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Strategic governance decisions Choosing between an essential (inaugural) board and an advisory board

Author

Céline Chabée
Céline Chabée
Published
July 31, 2024
Strategic governance decisions
As the world becomes more complex and information is more widely accessed, businesses have to adapt accordingly. In any business decision, there is a range of considerations for leadership – and when breaking barriers, it’s wise to admit that you might not even know what you don’t know. Advisory Boards shine here and are commonly used to help businesses succeed in challenging environments.

The Essential Board

The board of directors of a company is one of (if not the) the most important corporate governance functions. Think of the Essential Board as the brain of the company. It thinks and acts in accordance with what it thinks will be best for itself. The Advisory Board is the smart and more experienced friend or family member that the brain consults when it’s not sure what it should do.

This is a crude example, but it speaks to the crux of the difference: the Essential Board decides; the Advisory Board advises. With most things, though, it’s more nuanced than that.

What’s the difference? The Essential Board and the Advisory Board

Essential Board

  • Required by law, on incorporation
  • Board members are elected by the board and/or shareholders
  • Must hold meetings and approve corporate actions of the company
  • Mechanics are set by bylaws, a constitution, or articles of association (usually adopted by the shareholders)
  • Ability to legally bind the company
  • Responsible for day-to-day operations and decision-making
  • Have fiduciary duties
  • Obligated to act in the company’s (not their own) interests
  • Must disclose conflicts of interest with the company
  • Must be knowledgeable about the business and risks, financial and corporate issues, and properly consider decisions before making them (duty of care)
  • Accountable to the shareholders

Advisory Board

  • Not required by law, except in niche areas (commonly in the public sector)
  • No fiduciary duties
  • Members are appointed by the Essential Board based on need and expertise
  • No constitutional documents or bylaws are required but are recommended
  • Generally, less involved in the day-to-day operations of the company
  • Cannot bind the company legally
  • A source of knowledge and expertise for the Essential Board and company management
  • Helps the Essential Board fulfil its duty of care by providing guidance to the Essential Board on specialized topics
  • Accountable to the Essential Board

What’s the Need?

Members of an Essential Board have a legal duty to act in the best interests of the company. Part of this is a duty of care – to be knowledgeable enough to make well-informed decisions. However, as businesses push boundaries and explore new markets, new products, and new technologies, a handful of experienced businesspeople are not always best placed to know everything they need to make these decisions. An Advisory Board acknowledges this very human limitation.

Perhaps your company develops a new technology in the AI space. You have, until now, been in the computer hardware business for decades, and you are one of the members of a 7-person Essential Board, with similar experience. You understand risk, and how to develop and commercialize a product. But you know very little about developing AI or the complex data protection regulations in the EU, where your company intends to expand. Your role is to evaluate the risk, whatever that risk is. And in order to understand that risk, you suggest to the Essential Board that you appoint an Advisory Board of individual experts: a data protection specialist from the EU; a software developer with a PhD in AI; an AI-ethicist.

The need for an Advisory Board is two-fold: first, a director is required to be knowledgeable and make good decisions, and second, a director cannot pass that obligation to someone else. The Advisory Board, then, does not replace the Essential Board; it supplements and informs it. An Advisory Board makes the Essential Board’s decisions better.

In complex markets, especially in technology, investors will want confidence in their Essential Board. A plan to appoint an Advisory Board shows investors that the Essential Board is not ignorant – it is aware of their blind spots, that they may not know what they don’t know, and is open to making the best decisions.

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