What’s Needed for the Future of the American Board

Corporate boards are at a critical juncture: Intensifying pressures and demands will require boards to govern differently and challenge how they assess and reward performance and manage their own workings.

Over the past year, NACD has brought together board leaders and governance experts to discuss what will strengthen board performance in the coming years and what longstanding governance practices and norms may need to change. This work has culminated with the release of The Future of the American Board, a report about leading boards into the future and about positioning them to become better stewards of long-term value creation for all stakeholders.

Re-envisioning what it takes to be a successful board (and not just a strong individual director) that can significantly influence sustainable business performance will not be an easy process. It will involve challenging discussions about the purpose of the corporation and the accountabilities of the board. It will entail uncomfortable decisions about board members who are not fit for the future, and difficult changes to reinvent board processes and reshape behaviors. It will demand a commitment to continuous and fast learning on new drivers and derailers of value and to creating room for diverse voices and perspectives.

Why now?

And this work by boards is urgent. The intensity and accelerating pace of change is real, leading to a fundamentally different operating reality than incumbent executives and directors have experienced in their careers and shifting how businesses generate, preserve, and report value. Disruptions involving economic conditions, the geopolitical order, technology advancements, labor market dynamics, supply chains, regulation, climate change, and social and investor activism are reshaping society and business in powerful ways and, perhaps most important for this work, are transforming the role of business and how companies are governed. The reward is clear: in a world that seems less governable, the quality of board governance is increasingly vital to the sustainability of our enterprises and trust in our market economy.

The Commission’s Focus

In early 2022, NACD established the Commission on the Future of the American Board to reassess the Key Agreed Principles it issued in 2011 and refresh its guidance to help boards future proof themselves. The Commission—comprised of experienced board leaders, investors, CEOs, academics, and former regulators—met repeatedly over a six-month period to discuss several fundamental questions that are acute today and will become even more urgent in the coming years:

How do we expect external pressures and forces affecting board governance to change in the coming years?Are there long-standing norms and practices that we must forcefully challenge?How can we solve for the critical inherent tensions in board governance? In particular, the growing need for deep, proactive board engagement while preserving independence; the focus on long-term strategy and value creation in the face of short-term pressures; and the tension between retaining institutional knowledge and injecting fresh, new, and diverse perspectives and experiences on the board.How must we adapt the workings of the board to be more agile and more prepared to engage management on high-stakes, complex, and often new issues and inform fast but high-quality decisions?How can the board be assured that it has appropriate visibility into issues that affect the workforce?

These extensive discussions offered vastly different viewpoints and surfaced emerging board practices from leading companies were the foundation as of the new “Framework for Governing into the Future” based on a revision of the Key Agreed Principles. This Framework is intended to be utilized by public and private companies as well as by investors and advisors interested in strengthening board quality in the coming years. Each one of the principles is supported by key implications for boards, relevant context, and implementation guidance, including key questions for boards to consider. The 10 principles can be accessed here.

Our Key Takeaways

To advance their performance, boards must now focus on the more nuanced and difficult issues: issues of purpose, accountability, objectivity, information, relationships, talent, culture, commitment, refreshment, and engagement that are highly context dependent and to a large degree rely on the collective behaviors of individual directors. Focusing on these 10 areas can help boards thrive:

Purpose: View corporate purpose as a motivating and unifying force and rethink corporate success through a long-term lens.

Accountability: Recognize that consideration of employee, customer, and other stakeholder interests is key to acting in the corporation’s best interests and delivering value over the long term to shareholders.

Objectivity and Oversight: Embrace board self-determination regarding both governance and agenda priorities.

Information: Position the board for informed, deliberative, and agile decisionmaking through board determination of information needs, and fit-for-purpose information and reporting systems.

Relationships: Bolster trust in board and board-management relationships through agreed norms of behavior.

Talent: Pay attention to issues impacting the workforce and understand the link between strategic imperatives and officer and employee capabilities and constraints.

