By Adam Sterling, Assistant Dean, University of California, Berkeley, School of Law
February 23, 2023
According to data from Aumni, Inc., approximately 30% of venture-backed companies have a vacant independent board director seat following the close of a preferred stock financing.
Why do independent directors matter and why are so many venture-backed startups leaving these seats vacant?
The board of directors plays a key role in overseeing a company’s governance policies and procedures. Within the board, independent directors help to ensure that critical decisions can be made without conflicts of interest. Independent directors can also bring new and more diverse perspectives to the company. According to Brad Feld, partner and co-founder of Foundry, “Having independent directors [provides] a broader set of thinking.”
Venture Capitalist Brad Feld is interviewed by Kristen Savelle of Stanford University for the Independent Director Initiative
In the venture capital community, corporate directors often lack independence from their portfolio companies due to the nature of their roles as executives and/or investors. To address this lack of independence, it is common for startup companies to create at least one independent board seat upon closing a venture equity financing round. However, many startups fail to fill such seats for an extended period of time, often until the company is preparing for an IPO and faces public market listing standards.
Having an independent director can help reduce legal risk to a company. When boards have to make difficult decisions, such as approving a down round of financing, an acquisition, or restructuring, disgruntled or excluded shareholders will often bring lawsuits. The Delaware courts have a history of giving deference to decisions made by boards with independent directors. This dynamic will become especially important in an unstable macroeconomic climate and with the technology industry under increased scrutiny from all corners.
According to Delaware Court of Chancery Vice Chancellor J. Travis Laster, who has decided some of the most critical cases related to board independence, “If there is litigation…a court wants to look to the independent [directors] and ideally back the decision they made.”
Delaware Court of Chancery Vice Chancellor J. Travis Laster is interviewed by Professor Robert Bartlett for the Independent Director Initiative
In 2022, a group of universities and organizations launched the Independent Director Initiative. The initiative trains — and helps place — leaders from backgrounds underrepresented in venture capital to serve as independent directors on the boards of venture-backed private companies. The inaugural cohort of Independent Director Initiative Fellows is diverse and impressive. Fellows include a former CFO at FedEx, former CEO at Glass Lewis, former CMO at Clorox, former head of the Committee on Foreign Investment in the United States (CFIUS), and the CTO at the Chan Zuckerberg Biohub Network.
Good corporate governance, or the lack thereof, has become a defining issue in the business community. Corporate stakeholders, including investors, employees, customers, and regulators, are demanding that companies develop and implement governance best practices. Silicon Valley is way behind in this area and the independent director seat is a critical step on the path to good governance.
Kelsey Chase, partner to the Independent Director Initiative and co-founder of Aumni, Inc., shared his thoughts about board independence: “Typically and especially for early-stage companies, boards include laser-focused visionary founders and growth/financially-motivated private investors who tend to fall in fairly well-defined, non-diverse archetypes. An independent and diverse voice can bring perspective and discipline to strategic conversations, and I’ve found from my own boardroom that passion and capitalism can benefit from outside expertise, wisdom, and unbiased thinking.”
For more information about the Independent Director Initiative, including board opportunities, please contact [email protected].