Over the past two years, the US federal government has given billions of dollars to businesses, including through Paycheck Protection Program (PPP) loans, Economic Injury Disaster Loan (EIDL) grants, and Employee Retention Credit (ERC) tax rebates. The good news is that many businesses are now finding they’ve survived or even made a profit last year thanks to these loans and grants.

But those government programs are now over. Inflation is on the move, cash from banks is becoming more difficult to obtain, scrutiny from lenders is increasing, and it is an employee’s market with immense labor movement particularly in the retail and service industries. On top of that, the supply chain is unpredictable, and the virus that started it all is still among us.

CEOs and board members of small and medium enterprises can do little to push the entire economy beyond COVID-19, but they can certainly take steps to protect their companies as economic difficulties deepen.

Being Proactive Versus Reactive

Supply chain issues have affected large, medium-sized, and small businesses alike. Not only are container ships backed up, but there’s been stagnation at intermodal transfer sites and logistics terminals around the country, as well. Trucking companies are hungrily looking for drivers. Some business owners who have enough current supply may be waiting to see how this will affect their supply chains. This is much like standing on your porch, watching an approaching tornado.

Middle-market and small businesses have found their costs rising and production limited by shortages of raw materials and supplies. The creativity that allowed many of these businesses to succeed over the past two years should continue to be their driving force.

Boards of such companies should anticipate forthcoming economic issues and guide management to address tighter lending, more difficult vendor credit terms, supply shortages, and possibly even product acceptance challenges as the consumer and business climate shifts.

Being Strategic Versus Tactical

As banks review their lending relationships, small and middle-market companies, with fewer assets on the balance sheet, will be given greater scrutiny. Cash flow shortages will stress business operations. Now is the time for the board to be even more strategic.

In my experience working with clients, some small and medium-sized business boards and executives believe their companies to be too solid to be affected by COVID-19 at this stage, especially if they previously accepted governmental support. They will be proven wrong.

Without the reassurance and aid of government programs, boards should ensure that management strategically reviews their businesses. Hiring at all levels should address staffing shortages, providing flexibility and scalability which is as critical on the production floor as in the front office. Furthermore, looking at the “why” of financial statements is more important than reading the results. Everything that happens operationally in a company flows down to the financials. They are a guidepost to future results.

Whatever excess cash existed at the end of 2021 should be used to pay down debt, restructure internal operations, improve efficiency, and strengthen the balance sheet in preparation for the difficulties that will likely appear this year—including the Federal Reserve raising interest rates to rein in inflation. Every move is critical for the health of small and medium-sized companies in 2022.

Where to Go From Here

When economic winds change, small and middle-market companies must be able to pivot. As the buying paradigm shifts, companies need to review how they fit into the marketplace. Are they an innovator or a low-cost supplier? Both consumers and businesses are increasingly shopping online, searching for alternate products and sources.

The recent passage of the Infrastructure Investment and Jobs Act to help rebuild our national infrastructure certainly provides opportunities for companies of all sizes. Boards need to be farsighted enough to help management determine how the companies they steward may seize such opportunities.

Not all companies are directly in line for contracts. For those that are not, find an opportunity to supply the suppliers. These new government purchases will filter through the economy, and boards should consider how their businesses may take advantage.

Policies and Procedures

There are great benefits to being a leader. Small and middle-market companies should mirror the direction of public will in their business policies. Despite initial cost implications, being an early adopter of stakeholder-focused initiatives will deepen employee engagement. The Great Resignation has created a tightening labor market. Thinking proactively will prompt good employees to seek you as an employer.

Policy review, including as it relates to flexible work programs, job sharing, and diversity, equity, and inclusion issues, can no longer wait for the next board meeting. Changes in employment practices are having a real impact on companies throughout the country. In addition, review of and improvements to quality control standards, credit policies, and internal controls will help every company succeed.

The days of pandemic-related government aid for small businesses are over. Small to medium-sized companies and their boards should continue to think creatively and strategically to not just survive the coming year but grow by taking advantage of unique opportunities that present themselves.

