluencing and advising shareholders on their composition needs. The King IV Report1 (King IVTM), Principle 7, Practice Recommendation 6 states that: "The governing body should assume responsibility for its composition by setting the direction and approving the processes for it to attain the appropriate balance of knowledge, skills, experience, diversity

governance role and responsibilities."

This means that the governing body needs to understand what its specific needs are, and apply a mindful approach (i.e. applying judgement as opposed to a tick box approach) when determining its specific composition mix/needs.

Governing body consideration:

Does the governing body assume responsibility for its composition?

Purpose

Knowledge, skills and experience

The functional competencies needed of governing body members should be determined in line with an organisation's specific needs, industry, strategy and other relevant factors.

It is critical that governing body members have the right level of knowledge, skills and experience in order to fulfil their responsibilities e ectively, as this impacts governing body e ectiveness, which in turn influences organisational success.

In addition, it is critical that governing body members possess certain personal competencies in order to serve e ectively and add value. This includes self-awareness, self-management, relationship management, integrity, fairness, professionalism and courage.

The Institute of Directors in Southern Africa has developed a Director Competency FrameworkTM that may be used as a benchmark for the necessary competencies required of an e ective governing body member. Refer to Annexure A.

These competencies are required in addition to an individual's qualifications or profession, as serving as a member of a governing body is a unique role that requires the ability to provide good leadership, be reflective and make sound business judgement calls.

Governing body consideration:

The purpose of this paper is to provide high-level guidance to governing bodies on the key considerations when determining what constitutes an optimal governing body composition.

This paper should be read together with the following papers (for more detailed guidance on specific aspects related to governing body composition):

? King IV Practice Note on Independence of governing body members 2

? CGN Position Paper on Director due diligence 3 ? CGN Position Paper on Succession planning for the

governing body 4

? King III Practice Note on The selection, nomination and voting for NEDs 5

? IoDSA Guidance Note on Board size 6

What is the strategic direction of the organisation and what are the key skills that

will be required on the governing body to achieve this?

Diversity

In terms of King IV, "The governing body should promote diversity in its membership across a variety of attributes relevant for promoting better decision-making and e ective governance, including field of knowledge, skills and experience, as well as age, culture, race and gender."

Diversity should be understood as "the varied perspectives and approaches o ered by members of di erent identity groups. For the purposes of King IV it includes diversity in terms of fields of knowledge, skills and experience as well as age, culture, race and gender."

1 King IV Report on Corporate Governance for South Africa 2016, Institute of Directors in Southern Africa NPC, 2 3 4 5 4e/King_III_Ch_2_Selection_Nomination_Voting_NED's_Sept_2011.pdf 6

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King IV further recommends that "The governing body should set targets for race and gender representation in its membership."

The need for the governing body to set and disclose progress towards targets for race and gender diversity is a new recommendation that has specifically been included in King IV, in an attempt to drive more transparency on the organisation's plans for diversity of the governing body to its stakeholders.

In addition, 3.84 (i) and ( j) of the amended JSE Listings requirements requires the board of directors or the nomination committee of listed companies, to have a policy on the promotion of gender and race diversity at board level; and report to shareholders on how they have considered and applied the policy; as well as what the progress is against voluntary targets.

Governing body consideration:

Is the governing body diverse enough to enable better decision-making and prevent

group think?

Independence

Having members of the governing body who are independent is an important element of governing body composition. King IV seeks to contextualise the relevance of independence correctly, namely that:

? all members of the governing body, whether they are categorised as executive, non-executive or independent non-executive have, as a matter of law, a duty to act with independence of mind in the best interests of the organisation; and

? although important, structural independence is but one consideration in achieving balance in the composition of the governing body.

Organisations thus need to look at independence of the governing body from a holistic perspective in consideration of having a balanced and effective governing body as per Principle 7 in King IV.

For further guidance on how to approach independence of governing body members, refer to the King IV Practice Note on Independence of Governing Body Members 7.

Governing body consideration:

Is there an appropriate balance on the governing body to ensure its effectiveness?

The governing body composition matrix

In order for the governing body to understand where the gaps are in terms of the knowledge, skills, experience, diversity and independence needed, the factors discussed above should be collated in a governing body composition matrix.

A matrix of this nature could include the governing body's desired competencies, balance and mix, current members who fill each competency, and skills gaps that need to be filled. For an example of a governing body composition matrix, refer to Annexure B.