Culture: Define the parameters of desired corporate and board culture and monitor them.

Commitment: Recognize that more is required of directors to stay well informed and to be available on a far more frequent and flexible basis.

Refreshment: Avoid defaulting to renomination rather than undertaking tough decisions.

Engagement: Value interactions with shareholders, employees, and other key stakeholders as opportunities to learn about their interests and concerns and to build relationships of trust.

We predict that the work of the board will become more complex in an ever-more-turbulent environment. These principles provide guidance to help boards reassess their priorities and governance approach in the interests of ensuring that the US corporation remains fit for purpose in providing goods and services in a manner that benefits stakeholders and society at large.

Learn more about NACD’s Future of the American Board.

Sue Cole is the cochair of the NACD Future of the American Board Commission and chair of the NACD Board of Directors. Cole is currently the managing partner of SAGE Leadership & Strategy LLC, a boutique advisory firm she founded in 2011 to advise family businesses and large non-profits on strategy, leadership development, and governance. She is a director for Biscuitville, Diversified Trust Co., Martin Marietta Materials; she has more than 35 years of experience in the financial services industry, including corporate lending and wealth management.

F. William McNabb III is the cochair of the NACD Future of the American Board Commission and is the former chair and CEO of Vanguard. He stepped down as CEO at the end of 2017 and as chair at the end of 2018. He is a board member of UnitedHealth Group and chair of EY’s Independent Audit Quality Committee, and he also chairs the board of the Zoological Society of Philadelphia. In addition, McNabb is a board member of CECP: The CEO Force for Good and of the Philadelphia School Partnership. He is the executive in residence at the Raj & Kamla Gupta Governance Institute at the LeBow College of Business. He serves on the advisory boards of the Ira M. Millstein Center for Global Markets and Corporate Ownership at Columbia Law School, the Wharton Leadership Advisory Board, and the Dartmouth Athletic Advisory Board. He is also a member of The Wharton School’s Graduate Executive Board.

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How to Rationalize Cybersecurity Tools in Turbulent Times

Amid a strained economy, businesses everywhere are tightening their belts and working to ensure that priority programs and critical infrastructure are earning their keep. But despite inflation being at a 40-year high, now’s the time to be introspective with your ecosystem and lean into your technology investments—not pull back. Here’s why.

First, this isn’t the recession of 2008–2009 and it is certainly not the threat environment we faced 14 years ago. We live in a completely different reality complete with more complex technology ecosystems and more aggressive cyber threat actors. With digital transformation now at full throttle, the world is more interconnected than ever before. The days of the single legacy system are long gone, having been ousted by an overlapping mesh of cloud-first technologies. Exploiting this expansive attack surface, cybercrime is booming.  

As we now brace for a possible recession, it’s often our first instinct to pull back on spending. However, when investments begin to slow around enterprise technology, it’s often the attackers who reap the benefits. Instead, consider this an opportunity to talk to your chief information security officer (CISO) about rationalizing the tools currently in your organization’s stack to buy down systemic risk and build resilience.

A Closer Look at Technology Rationalization 

Compounding technical debt is a common problem. Working with clients, I find that the average mid-enterprise organization has anywhere from 70 to 90 technologies in their environment. Instead of looking at net new tools, now’s the time to look inside the ecosystem and make current technology investments show their worth.

A good place to start is a technology rationalization assessment. Whether your security team conducts the assessment or you hire an outside firm, it’s important to determine what tools you have, whether they’re deployed (or deployed correctly), which are critical to business operations, and whether they’re integrated or not. Additionally, it is imperative during this analysis to understand what data are being generated by these tools. This is also a great opportunity to identify redundancies in your environment, including shadow tools that you can sunset to raise security hygiene and lower costs.