Larry Chester, president of CFO Simplified, served as a corporate chief financial officer (CFO) for more than 20 years before starting his consulting firm. His team serves as fractional CFOs to companies in many industries, from start-up to middle market, providing cash flow planning and other services that drive profitability.

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The American boardroom has been under significant stress over the last two years. Many directors faced their most challenging boardroom moments but rose to the occasion, navigating their companies through the depths of the pandemic and making many tough calls to ensure financial survival and adapt to rapidly shifting conditions.

It was maximum-intensity governance and management. As we learned from our surveys, directors’ time commitment doubled in 2020 when they delved into many urgent matters such as employee health and safety, remote operations, supply chain management, and access to capital and government relief funds. Using (and getting more comfortable with) virtual meetings, boards and management engaged much more frequently, sometimes even weekly, and traditional governance boundaries often blurred, as directors and senior executives worked closely together to navigate through the crisis.

This high-speed governance is barely slowing down, as companies now confront many new strategic and operational challenges, including the “Great Resignation,” accelerating digitalization of every dimension of business, rising inflation, widespread demands for corporate climate action, and the integration of diversity, equity, and inclusion into the fabric of every organization. It has made the job of the board much more difficult than it was before.

What makes the current environment uniquely unpredictable and hard to navigate is the fact that these changes are happening concurrently, interacting with and amplifying each other, creating many unintended and unwanted consequences. Just look at the top trends from our 2022 Director Trends and Priorities survey (in the included chart below) that directors believe will have the biggest impact on their companies over the next 12 months.

Talent scarcity is disproportionately affecting companies’ ability to successfully execute their high-stake digital transformations. At the same time, these transformational technology initiatives may inadvertently expose companies to new cyber risks, which may also disrupt already weakened global supply chains that, coupled with the growing labor market shortages, are driving inflation to levels not seen in recent years. A number of these trends are challenges that many directors did not have to grapple with in their prior operational careers and that they therefore have relatively little experience with.

In the coming year and likely beyond, boards will need to govern their companies through both a telescope—spotting new, over-the-horizon patterns across markets, societies, and geographies and connecting the dots between them—and a microscope by keeping a finger on the pulse of the company’s performance and its key drivers, such as talent, technology, brand, and financial stability.

Overall, board effectiveness now seems more important than ever as the pace of change is relentless and stakeholder expectations about what boards should do and look like are ever-increasing. But the pandemic governance model is likely neither sustainable, nor desirable. We need to maintain distance between boards and management teams to effectively govern businesses for the long-term. The board modus operandi prevalent for the last few decades, however, is unlikely to be adequate.

To position boards to help their companies succeed in a more turbulent future, we need to firmly challenge how boards are composed and structured, how they operate and interact with the business, and how they hold themselves accountable. Although the fundamental legal underpinnings of board governance have not changed, longstanding conventions and unwritten norms that have shaped boardroom practices and behaviors deserve to be revisited.

Recent NACD analysis reveals that directors themselves expect that their boardroom practices will need to change in the coming years. For example, a slim majority expect that in the near future the combination of the CEO and chair roles will no longer be acceptable. Almost 60 percent of directors expect that environmental, social, and governance (ESG) reporting will receive as much scrutiny as financial reporting, while more than 50 percent believe that time commitment to board service will vastly increase. Close to 40 percent believe that a sole focus on shareholders at the expense of other stakeholders will come to be considered inappropriate.

Sensing this turning point in the evolution of board governance, NACD announced last week the 2022 Future of the American Boardroom Initiative, led by a special commission that will convene a diverse, influential group of directors and notable governance practitioners from across the investor, regulatory, and academic communities. The year-long initiative will seek to discover how the prevailing governance model may be adapted, or whether a fundamental reshaping is in order, and will develop guiding principles to help boards build toward high performance in a more demanding, inclusive, and turbulent future.

