Co-creating the Future: The Dawn of System Leadership

The systemic challenges we face are beyond the reach of existing institutions. We sorely need

more system leaders.

After more than 10 years of measuring and rating board effectiveness in widely-held Canadian publicly-traded companies, the Clarkson Centre for Board Effectiveness (CCBE) published a report in 2013 about the performance of family-controlled corporations. Our key finding surprised many people: over the 15-year period from 1998 to 2012, Canadian publicly-listed family firms outperformed the S&P/TSX Composite Index by a total of 25 per cent.

Given that family-firm boards are run quite differently from those of widely-held companies, this outcome encouraged us to reconsider some of our core assumptions about what constitutes ‘good corporate governance’. We wanted to understand how that impressive performance was achieved, and we now believe the answer is that a longer-term perspective is quite literally baked into family firms’ DNA.

Published annually, our Board Shareholder Confidence Index (BSCI) measures boards’ adoption of recognized best practices and transparent communication. BSCI scoring metrics are challenging for even the most cutting-edge issuers; but for family firms—whose approach to governance is so different—it is simply not possible to achieve a high rating. For example, using the 2014 BSCI criteria, having a ‘dual class share structure’ and a few (but not a majority of) non-independent directors — typical for familyowned firms — loses a candidate up to 17 points right off the bat, automatically tying them for 50th place on the ranking.

In 2014, the highest ranked family-controlled corporation in the BSCI was Maple Leaf Foods Inc. (MFI), which ranked 46th out of 242 issuers. MFI did reasonably well because it has adopted practices more typical of a widely-held issuer than a family firm. For example, the only non-independent director on its board is the CEO and controlling shareholder, Michael Mccain. After MFI, the next highest ranked family firm was Saputo Inc., in 101st place.

Given that Canadian family firms are among the best performers in the country — and also appear to be relatively resistant to major blow-ups — the fact that they were consistently ranking towards the bottom of our ranking deserved urgent attention. The result: the world’s first family-firm board rating.

In 2014, we interviewed directors and executives representing 21 family-controlled and publicly-listed issuers, and found enough evidence to support the creation of a new family firm board effectiveness index, which we named The Long View — reflecting the clear advantage that family firms have in avoiding the temptations of short-term gains. The Long View will measure family firms against criteria that are specifically tailored to their governance realities, providing a framework to compare them against each other, rather than against the norms of widelyheld issuers.

The process of developing the ranking began with a philosophical adjustment, as many BSCI criteria reflected generally accepted governance concerns, including the beliefs that:

• Highly independent boards and committees help to ensure appropriate and impartial oversight of strategy, operations and management;

• Enhanced disclosure of executive compensation leads to

a level of rigour that can withstand external scrutiny; and

• Majority voting policies provide minority shareholders with greater influence over the composition of the board of directors, who are their key representatives.

For our inaugural ranking, we selected 24 criteria against which we scored 37 Canadian family firms. Some criteria from our original ranking were included without any adjustment, while others were included with slightly different definitions or thresholds; still more were developed specifically for The Long View. The full methodology can be downloaded from our website: rotman.utoronto.ca/ Facultyandresearch/researchcenters/clarksoncentreforBoardeffectiveness

Following are three key areas where the The Long View is criteria differs materially from our original ranking for publicly-held firms.

1.Ceo/chair Split is Not Required. The trend of splitting these roles has proliferated across Canada over the past 20 years, but as indicated, it is not the norm with family firms: approximately 65 per cent have either chosen not to split these roles or have appointed a non-independent family member to serve as Chair of the board. Our interviews revealed that this is because they believe a family member — as a representative of the controlling entity — is best positioned to guide the board in its strategic decision making. Although they are less likely to split these roles, family firms are deeply concerned about the inherent conflict-of-interest that this structure presents. As a result, most have appointed an independent Lead Director, and have empowered this individual to fully monitor and ensure the independent operation of the board.

2. Director Interlocks Are Acceptable. A ‘director interlock’ occurs when two directors sit on two different public boards together. Both of our ratings allow for no more than one director interlock per board, in order to receive full marks; but in the case of The Long View, there are no limits on interlocks between affiliated public issuers. For example, if two directors sit on the board of a family firm as well as the board of its publicly-listed subsidiary, this does not count against their rating. Only those firms with more than one director interlock with non-affiliated corporations receive a deduction in The Long View.

In our interviews, family firm board members explained that it is often of great benefit for them to have a small number of directors who sit on multiple affiliated boards. This arrangement helps to ensure that the strategic and financial interests of each entity are suitably aligned. It also enables a more efficient flow of information throughout the group of companies. As opposed to interlocks between widely-held corporations — which can present the risk of decisions being made in the interests of an entirely separate entity — interlocks within a family firm’s larger corporate structure can present a governance benefit.

3. Regular Meetings Without Management. Allowing directors to meet without management present is a simple yet highly effective governance mechanism. According to many people we spoke to, it may be the single-most important practice to ensure that family firm boards make effective and independent decisions. For The Long View, credit is given as long as independent directors meet without management at every full board meeting. If the board holds a strictly transactional meeting — i.e., to simply approve a single item that has already been discussed — we do not expect the board to hold an ‘in camera’ session without management.

In closing As with our first BSCI rating in 2002, the inaugural Long View scores will not be published, in order to provide sufficient opportunity for us to communicate further with family firms and determine how to improve the rating. In January 2016, the results of the second Long View survey will be published on the CCBE website.

Over time, The Long View will evolve, as the BSCI has, to include new and more nuanced criteria that represent the everchanging landscape of corporate governance. In coming years, it is our hope that family firms will no longer be frowned upon with respect to their corporate governance. We also intend to incorporate the lessons we learn from these organizations into the broader discussion of corporate governance for the benefit of all businesses.