Going beyond a maturity assessment, a tech rationalization analysis evaluates technology as a whole on your ecosystem, then justifies down to the tools essential to running it. A true, holistic evaluation will show your tools’ objective value to the business while ensuring the data generated from these tools remain actionable, and importantly, integrating them to deliver capabilities that drive specific outcomes. Along with improving your security posture, you may also find opportunities to whittle down your total tool count and enjoy savings in the process.

Prepare for Resilience

Addressing the ongoing risks inherent to your organization is an expense, yes. However, not doing so can be multitudes more expensive down the road (i.e., secure today or repair tomorrow). Today’s cyber landscape affects our current economic climate in different ways than past recessions. You simply can’t afford to slow down when it comes to shoring up your cyber defenses.

Case in point, geopolitical tensions are giving rise to new suites of threats and plenty of economic gray area. If the war in Ukraine sent ripples through the international economy, what are the cyber implications of a potential China-Taiwan conflict? The conversation is likely to be much different in this case around the intersection of business and security.

That’s why it’s also a good idea to identify, map, and protect business-critical assets as part of the technology rationalization assessment. What data are they producing and where are the data going? How are they secured? Your CISO should understand what the normal data flow looks like in your enterprise, so that they’re prepared to pivot and recover should crucial operations be interrupted.

Investments in this area should focus on the resilience piece of security because it forges the ability to look ahead and anticipate where the threats are coming from. And with your technology now realigned with critical business processes, data, and infrastructure, you can deploy the right tools, the right way, to help you drive resilience throughout your environment.

You don’t have to sacrifice resilience initiatives for the sake of saving money. By first rationalizing your technology already in place, you can drive resilience and be better equipped to handle economic turbulence and unpredictable threats.

James Turgal is the vice president of cyber risk, strategy, and board relations at Optiv.

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The SEC’s Climate Proposal and Assurance: Three Considerations for Audit Committees

In response to increasing global demand from investors and other financial markets stakeholders for information about public companies’ climate-related risks and opportunities, the US Securities and Exchange Commission (SEC) has released a proposed rule that would enhance and standardize climate-related information disclosed by public companies in their SEC filings. The SEC’s proposed rule would also require third-party assurance over some of the new disclosures.

The SEC has received more than 4,000 individual comment letter responses to their proposed requirements. While we wait for the SEC to adopt a final rule, it is important for all stakeholders in the financial reporting ecosystem to do what they can to get ready for new climate-related disclosure requirements. There are three things audit committees can do to prepare:

Gain an understanding of the key aspects of the SEC’s proposed requirements.Put climate on the audit committee’s agenda.Seek perspectives from the external auditor to understand the auditor’s climate capabilities.  

Understand Key Aspects of the SEC’s Proposed Climate Rule

Greenhouse gas (GHG) emissions attestations. The proposed rule would require certain companies to subject their scope 1 and 2 GHG emissions disclosures to third-party assurance from an assurance provider that meets certain minimum requirements described in the proposed rule.

This assurance requirement would phase in over time, starting first with limited assurance (similar to the level of assurance many boards would be familiar with from interim quarterly reviews). The requirement would then transition to requiring reasonable assurance after a couple of years of limited assurance.

Obtaining any level of assurance by a public company auditor will involve an auditor gaining an understanding of the company’s processes, systems, and data, as appropriate, used to arrive at the company’s GHG disclosures. Auditors will also need to consider risks of material misstatement of the subject matters, and then develop an appropriate approach to obtaining the level of evidence necessary to support their conclusion (limited assurance) or opinion (reasonable assurance). 

Material climate impacts on financial statements. Under current rules, climate-related risks are considered and assessed by management and auditors during the preparation and auditing of financial statements and may have a direct impact, an indirect impact, or in some cases no impact at all on the financial statements.

In an analysis conducted by the Center for Audit Quality (CAQ), we observed that 18 S&P 500 companies have climate-related mentions in the financial statements included in their most recent 10Ks.

