Shore Up Your Board

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There's no question that we continue to see incredible flows into our purpose-driven investment platform, which is really a growing array of different types of responsible investment strategies that our clients are demanding more and more on an ongoing basis.

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And the most widely adopted among our foundation and institutional clients are our equity services on this platform. But here's the thing. Boards and executives are expressing a desire and a commitment to do more to align mission and vision and values across all aspects of the enterprise beyond the investment portfolio. It means looking more closely at the G in ESG, our own governance practices. So how can we apply findings from our efforts on the responsible investing front to ensure that our own boards at nonprofits and foundations are also governing most effectively?

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Today, we're going to hear from one of Bernstein's most widely followed experts on how she learned to spot a great board. Hi, everyone, and welcome to Inspired Investing.

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I'm your host, Clare Golla, Head of Foundation and Institutional Advisory Services at Bernstein. This podcast is where we strive to connect and share insights with listeners like you who are engaged in the nonprofit or broader philanthropy sector, or just want to learn more. Today, I am very excited to be joined by Valerie Grant, senior portfolio manager overseeing Bernstein's flagship responsible investing strategy.

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She is an expert in all things governance and has even developed her own proprietary metric to evaluate boards of directors. In addition, Valerie, you've served as an independent director on boards ranging from prominent national organizations to local community based organizations. So first of all, thank you, Valerie, for your service to the community, but also thank you so much for being here today with us. Thanks for having me, Clare. My pleasure.

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And by the way, listeners, if you recognize Valerie's voice or name, it may be from one of her many guest appearances on CNBC or being quoted in major media on a variety of capital markets related subjects. I'm really thrilled to have you here, Valerie, to apply your expertise to the nonprofit marketplace. So let's dig in. As a senior portfolio manager for our responsible US equity strategy, Valerie, governance is one of the key themes that has really been driving your research. And so you've become expert at looking at publicly traded companies and evaluating whether they have a great board.

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Can you tell us a little bit about how you approach this? Corporate directors have essentially two primary duties, a duty of loyalty and a duty of care, and that applies in the private sector as well as in the nonprofit sector. While investors hope that all corporate directors adhere to these tenets,

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It's not always the case. And in addition, as outsiders, we have difficulty really knowing what's happening in the boardroom. We don't sit in on board meetings. We don't sit in on committee meetings. And that's why we have to rely on objective evidence in order to assess whether a board is effective. So that's what led us to create the Board Effectiveness Index or BEI, to help us evaluate companies and evaluate the effectiveness of their boards of directors. Thanks, Valerie.

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I actually was reading a piece that you and your team wrote on this index, and it's fascinating. The data is really impressive. And I'll just read a little snippet here.

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"Our internal analysis showed a tight correlation between the effectiveness of a company's board and future stock returns." Then you go into sharing that direct correlation and really digging into remarkable results. The top quintile outperforming by the widest margin, the bottom quintile underperforming substantially. And I know that there has to be a tie or a connection to nonprofit and philanthropic board governance as well, even though we're not looking at share price, for instance. Or maybe you could share a little bit about the BEI, the metrics of how you developed it in the methodology.

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I'd love to hear more about that.

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Great.

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So the Board Effectiveness Index is based on five principles and the principles really reflect a consensus, if you will, among asset managers and asset owners about standards of good corporate conduct and board governance. So we actually analyzed what's in the proxy voting guidelines of some of the world's leading asset managers and asset owners. And there was really a broad consensus on these issues. First and foremost, board diversity and skill is quite important. Board independence is important, effective committees is important.

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The commitment and refreshment of the members of the board is important, as is a clear focus on governance among the board. Those are the five key principles or the five themes, if you will. And then we have 23 different metrics that we use to evaluate how boards are performing on each of those five themes.

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So think of it as a bit of a cascade. And what we were really drawing on an evidence based approach to try to formulate the board effectiveness index and make sure that it really reflects best practice. And fortunately, we have a data set that we can use to look at companies' performance over time and also to compare companies to their peers across industries.

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So, OK, so we've got independence, governance focus, committee effectiveness. I want to come back to that one.

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Commitment and refreshment and diversity of skill. Is it diversity and skill? Diversity of skill both? Well, we call it diversity and skill, but I would really say it's both. And maybe we should spend some time on that, because my view is that there are more similarities than differences in the underlying characteristics of an effective board of a publicly traded company versus a board of directors of a nonprofit organization. So board diversity and skill is what we define as not just gender, which is very popular right now.

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We do absolutely look at gender diversity on the board, but we also look at the percentage of the board with financial expertise, the size of the board of directors, the total number of skills that are actually reported for the board members in totality, as well as the racial and ethnic background of the board members.