Although the focus of the commission may shift throughout our meetings, we expect much of the discussion to focus on the following five areas:

1. Stakeholder interests. The expanded notion of stakeholder interests, and ultimately the definition of performance through the lens of these stakeholders, is changing how companies create, preserve, and report value. Put simply, companies cannot succeed when society fails or when the planet’s temperatures continue to rise. These issues are no longer externalities; they pose immediate financial, operational, and reputation risks. Boards must perform a delicate balancing act to account for multiple stakeholder concerns, while simultaneously addressing the expectations of shareholders for growth and long-term returns. This multi-stakeholder approach affects the board’s crucial role in establishing the right incentives for management.

2. Board operating model. The furious pace of change has put strains on traditional board operating models and processes, which may have become bottlenecks to effective oversight. Boards may need to adopt a more fluid and flexible model that maximizes the use of precious board meeting time and a structure to better oversee new and fast-changing issues. Similarly, ever-increasing expectations about the board’s role and engagement may have caused scope creep, with many boards struggling to focus deeply on mission-critical issues.

3. Board independence and management accountability. In recent years, boards have been more deeply engaged on a variety of issues such as strategy, influencing more decisions and becoming more operational. This deepened level of engagement could potentially threaten the independence of the board and its ability to hold management accountable. Simultaneously, in many boardrooms, the CEO still sets the agenda, not the board.

4. Transparency. With increasing public scrutiny of the contributions of boards, boards will need to reassess how transparent they should be about their workings, skill sets, and decisions. Currently, much board activity remains outside the view of shareholders and other stakeholders, and this confidential setting helps support deliberation and discussion. At the same time, the black box in which boards function raises concerns about their engagement and accountability.

5. Board renewal. While boards have started to make progress on diversifying their ranks, far too many boards are still reactive in aligning their skill sets and past experiences with the shifting strategic and risk priorities of the business, and do not sufficiently hold their directors accountable for individual (under)performance.

As part of this initiative, we launched a dedicated NACD resource center on the Future of the American Boardroom that includes relevant articles, guidance, and tools to help your boards engage in meaningful conversation and, where needed, take action to prepare for a more demanding future. Throughout this initiative, we will update these resources and report on the progress of our work.

As we shape our guidance, we would very much like to hear about your board transformation. What fundamental changes have you made or are you making to advance board performance? What new practices have you adopted? What norms have you challenged? Please share with me directly at fvanderoord@nacdonline.org.

Friso van der Oord is senior vice president of content at NACD.

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It has been a very long time since we’ve dealt with an inflationary economy. So long, in fact, that the term “inflation” may conjure memories of Jimmy Carter’s presidential administration, long lines of AMC Pacers waiting for gasoline, and double-digit mortgage rates—for those of us who go back that far. The idea that this period of inflation may be transitory isn’t much comfort to the decision-makers who are still determining their 2022 plans.

Given that most calendar-year companies approve incentive plan targets in the first quarter of the year, inflation’s impact on executive pay decisions is on the minds of most compensation committee members. Of course, inflation impacts the price of goods and services almost across the board (we are all feeling that currently), but specifically for compensation decisions, there are two main variables to consider: merit budgets (or salary increases) and incentive plan goal-setting. Let’s briefly explore some of the fundamental current challenges with each.

Merit Budgets and Salary Increases

For as long as most people can remember, merit budgets have been reliably steady at 3 percent per year at all levels in an organization. In the past, merit budgets tended to lag inflation rates early in inflationary periods. They may also have tended to be higher than was necessary in the waning days of an inflation cycle. Both tendencies can largely be blamed on time delays in incorporating external information into the decision-making process. The era of 3 percent increases are ending. In December, results from a Pearl Meyer quick poll suggested the number may exceed 4 percent. Some clients are concerned we may end the year above 4 percent if additional actions are required later in the year.

Because the current environment is challenged by inflation, as well as ongoing pandemic and labor difficulties, some management teams might see an increase to the merit budget for the broad workforce as perhaps one of the easier decisions to make this year. It’s a different story, however, for executives.

Boards have generally been more willing to increase incentive opportunities than to provide executives with significant salary increases. This is due to the bias toward performance-based compensation and can be seen in the evolution of executives’ pay mix over the past 40 years. However, incentive plans can be perceived as riskier during inflationary times—to say nothing of the other risks looming—and so higher incentive opportunities may be less valued right now than smaller salary increases.

