Boards of directors in closely held businesses are typically comprised of the owners or officers of the company. They handle higher level or strategic business decisions in the operation of the company.
Unlike public companies, private companies are not required to include outsiders on their boards. That doesn't mean, however, that outsiders should not be a part of the board.
There are many good reasons to include an outsider or two on your board. Consider the following:
1. Objectivity – An outsider director, by definition, is not an employee or officer in the company so may be more objective when considering alternatives affecting the business. With less “skin in the game,” outsiders may offer additional food for thought to the conversation. Their opinions will likely be less influenced by conflicts of interest that may affect insider directors.
2. Broader experience – Outsiders can bring much needed experience and expertise to a closely held company board. Perhaps the owners and officers are knowledgeable in the industry but not well versed in technology, finance or human resources. Outside directors who are skilled in these areas can bring much needed information and perspective to decision-making discussions.
3. Ability to break a tie – If the ownership of your company is divided such that a tie is possible in a voting situation, an outside director can act as the tie breaker. This can be critical because a deadlocked board can inhibit the company’s progress – which could possibly result in legal battles. If owners have agreed to allow the outside director to break a tie in a way that is legally binding, the result may be more willingness to continue discussion until a resolution can be reached without involving the outside director. At a minimum, the outside director’s vote may save the company time and money.
If you are thinking of adding an outsider to your board, here are some important issues to consider:
How to select outside board members
In selecting an outside board member, remember the benefits noted above and let them help guide your selection process.
The outsider should provide value in the form of experience, expertise or knowledge that will supplement the board.
It is also essential that outside board members are objective. Choosing close friends of current board members, family members, vendors or customers could be problematic. While they may bring expertise, their objectivity may be difficult to maintain.
How to compensate them
Outside directors are usually compensated for their services in some way. They are generally expected to prepare for and attend board meetings, so their time and expenses should be covered.
An hourly rate or a standard fee per board meeting could be used as the basis. The actual amount should be agreed upon when the outside member joins the board.
How official the outsider's status is on the board
The legal status of the outside board member must also be decided and appropriately documented.
Some outside directors serve in a purely advisory capacity. Their input is offered and considered, but the inside members of the board can make its decisions without regard for the outsider’s advice.
In other cases, however, the outside board member is a legal member of the board whose input and vote must be considered. If this is the case, you will need to be sure your articles of incorporation and bylaws adequately reflect this. Consult your company attorney for assistance.
How to document outside board member in corporate records
Board members also have a degree of liability with regard to the decisions they make on behalf of the company. Insiders and outsiders alike will benefit from liability coverage known as directors and officers insurance.
How to maintain confidentiality
Finally, confidentiality is very important in closely held businesses. The outside directors should sign a confidentiality agreement prior to joining the board, whether in an advisory or a legally binding capacity.