The requirements in the SEC proposed rule could increase this number dramatically. For each line in the financial statements, using a 1 percent threshold, a company would be required to disclose in the footnotes the negative and positive impacts from physical climate-related hazards (e.g., flood and fire zones) and transition risks (e.g., regulation, actions to reduce emissions). Companies would also be required to disclose in their financial statements the risks and uncertainties associated with climate-related risks that impact the development of estimates and assumptions.

In comment letter responses to the SEC, stakeholders have expressed concerns about this aspect of the proposal, including that the 1 percent threshold may place disproportionate prominence on climate-related financial statement metrics over more significant financial statement metrics and that it could ultimately result in inconsistent disclosures. As we await the final rule from the SEC, it will be important for public companies to understand this proposed footnote disclosure and think about how their own material climate risks impact their financial statements.

Put Climate on the Audit Committee’s Agenda

The CAQ published a report on audit committee practices which found that 66 percent of audit committee members’ companies issue a sustainability or environmental, social, and governance (ESG)-related report, and 69 percent obtain or are actively discussing obtaining third-party assurance on one or more components of ESG or sustainability data.

Individual boards of directors will need to discuss the proper board committee(s) to be involved in overseeing a company’s climate-related reporting. However, given the role audit committees play in overseeing financial reporting and a company’s internal controls, it is prudent for audit committees to talk to the management team to understand where the company is today with respect to its climate-related reporting and where it wants to be in the future. Audit committees can consider adding the following topics to discussions with company management:

the connection between the organization’s ESG strategy and financial statement impacts and how management considers these impacts, including any impacts on estimates and assumptions;expectations regarding responsibilities for climate reporting and assurance, including oversight of management’s selection of the attestation provider; andthe people, process, and plan to prepare for the SEC’s disclosure requirements.

Seek Perspectives from the External Auditor

Audit committees should also ask their independent auditors for their views on climate-related reporting. Audit committees can consider doing the following in discussions with external auditors:

Ask the external auditors for perspectives on how the company’s climate-related disclosures generally compare to those of other companies. Audit partners report that a lack of tools supporting the collection, collation, and analysis of ESG data presents the greatest challenge in terms of climate and other ESG reporting.Discuss the external auditor’s views on the company’s climate-related disclosures and how the auditor has considered climate-related risks in the audit of the financial statements.Ask the external auditors what their responsibilities are for climate-related disclosures and whether that responsibility is different depending on where the climate-related information is disclosed.

Public company audit firms can also help public companies prepare with a readiness assessment, which may be performed in advance of a review or examination engagement of a company’s climate information. A readiness assessment provides an independent view as to whether the company’s reporting processes, internal controls, evidence available, and governance related to the climate-related information provide the foundation on which to obtain the desired level of assurance.

Julie Bell Lindsay is the CEO of the Center for Audit Quality.

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How Can Compensation Committees Improve Their Impact on Talent Planning?

In recent years, many compensation committees have greatly expanded their charters and influence to cover a broader range of talent management issues and, in some cases, adopted the human capital committee moniker.

Historically, compensation committees have given their greatest attention to the pay of the C-suite and sometimes one level down. As committees have started to extend their purview deeper into the organization, the focus has primarily centered on reports on the current status of key human capital metrics (e.g., diversity, inclusion, and equity; turnover; retention;  engagement).

This broadened purview is certainly a notable first step, but how can committees continue to improve their impact on talent planning without “stepping on the toes” of management—recognizing that the administrative responsibility for talent matters is a management activity? We believe that the answer lies in a targeted focus on both: (1) key strategic and value-creating positions and (2) high potentials below the senior executive level.