Every now and then, someone raises the idea of a cost-of-living adjustment (or COLA) for executives. It may seem a logical extension of a COLA for the general population, but beware—it’s not. Competitive salary increases for the general workforce are important, but that standard 3 (or more) percent merit budget can usually accommodate them. COLA for executives, on the other hand, is something that investors and the public cannot understand. The perception of COLA is that it meets fundamental needs like paying rent or putting food on the table; the “need” to maintain the buying power of a $500,000 salary is not viewed in the same way.

Incentive Plan Goal-Setting

It seems as though we’ve been hoping forever that things will get back to normal so we can have greater certainty in our forecasting. While COVID-19 has created exceptional uncertainty, inflation just creates a “normal” amount of uncertainty (which we really don’t need any more of).

Logically, one would think the key is to understand how the company’s results are impacted by price changes through the supply chain and then factor in the company’s ability to pass on these additional costs through corresponding product or service price increases—a seemingly simple calculation to arrive at anticipated financial results. 

However, every item in the supply chain reflects a similar analysis, and supply chains are far more intricate than in previous inflation cycles, so it becomes hugely complex to predict what will happen. By upsetting pricing all the way along the supply chain, inflation introduces additional prediction risk when projecting future results. When compounded with typical executive incentive plan time frames, usually one- and three-year, the projections can become speculative.

Fortunately, understanding these dynamics is the chief financial officer’s responsibility. But at the board level, we need to at least understand the subtleties to develop a feel for whether any changes might be warranted to, for example, thresholds, maximums, or gatekeeper measures in any existing or future incentive plan. This is important when determining and explaining any non-GAAP (generally accepted accounting principles) or judgmental adjustments to payouts. Regarding long-term targets, changes to the mix can be made to deal with higher goal-setting risk by incorporating more time-based stock vesting or options and less performance-based stock, for example.

A complicating factor for directors approving annual goals is that inflation generally results in higher earnings growth than we normally see. When a company has been moving along at a steady, and perhaps more predictable, earnings growth rate of 5 to 8 percent, it is psychologically difficult to set a 15 percent goal. If demand stays strong as inflation increases, you may see companies overachieve during the early days of a cycle. Then, the opposite occurs as inflation cools, and taking earnings expectations back down to pre-inflation ranges becomes similarly difficult, especially for investors.

Plowing Ahead

In reviewing budget proposals this year, boards need to be more focused than ever on assumptions relative to the cost of goods sold and volume projections at higher product prices. Compensation committees may want to think about providing for potential year-end adjustments that reflect the differences between key assumptions and what actually happens. Many did this with volatile US dollar to Euro exchange rates a few years back.

Alternatively, committees might consider increasing the range from threshold to maximum to recognize that results will inevitably vary from assumptions given that the factors are harder to predict. In either case, explaining these changes both to participants and to shareholders will be critical.

Mark Rosen is a managing director and David Swinford is president and CEO of Pearl Meyer.

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In the middle of Homer’s epic poem The Odyssey, Odysseus heads home—but he has a problem: sea monsters. “We then sailed on up the narrow strait with wailing. For on one side lay Scylla and on the other … Charybdis,” Homer writes from the featured hero’s perspective.

The sailors must progress carefully because a turn too far to the right or left will mean certain death from either a six-headed beast or a whirlpool.

Today’s corporate leaders, faced with numerous dilemmas as they strive to create long-term corporate value, must feel a kinship with Odysseus. But leaders should not fear: good advice on how to navigate the difficult shoals of the modern era comes in the latest annual letter from Larry Fink, CEO of BlackRock, the world’s largest asset manager with more than $10 trillion in assets under management.

This most recent letter is the longest that Fink has ever written in the ten years that he has been reaching out to the CEOs of firms with shares held by BlackRock funds. Fink’s first CEO letter, which debuted in 2012 at under 500 words, simply introduced CEOs to BlackRock’s “value-focused” approach to corporate governance. Since then, Fink’s letters have grown in length and complexity. (For a review of past themes, see this summary from NACD senior vice president Friso van der Oord, who wrote about Fink’s letter last year.)