The findings of this matrix in terms of gaps should be taken into account in the governing body nominations process, when new governing body members are sought. Candidates should be sought from credible sources. Whether candidates are sourced through internal or external sources, the needs of the governing body should be clearly articulated in advertisements for vacancies.

King IV requires that "before nominating a candidate for election, the governing body should consider the following:

a) The collective knowledge, skills and experience required by the governing body.

b) The diversity of the governing body. c) Whether the candidate meets the appropriate fit and

proper criteria."

In a company, generally the board would nominate candidates for election by shareholders (or make a temporary directors' appointment to fill a casual vacancy until the casual vacancy has been filled by election of a director by shareholders). It thus becomes critical for the board to engage with the shareholders, in order for them to understand and carefully consider the needs of the board.

Refer also to CGN paper on Director Due Diligence 8 on other factors that should be considered before making an appointment to a board.

Governing body considerations:

Have we defined the profiles and selection criteria of the candidates we are hoping to attract?

Do we have a process in place to obtain the appropriate skills onto the governing body?

Have we engaged with shareholders on this matter?

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Size

With regard to the size of a governing body, it is important to note that every organisation is different and therefore each governing body needs to determine its optimal size based on its unique circumstances. There are however some legislative requirements that must be adhered to as a minimum.

The Companies Act 71 of 2008 requires "private companies or personal liability companies to have at least one director; and public companies to have at least 3 directors, in addition to the minimum number of directors that the company must have to satisfy any requirement, whether in terms of the Act or its Memorandum of Incorporation, to appoint an audit committee, or a social and ethics committee". We interpret this to be 6 directors as a minimum for public companies 9.

Executive representation on the governing body

In terms of King IV, "As a minimum, the chief executive officer (CEO) and at least one other executive should be appointed to the governing body to ensure that it has more than one point of direct interaction with management. The executive other than the CEO appointed to the governing body may be the chief finance officer (CFO) or another designated executive, as is appropriate for the organisation"

However, the minimum legal requirement should not be used as the benchmark for governing body size; but rather each organisation should determine their optimal governing body size, based on the size and complexity of the organisation.

In addition, King IV recommends that, "when determining the requisite number of members of the governing body, the following factors should be considered:

a) The appropriate mix of knowledge, skills and experience, including business, commercial and industry experience, needed to govern the organisation.

b) The appropriate mix of executive, non-executive and independent non-executive members.

c) The need for a sufficient number of members that qualify to serve on the committees of the governing body.

d) The need to secure a quorum at meetings. e) Regulatory requirements. f) Diversity targets relating to composition of the

governing body".

The Spencer Stuart Board Index 2016 10 reveals that in the US, average board size is approximately 11. Their last South African board index, which was released in 2014, indicated that the average board size in South Africa had remained reasonably constant at 12.3 members.

Governing body consideration:

Has the optimal size of the governing body been considered, based on the needs

of the organisation?

This is a slight shift from King III, in that organisations are given the discretion to appoint another executive (not necessarily the CFO) to the board, depending on the needs of the organisation.

However, for listed companies, JSE Listings Requirements 3.84 states that "all issuers must have an executive financial director".

Governing body consideration:

Does the governing body have the adequate executive representation?

Rotation and succession

In terms of King IV, "The governing body should establish arrangements for periodic, staggered rotation of its members so as to invigorate its capabilities by introducing members with new expertise and perspectives while retaining valuable knowledge, skills and experience and maintaining continuity."

Furthermore King IV recommends that, "The governing body should establish a succession plan for its membership which should include the identification, mentorship and development of future candidates."

For further guidance on this topic, refer to the CGN Paper on Succession planning for the governing body 11.

Governing body consideration:

Has the governing body taken responsibility for its rotation and succession planning?

9 There are varying interpretations of this provision in the Companies Act with regards to minimum board size. 10 11

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Performance evaluations and removal of underperforming members

Regular performance evaluations of the governing body and its individual members should be performed and areas of improvement identified.

Evaluations of the governing body as a whole should provide an overall view of the performance, gaps and training needs of the governing body as a collective. This may in turn inform the competencies necessary when considering new candidates.

Based on the results of the individual member evaluations, underperforming governing body members can be identified and dealt with appropriately. This may include training, mentoring or even encouraging the member to step down. This process should be led by the chair of the governing body. Where an organisation has a founding document that contains the processes for removing under-performing governing body members, such processes should be followed.

