Every company is required to have a board of directors, even if it is just one person - the owner. No matter what, the board must be in place when you start your company.
But who should be on the board and what does a board of directors do?
Who Becomes a Board Member?
Board members are often investors in the company and protect the interests of the stockholders. For an early-stage startup, the only investors may be the founder(s). The founder(s) are often the only stockholders early in a company’s life as well.
As your company goes through rounds of funding, however, you may wish to award significant investors with a seat on your board. It’s also possible that a seat on the board is one of the demands an investor makes in return for investing in your company.
Since the board of directors makes all the important decisions for the company, be wary about whom you allow on the board. If you don’t want a particular investor to be a director, you may be forced to turn down the money offered.
- As the company grows and evolves, the board composition and number will grow and evolve as well.
- One rule of thumb many companies swear by is that there should be an odd number of members on the board to eliminate ties.
- If the board becomes too big or an investor is not offering a large enough investment, you can allow the investor to join as an observer rather than a member of the board.
- Observers participate in board meetings but are not allowed to vote.
You may hear about the perfect makeup for a board. You are supposed to have an ideal mix of company executives, shareholders, and unaffiliated individuals with unique talents and perspectives. Unfortunately, attracting such ideal members to the board of a new startup is nearly impossible. You won’t be able to compensate such members adequately, and you could put them in jeopardy of litigation if you cannot afford to indemnify them.
What Does a Board Do?
The board of directors of any company is responsible for the most significant decisions about the company.
- Stock issuance
- Setup of stock option plans
- Authorize fundraising and loan requests
- Hiring and firing senior management
- Approve budgets
- Provide important connections with other helpful resources and companies
- Offer advice and guidance
The board is also responsible for determining if the company should be acquired or acquire another company. It helps the company enter into strategic transactions, and approve key hires. Salary and other compensation are also determined by the board of directors, including the salary and compensation of the CEO (Y-O-U).
Keep in mind that board members have the right to inspect the books, records, and corporation property. Sometimes this right is abused by a dissident member who may cause discord on the board or reveal private company information.
Fiduciary Duties
Board members are known as fiduciaries and have fiduciary duties. These duties are obligations to manage a company owned by a group of people called stockholders. The fiduciaries must act responsibly toward the interests of the stockholders. If the duties are not fulfilled, stockholders can sue board members.
There are two fiduciary duties a member of the board must perform:
- Duty of care - each director must be informed about company operations. All decisions must be made with relevant facts.
- Duty of loyalty - each director must act in the best interests of the company and its stockholders, not out of self-interest. If there is a conflict of interest, the member with the conflict should notify the board and recuse him or herself from discussion and approval of topics leading from the conflict.
Board Compensation
How are board members compensated? It depends on the stage of the company and the identity of the board member. Compensation differs between members and between companies. As a startup, it is unlikely the board members will be compensated very highly, if at all.
- Usually, board members who represent funds investing in the company do not get compensation for their time and services.
- Independent board members get company equity in return for service.
- Early-stage directors may receive one-half of a percent to two percent equity in the company, with the percentage decreasing as the company grows.
- Occasionally, compensation is in cash.
Most companies compensate board members for out-of-pocket expenses such as travel. In addition, members are indemnified from liabilities incurred in their capacity as directors. You should maintain a minimum of $1 million of Directors and Officers' insurance, an amount you should increase as the company grows.
Who should you choose to be on the board of your startup? It depends on how many shareholders you have. You may be the only board member until your company grows. As it grows, significant investors may come on board.
Don’t worry too much about whether the board has the perfect type and number of members as long as each member fulfills the fiduciary duties expected of the position and protects the interests of the stockholders.