Fink’s 2022 letter, at more than 3,000 words, covers five main topics and related dilemmas: company purpose, human capital, financial capital, decarbonization, and participative proxy voting. In each area, Fink steers a middle course, discouraging CEOs and boards from either-or thinking, as exemplified by the following questions: What is our purpose? Should we focus entirely on short-term profitability, or should we heed concerns raised by all our stakeholders? What about talent drain? Should we invest heavily in technology, neglecting human capital, or should we put all available funds into our payroll? And what about funding? Should we try to generate as much capital as we can from operations, or should we max out on external financing? Regarding energy, should we embrace alternative fuels and cut all ties with fossil fuels, or should we stay with oil, coal, or gas as a necessary evil? At proxy time, should we ignore smaller shareholder complaints or bend our company’s goals to please the maximum number of owners? Of course, none of these extreme alternatives is correct; each could have monstrously bad consequences.

As for company purpose, Fink warns against a focus on either short-term profits or stakeholder appeasement. While he acknowledges that “the fair pursuit of profit is still what animates markets,” he also notes that only “long-term profitability is the measure by which markets will ultimately determine your company’s success.” Veering too far in the direction of all stakeholders also holds peril: “Political activists, or the media, may politicize things your company does,” he warns. “They may hijack your brand to advance their own agendas.” The middle course is holding company purpose as a “north star.” Stakeholders do not need CEOs to opine on every issue of the day, says Fink, “but they do need to know where we stand on the societal issues intrinsic to our companies’ long-term success.” 

Also eminently middle-of-the-road are Fink’s comments on energy. He announces that although BlackRock has a net-zero emissions goal, the investment firm will not divest all fossil fuels. Fink explains why: “The transition to net zero is already uneven with different parts of the global economy moving at different speeds. It will not happen overnight,” says Fink. He notes that traditional fossil fuels such as natural gas will play a key role both for power generation and heating in some parts of the world. In short, “We need to pass through shades of brown to shades of green.”  

This kind of middle-course, hopeful thinking is exactly the mindset that directors need to adopt in 2022 and beyond as they journey to the ultimate destination of long-term company value. Safe travels!

Alexandra R. Lajoux is NACD chief knowledge officer emeritus. In addition to studying business at Loyola University in Maryland, she studied The Odyssey and other classics at Princeton University with the late Robert Fagles.

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There is much talk in the financial press of renewed optimism, but the world is entering year three of the COVID-19 pandemic with deeper fissures and in a markedly more disorderly state.

People are beyond weary of social and travel constraints, critical systems and processes are experiencing discontinuities and disruptions on a regular basis, and governments are struggling to maintain the goodwill of both their own citizens and counterparts on the international stage.

Economically, too, some countries will likely struggle in the coming years: emerging market economies (apart from China) are projected to be 5.5 percent below their pre-pandemic growth path by 2024, with Latin America and sub-Saharan Africa likely to show the weakest performance. At the same time, though, advanced economies are projected to surpass their pre-pandemic growth path by 0.9 percent. (Notably, much will depend on the trajectory of current and future variants of COVID-19.)

The thread that runs through the Global Risks Report 2022, prepared by the World Economic Forum in collaboration with Marsh McLennan, is “divergence.” This is underscored by the differentiated capacities of countries and local communities to recover from the damage caused by the pandemic over the past two years, the aggravation of schisms between global powers, and the exacerbation of friction between underlying, secular forces of global change.