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So there are many components that go into having diversity on a board, and I believe they're all important in order to have the voices around the table and the breadth and the depth of experience around the table to actually serve as a check and balance, if you will, versus the management and to ensure that you're monitoring risk and being a good steward of an organization's resources, whether it's a for-profit organization or nonprofit.

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So these issues are all coming up in real-time conversations we're having with boards of directors. I was just with the board last night and one of the directors asked me about proxy voting in particular. How does that really work? How do we engage with a company? So we have this index, we uncover certain issues. Can you walk me through an example of how that might work and how it becomes a part of how we engage with companies? Sure, I can address that because we're actually in the middle of a proxy season right now. So there's a bunch of proxies being voted.

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One topic that is coming up more and more frequently in shareholder proposals is a request that companies issue a racial equity audit. And this is not something that we'd really seen in prior voting cycles. But obviously, given what's happening in the United States today, it is much more front and center. And so the board effectiveness index, as I mentioned, really does give us some data around diversity at the board level. We have some other data sources that we use to look at diversity, equity and inclusion at the enterprise level.

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And because we meet with companies regularly and engage with them about not just diversity, equity and inclusion, but about their climate change policies, use of capital, et cetera, we tend to have a very good sense for what companies are already doing and how they're moving along in key areas of focus.

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And so when we see a shareholder proposal come forward related to something like a racial equity audit, all of that information informs how we decide to vote. And so it's really helpful to have, again, an ongoing channel of communication with the senior leadership of these companies so that when these proposals arise, we can vote in an informed way and we don't always vote in favor of management's recommendation.

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So let me be clear. Oftentimes the management team will say, we think this is unnecessary. We're already doing enough. We have checks and balances in place. And then we look at their record and we say, hmmm, not so sure. I actually think that better disclosure on this issue would really be helpful to us as investors and it would also be helpful to other stakeholders. That's great. I'm excited to be able to send this out to some of our clients who have been asking about that. So thank you.

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So now I'm going to ask you, you've talked through how you're utilizing this in your day job, so to speak. I'm curious about, you've been a board member.

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How have you applied or seen maybe lack of application of some of these key tenets, for instance, go awry in a board situation? I'd love to hear your perspective from your experience as a board member of a nonprofit organization. So I served on a number of nonprofit boards. And one issue that we addressed was that of security. Before the COVID-19 pandemic, one of the most critical issues that many organizations, particularly those that sponsor live events, were facing was around security, like what level of security is necessary?

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How do you protect the spectators? How do you protect the people coming to your venue from the potential of violence of some kind?

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And so we were in a board meeting of a prominent cultural organization, and the founder and executive director said, look, I don't want to have people passing through any kind of security device as they come into our space. I want people to feel welcome. I want a sense of community. I mean, he had a very compelling rationale for why he did not want more stringent security on premises.

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And we nodded our heads and acknowledged his comments. And then we went into executive session. And in executive session, we had several people in the room who objected to his recommendation. One was the chair of the audit committee because she saw significant enterprise risk from such an approach. She felt that we would be more vulnerable than other institutions if we pursued that path. And there was another board member who at the time was actually the commissioner of the National Basketball Association.

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So he was very familiar with live events and the type of security measures that are required. And he said, look, let me tell you, if we don't secure our premises, we become the target. You can do whatever other analysis you want to do, but that's the bottom line, so we have to actually at least meet the standard of other organizations who are presenting.

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And I think that's one of the... an example of having different perspectives in the room, because if we didn't have people willing to speak up, I think that because of the strength of the personality of the founder, we would have said, OK, well, maybe we don't need to do it. And I don't know, maybe it is too much. But because we had people around the table who said, wait a minute, there are some risks here that we're not considering, we came to a different conclusion.

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So it sounds like it comes down to really having that right mix of perspectives and voices in the room to be able to provide adequate oversight.

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But also, you mentioned something about executive committee getting together. So committee effectiveness is a part of...is one of the tenets of the BEI. Could you talk a little bit about that? Because I feel like, on a board of directors, you don't want to get into the weeds of the day to day operations. Right. You're governing the overall institution. At the same time, you do need to be providing effective oversight of the executive leadership of that institution. Could you speak a little bit about committee effectiveness?

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Yes, that's a very important issue because I think sometimes boards of nonprofits, particularly if it's a smaller nonprofit where maybe the staff is very stretched, or you don't have a very large staff, sometimes they recruit people to the board with different skill sets. But what you end up doing is almost putting the board into a capacity and functioning as management, which is not what's supposed to happen.

