Deciding who gets a seat at your board table is not always easy. Sometimes you will have the luxury of making the decision yourself. However, your hands will often be tied by investors insisting they get a seat at the table in return for their investment. Additionally, venture capital funds and some sophisticated angel investors will commonly insist on having the right to appoint a non-executive director when they are investing substantial amounts of capital into your business. This article will outline the types of directors you would expect to encounter on the board of a private company with a focus on non-executive directors.
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Executive Directors
To understand the role of a non-executive director, you should understand who is an executive director. Executive directors are also company employees and usually play an active role in its day-to-day management and operations. They commonly include but are not limited to senior managers such as chief:
- executive officers or managing directors;
- financial officers;
- technical officers; and
- operating officers.
Typically with startups, you and your fellow founders will be directors from the get-go. When you are ready to raise capital, investors will insist you have a shareholder agreement. Therefore, you should get a well-drafted shareholders agreement that ensures you keep your director appointment rights and adequate voting rights.
Non-Executive Directors
Non-executive directors are non-employee directors. You might see them as ‘outside directors’ in the US or by the abbreviation ‘NED’. In private companies, non-executive directors often represent the interests of substantial shareholders, such as venture capital firms and angel investors.
Some founders can be reluctant to introduce outside directors to their company’s board. However, non-executive directors often bring independence and a wealth of experience and knowledge. In addition, non-executive directors appointed by an investor have a vested financial interest in ensuring your business survives and thrives.
Continue reading this article below the formDirector’s Obligations
Although non-executive directors do not have the same day-to-day knowledge as executive directors, non-executive directors must carry out their director’s duties to the same standard as executive directors.
In this sense, a non-executive director cannot outsource their duty of care, skill and diligence by relying on external advice without making their own inquiries. Therefore, any non-executive director on your board has an overriding duty to act in the best interests of your company rather than their investment fund.
Observers
Suppose you are in a position where you do not want to dilute control by appointing a non-executive director. However, you need the capital a substantial investor is willing to inject. In this case, appointing an observer can help you reach an excellent middle ground. Generally speaking, a board observer is a board appointee who enjoys all the rights (including access to information) that directors enjoy without the right to vote on board matters.
Board Control: Decision Making
An important consideration when deciding to grant an investor a board appointment right is the level of consensus you need to pass board resolutions. Many founders will want to maintain veto power by ensuring that the requisite majority required to pass or reject board matters includes the founder.
A well-drafted shareholders agreement will ensure that the investors’ board appointment rights are contingent upon maintaining a certain shareholding. This is typically between 7% and 10%. This has the added benefit of enticing the investor to participate in future capital raises. That is to say, they can maintain their board appointment shareholding threshold and prevent dilution of their shareholding.
Key Takeaways
A non-executive director is an external director who is not involved in the day-to-day running of your business. Under the law, non-executive directors must carry out their director’s duties to the same standard as executive directors. In this sense, a non-executive director cannot rely on advice from advisors without making their own inquiries.
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Frequently Asked Questions
Whether you can remove a non-executive director depends on your company constitution’s wording or shareholders agreement. Sophisticated investors insist on having a shareholders agreement in place, which gives them sole discretion to appoint and remove directors. If you do not have a shareholders agreement, most company constitutions require a 75% majority board vote to remove a director.
There is no legal requirement for directors’ remuneration. Whether any director is entitled to remuneration or fees for their services is generally a matter to be determined by a resolution of the shareholders.
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