Boards of directors will need to ensure that their organizations are alert to four key challenges:

Economic volatility and uncertainty. A rapid rebound to growth in some countries has entangled and disrupted supply chains, sent commodity prices soaring by nearly 30 percent since the end of 2020, and driven inflation in the United States to the largest year-on-year increase in 40 years. Higher prices and more expensive debt will affect lower-income households especially hard. This is compounding government struggles to “level up” societies and “build back better” in economic recovery programs—even before factoring in the consequences of major industrial changes from accelerating digital and green agendas.Divided societies. The pandemic has deepened socioeconomic inequality in many countries, with the poorest suffering most where health systems have been overloaded. Globally, migration challenges will generate more flashpoints as harder borders conflict with a greater impetus to escape economic, environmental, and political insecurity. With political polarization as intense as ever, democracy remains a fraught enterprise. Some national governments are eroding the rule of law and consolidating authoritarian powers; elsewhere, trust is in short supply and coordinated dissent the norm.Ambitions outpacing governance. While many businesses have strong decarbonization imperatives, national targets for net-zero emissions are often not adequately underpinned by concrete policies and strategies. Companies pursuing major digital agendas do so against an evolving cyber-threat landscape where the average cost of a data breach is at a two-decade high. As Internet 3.0 comes over the horizon, there is little sign of much-discussed tech industry regulation or a clear plan to address systemic challenges related to decentralized finance and cryptocurrencies. And owing to ever-cheaper space launch systems and greater prizes to be obtained, a rapid increase in orbital and suborbital activity from different national and private-sector players is likely to stretch the utility of decades-old international treaties and protocols.Geopolitical fractures. With economic globalization in retreat, nations of all sizes are deepening core alliances and reinforcing spheres of influence, while global powers are adopting stronger postures and hardening “red lines” on core ambitions. The security lens for national industrial strategies is sharpening, with governments not only wary of foreign investment ambitions but also seeking greater scrutiny of systemically important companies. Broader international coordination efforts struggle to gain traction—the distribution of COVID-19 vaccines to low-income countries, for example, remains far behind schedule.

Interrogating Resilience

In anticipation of a bumpy 2022 and fresh shocks barely over the horizon, boards of directors should reexamine the resilience of their organizations, asking not only how they fared over the past couple of years but also what they learned and how they have evolved.

Since the next crisis will likely be very different from the pandemic, any review of resilience arrangements should take a fresh look at the operational flows and capabilities that are critical for delivering core business goals—and the different ways in which they might fail. This requires looking not just at one’s own assets and processes but also at the vulnerabilities of other organizations in one’s ecosystem—suppliers, utilities, other service providers, and even customers—as their tolerance for disruption may not align with one’s own.

Rather than overseeing a list of tools (such as risk scenarios, financial buffers, and business continuity plans), directors should look at how their organizations have sought to build “suppleness” by deploying a diverse range of resilience strategies in concert with each other—blending structural “hardening” with greater agility in a crisis. Moreover, the pandemic has illustrated that supportive employee behaviors, especially when empowered by good leadership and effective communication, are a vital lubricant for any resilience strategy.

Indeed, a dynamic resilience culture will ensure firms are alert to changing circumstances, vigilant in challenging themselves about blind spots and shortcomings, and continually looking to adapt response strategies to better achieve critical goals. They will likely find that resilience efforts align well with other agendas, such as environmental, social, and governance (ESG) ambitions.

Every organization should seek to protect itself, but is that enough? When it comes to really large, complex risks, it is important to think more in terms of industrial and local ecosystems. This may shed new light on the role that larger organizations (in particular) might play in supporting systemic or societal resilience.

Some already consider it incumbent on them to take more responsibility for their supply chains, their workforce, and their customers; others, in responding to the pandemic, have deepened their engagement with local communities. This reflects growing momentum within many corporations to place their commitment to all stakeholders in the foreground, blending profit and purpose for sustainable growth. Indeed, those stakeholders (customers, employees, and investors) are already holding companies to an ever-higher bar regarding not only their ESG ambitions but also their actual performance in pursuing them.

Additionally, an increasing number of companies are pursuing a more active role in addressing large-scale public policy challenges that affect their business but can’t be resolved by government alone. Opportunities are proliferating for non-competitive alignment and collaboration between companies and with the government on cross-cutting challenges, such as cyber risk, climate change, artificial intelligence, diversity and inclusion, and the circular economy.

Now is not the moment to ease back on resilience. It’s the time to explore and consolidate new practices. After all, resilience is a journey—not a destination.

Richard Smith-Bingham is an executive director of Marsh & McLennan Advantage and a key contributor to the Global Risks Report 2022.

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