A recent McKinsey & Co. study supports this approach. McKinsey found that the talent-related practice most predictive of winning against competitors was a frequent reallocation of high performers to the most critical strategic positions. In fact, “fast talent reallocators were 2.2 times more likely to outperform competitors on [total returns to shareholders] than were slow talent reallocators.” This method suggests that committees looking to improve their impact on talent planning ought to focus in two areas:

High potential individuals. Employees with the skill sets and performance histories that make it likely for them to be future leaders within the corporation or key individual contributors.Pivotal positions. Strategically important jobs that contribute significant value to the company now and in the future. These positions play a key role in executing the company’s strategy and achieving its mission and purpose, and thereby create the greatest value contribution.

With these key populations identified, we see three ways in which the compensation committee can help guide management on talent planning.

First, the committee should carefully understand and assess the full breadth of the company’s employee value proposition (EVP) and the degree to which the EVP meets—or does not meet —the specific requirements of those high potentials and incumbents of pivotal jobs. For example, a company with a relatively lean and flat organizational structure may view that design as a positive benefit to the EVP, generally, in that it empowers the decision-making authority of leaders lower in the organization. That said, it can also result in blocking high-potential talent on the move that are ready for the next, bigger opportunity. Alternatively, consider the way many organizations—across all sectors—have sought to expand their digital and technology talent to advance various strategic imperatives. Oftentimes, the sources of talent for these positions will be the high-tech sector with radically different EVPs. Will the company’s EVP, at large, resonate with this group of individuals in pivotal jobs? In both cases, it may be appropriate to consider differentiated EVPs for the key focus populations.

What might a differentiated EVP entail? In some cases, it may need to focus on the quantum or structure of pay and benefits. In other cases, it may focus on flexibility, resources, and opportunities to serve on “skunkworks” teams to support key company initiatives.

Second, the committee should monitor whether the key focus populations have top-tier development plans that management administers. These plans might include exposure to different parts of the organization, work on special cross-functional project teams, and internal or external training. All of this works best if the key talent is supported by experienced and well-respected mentors and champions in the organization. Importantly, these development plans should also specifically orient to matching the highest potential employees to the most impactful and pivotal jobs.

Lastly, committees may want to use a more strategic approach to pay and pay philosophy. This method might entail more careful consideration of the peer groups, benchmarks, and pay positioning used for pivotal jobs and high potentials (possibly in support of providing a differentiated EVP as noted above).

For example, certain situations, such as the example above for pivotal roles supporting digital transformation, may warrant an alternative comparator group for competitive references. Alternatively, the circumstances may require a more aggressive pay positioning philosophy to reflect the opportunity for impact. It may be that paying in the 75th to 90th percentile for the role in the marketplace, which really may represent median pay if compared to other internal positions with similar impact, is necessary.

As the compensation committee’s mandate expands to meet corporate needs, its impact can be increased by focusing deeper in the organization on key individuals and positions that can help ensure the company’s future high performance. Differentiated EVPs, including pay, may be needed to help ensure the successful attraction, retention, engagement, and development of these individuals.

Mark Emanuel is a managing director at Semler Brossy and Seymour Burchman is a senior advisor at Semler Brossy.

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Where Economics and Life Sciences Collide: Industry Trends to Watch

Following a summer lull in meetings with boards and leadership groups, we are once again sitting down (still mostly virtually) to talk about their plans for the remainder of the year, and to discuss all matters macro that leaders should be aware of through the end of the year and rolling into 2023. From a general economic perspective, these conversations have centered on economic uncertainty, geopolitical tensions, persistent inflation, and continued disruptions to supply chains and labor pools.

When meeting with our life sciences clients, the discussion has quickly focused on the many challenges currently facing the ecosystem and how boards and their management teams are planning to address, or at least understand, what is happening in the biotech, pharmaceutical, and medical device space. For those that may not be in the life sciences space, these discussion points are still important as the sector represents one of the most active in the economy, and it has far-reaching impacts on the health of markets, the health care system, and individuals.   

Keep an Eye on Capital Markets

It is worth noting that life sciences companies are a key driver of capital markets and have comprised more than 30 percent of all initial public offerings (IPOs) over the last decade; that percentage continues to increase. As such the industry serves as a bellwether for public markets and the long-term health of the economy. That is partially why life sciences boards have been acutely aware that the industry appears to have reached peak investment during the pandemic, and that activity in 2022 has been disappointingly sluggish.