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And so when we look at publicly traded companies, we tend to focus a lot on the independence of the audit committee, the independence on the compensation committee, having an effective nominating, or nominating/governance committee and looking at what percentage of the board is serving on each of those individual committees so that people aren't overtaxed. And so it's very important, particularly around issues of compensation, because you want to be sure that there are people looking at the compensation for the  main executive officers who understand how you're incentivizing the management team.

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What kinds of rewards are you putting in place? What are the key performance metrics that must be met? And are you at market, so to speak? In terms of nominating and corporate governance, this is very important, particularly as you think about how you get new board members into your pipeline. So very effective boards typically have some type of a skills matrix that they are looking for.

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They say, OK, we need more financial expertise or technology expertise or someone with a global perspective. We need more diversity along these dimensions. We need to make sure that the communities that we serve are also represented in terms of the board and so forth, but generally a pretty rigorous thought process that goes into putting that matrix together, which helps organizations, whether they're for-profit companies or nonprofit organizations, figure out where do we need to be looking for the pipeline of new directors.

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So those would be a couple of examples. That's really helpful. And it's something that I know we need to follow up on internally and will be, because we're getting a lot of questions on that front from boards who are asking us about recruiting issues.

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And the thing is, we see larger institutions, national institutions, global institutions who can hire a consulting firm to help them with recruiting the right members to help get the right mix of voices at the table. It's a little bit more challenging for smaller organizations who may not have the luxury of using outside resources in their search for new board members or who tend to lean on trying to recruit members who may be able to provide more financial contribution to the organization, but maybe not as much the diversity of skills as you mentioned, or other metrics of diversity.

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And I'm curious about what your thoughts are on that in terms of maybe even smaller organizations. I think that smaller organizations perhaps do have more of a challenge in terms of identifying board members.

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But I think in most communities there are many people who are excited about the possibility of being of service and serving on a board. And it's important to connect to any local resources that help match professionals with skills with boards that need assistance and directors. And I remember years ago I lived in Philadelphia and I actually participated in a board development program for up and coming young professionals, if you will.

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And they were really focused on the arts. And so they were... there were a number of arts organizations that were looking for a new board members. And then there were people in the Philadelphia area who were interested in the arts and quote unquote, board ready. And it was a very effective program. They really helped us understand what it means to be a good board member.

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And then there was a matching process. And I think that that kind of a resource probably exists in most parts of the country. And in addition, if there's a large employer in your local community, you could always contact the head of human capital and say, we are a non-profit organization active in your community, are there any up and coming, you know, sort of rising stars in your organization who could benefit in terms of their own leadership development from serving on a nonprofit board? And I think you'd be pleasantly surprised by the reaction that you would get. That's a really good point, Valerie. So number one, you're right.

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I think community foundations are a great resource in different metropolitan areas. Some organizations provide that board training as well as the matching. And so you can really gather that skill set. And it's funny you mentioned corporations, because we are just working right now on the curriculum for a training for our executives at AB because we've been placing board members, right, from our corporate ranks as well. But we've recognized that we have internal resources that we could be providing to help that, ready them for that position and really step in as an effective board member.

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So now I'm thinking we need to tie in the BEI. So I'm going to get back to you, Valerie, on this training that we're putting together. So it's a great, a great point. And I'll put it on my ever growing to do list.

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So we've covered a lot of territory here.

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And I'm curious if you were advising a foundation or a nonprofit organization based on your experience, really as a governance expert, what are maybe the top three to five things that you'd advocate for? I would advocate for a very thoughtful approach to what you are looking for in your board and the board composition. It's very important to have the right people around the room. That would be the first thing.

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Secondly, I do think that one of the things that I've mentioned, independence is very important. Oftentimes, particularly if it's a nonprofit where the founder is still running it. That individual can have a lot of influence on the organization, which is great because it was their vision and enthusiasm that got it going. But it's important to balance that a bit with different perspectives and independent board members.

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And the third thing I would recommend is that you perhaps think about a trial run of new directors, meaning look among your volunteer base and say, OK, well, who are some of our most active volunteers or who are some of our most consistent donors? Maybe we should engage with them and perhaps ask them to serve on a committee, which is an option that nonprofits have that public companies don't have. You can say, OK, would you be willing to volunteer with this committee and maybe take on a project and act as a special advisor on a particular issue?

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And that way you get to see whether or not there's really a fit. So I think there is a number of different strategies that nonprofit organizations can employ. And I've seen all of these employed quite effectively over time. Such good advice. Thank you so much, Valerie, for joining us today. And I want to make sure that your blog on how to spot a great board is somehow linked to this episode. It's really a good one. And I know we'll have more on adapting this framework for our clients and the broader sector. That would be great. I'd be happy to work on anything further with you. Thanks so much, Clare, for having me. Yeah, thank you, Valerie. And thank you all for listening.

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