The results of these evaluations should also be used to determine whether governing body members are put forward for re-election at the end of their terms.

Governing body consideration:

Does the governing body evaluation process inform its composition needs?

The role of the committee responsible for nominations

Whilst the governing body is responsible for board composition, the committee responsible for nomination plays a key role in the nomination process, succession planning and evaluation.

To be effective and impartial in its activities, all members of the committee responsible for nominations should be non-executive members of the governing body, and the majority should be independent.

Where an organisation does not have a committee responsible for nominations, these functions should either be fulfilled by the governing body, or delegated to another committee of the governing body.

Governing body consideration:

Is the nominations committee effective in overseeing the nomination, succession and

evaluation of the governing body?

Disclosure

King IV contains specific disclosure recommendations relating to governing body composition. This disclosure could be included in the organisation's Integrated Report and/or governance application report on its website. The objective is to provide the stakeholders with a transparent view of whether the governing body is appropriately constituted. Refer to Annexure C for King IV recommendations in this regard.

Governing body consideration:

Has transparent disclosure of governing body composition been made to stakeholders?

Conclusion

The various elements that make up the governing body composition, each addressed above, should be considered and assessed holistically, with the ultimate aspiration being legitimacy; through having a governing body with the appropriate balance of knowledge, skills, experience, diversity and independence that can objectively and effectively discharge its role and responsibilities.

In addition to the general guidance provided in this paper, reference should also be made to the King IV Sector Supplements, which contain the specific distinctions for various sectors. For a summary of these sector specific recommendations that relate to governing body composition, refer to Annexure D.

Governing body consideration:

Do we have a balanced and effective group of individuals appointed to the governing body?

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Annexure A ? IoDSA Director Competency FrameworkTM

FC1 FC2 FC3 FC4 FC5 FC6 FC7

FC8

FC9 FC10 FC11 FC12 FC13 FC14 FC15 FC16 PC1 PC2 SC1 SC2

Competence

Corporate governance

Ethical governance Directors' legal duties Strategy Governance of ethics management Remuneration oversight Audit committee's duties and functioning

Combined assurance model

Financial literacy

Risk governance

IT governance

Compliance governance Stakeholder relations governance Integrated reporting Business judgment

Analytical skills

Self-awareness

Self-management Social awareness Relationship management

Contribute to and function as board member within the appropriate governance structures and cognisant of position of trust

Lead the company effectively and ethically in the long-term interest of all its stakeholders

Act as director within the confines of the law

Contribute meaningfully and effectively to strategy - setting and implementation thereof

Oversee the management of ethics within the company

Oversee remuneration policy and its implementation

Serve as an effective audit committee member and/ or to relate the functions of the board to that of the audit committee

Act in a manner that demonstrates understanding of the responsibilities of various assurance providers and how these are leveraged to contribute to the working of the board and its accountability to stakeholders

Interrogate financial statements and to conclude on financial performance of company

Oversee risk management policy formation and oversight of implementation thereof

Oversee IT policy formation and oversight of implementation thereof

Oversee compliance management policy formation and oversight of implementation thereof

Oversee stakeholder policy formation and oversight of implementation thereof

Oversee integrated reporting

Respond to business challenges in a creative and constructive manner

Gather and analyse information in decision-making by applying logical thinking

Act in a manner that demonstrates self-knowledge and selfawareness

Manage self in a manner that contributes to the activities of the board

Adapt to environmental needs

Interact with fellow board members and management in a manner that is beneficial to the company

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Member 1 Member 2 Member 3 Member 4 Member 5 Member 6 Member 7 Member 8

Annexure B ? Governing body composition matrix example

This matrix is a high-level guide to provide the governing body with a starting point when evaluating its overall composition; and is not all inclusive. Each organisation must consider its specific board dynamics and needs as per this paper when formulating its own composition matrix.

Knowledge and Skill Corporate Governance Ethical governance Legal duties of governing body members Strategy Governance of Ethics Remuneration Combined assurance Financial literacy Risk governance Information and technology governance Compliance governance Stakeholder relations Taxation Sustainability Corporate Law Marketing Integrated reporting Business judgement Analytical skills Add additional organisation specific criteria Diversity Gender Age Race Culture Add additional organisation specific criteria Independence Actual independence Perceived independence Experience Governing body experience Chair experience Specific board committee experience Relevant industry experience Add additional organisation specific criteria Professional affiliation Member of a relevant professional body

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