In 2021,140 life sciences companies went public in the United States, raising $24.4 billion. From January through August 2022 IPO activity has been a fraction of the prior year’s with only 22 IPOs, and a collective raise of $1.3 billion. This reduction in market activities extends throughout the life cycle of the industry with 2022 mergers and acquisitions (M&A) deal counts at roughly 40 percent of the 2020 and 2021 average, and total M&A capital invested is less than 20 percent of the previous two-year average, according to RSM’s analysis of Bloomberg data. And things don’t look much better on the venture capital and private equity front with activity through August 2022 at roughly 50 percent of the 2021 total in terms of number of deals and capital invested, according to RSM’s analysis of PitchBook data. While these capital flows are not the only factors that impact life sciences, they are the primary driver for the development of new technologies and therapies that support the health and safety of populations domestically and around the world—efforts that should not be taken lightly following the industry’s rapid response to the COVID-19 pandemic.

And as the majority of life sciences companies are precommercial, leadership teams are faced with difficult decisions about how to manage operations, development milestones, labor forces, and investor expectations with very limited resources. These are all issues that much of the economy is contemplating as the United States juggles a potential recession. As such, we encourage leaders and directors to take a hard look at their operating plans for the next 12 to 24 months and to plan for any number of contingencies that may be necessary in such a volatile market.

However, the news is not all dire.

Clinical Trial Activity Remains Robust

Clinical trial pipelines have remained robust with more than 900 first-in-class drugs and therapies currently in phase three or filed with the Food and Drug Administration (FDA). Through the end of August 2022, the FDA has approved 18 new drugs, which is a decreased rate from 2021 (36 approved through August and 50 for the year) and 2020 (38 approved through August and 53 for the year). While the current-year pace of approvals is off from prior years, we believe it is encouraging that life sciences companies continue to start new trials at an increasing rate and that there are more first-time developers entering the space with new and innovative drugs. These efforts are not only drivers of breakthrough technologies, but are also catalysts for job creation, market investment, and new acquisition and joint venture opportunities for established companies.

Massive Amounts of Dry Powder to Be Deployed

Large biotech, pharmaceutical, and medical device companies are sitting on record amounts of cash, as are private equity and venture firms. While deal flows have slowed and many pre-commercial companies are focused on stretching their cash runway, the industry is positioned for an active investment and acquisition cycle with plenty of dry powder and exciting new technologies looking for support. As valuations normalize from pandemic highs and deal flow starts to pick up, boards should be cognizant of how their companies are positioned to pursue financing, make a strategic acquisition, or perhaps consider accepting an M&A deal as an alternative to an IPO in a frothy public market that is waiting to see what happens with inflation, interest rates, and heightened geopolitical uncertainty.  

The Inflation Reduction Act, More Bark than Bite

The Inflation Reduction Act will not have broad negative impacts on life sciences companies. While drug pricing controls are frequent political fodder, the reality is that the provisions of the bill will primarily impact Medicare beneficiaries, a limited number of branded drugs, and likely only the largest drug makers. The ability for the government to negotiate prices on Medicare Part D covered drugs (retail prescription drugs) kicks in in 2026 with only 10 drugs covered the first year and adding 15 to 20 in each of the next three years. Starting in 2028 Part B (physician administered) drugs are also subject to negotiation. Drugs that have been on the market for less than seven years as well as most innovative biologics are exempt. While the initial impact is limited, there is the potential for this bill to be a first step in broader drug pricing reform efforts, and we recommend that all boards familiarize themselves with these provisions and engage in conversations with their management teams to assess current or future impacts on forecasting, pipelines, and negotiations with payers and providers.

Adam Lohr is a partner and senior life sciences analyst at RSM US.

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