Surviving Board Politics and Conflicts of Interest
Art by Pete Ryan
For many CIOs, dealing with boards is the toughest part of the job—a delicate sleight of hand that doesn’t always end well. “A big reason CIOs leave their jobs has to do with conflicts with the board and board politics,” says Charles Skorina, managing partner of Charles Skorina & Co., a Tucson-based executive search company, specializing in senior investment executives.
The problems CIOs face are myriad, from ill-informed trustees to outright conflicts of interest. But the common thread comes down to the governance structure—the decision-making process and who is in charge of what. “It’s the biggest driver of why a CIO chooses to find a different business card,” says CIO 1, a longtime professional who preferred to remain anonymous, as did all the CIOs interviewed for this story. “It was a huge determinant of why I left.”
In some cases, CIOs find ways to address these issues. In others, they don’t. Generally, CIOs say that the more hands-on the board is and the less it delegates decision-making to the CIO and staff—activities like interviewing money managers and going on due diligence trips—the greater the opportunity for friction. “The issue of the board being overly involved in decision-making, in maintaining control over just about everything, is a problem for CIOs,” says CIO 2.
To be sure, there are many well-run boards, with members who approach their fiduciary roles with care. That’s especially true for public boards. “Many of us believe that board members come from a good place and take retirement security very seriously,” says CIO 1. “Public board members are volunteers and should be appreciated.” For every troublesome board member, there are numerous conscientious ones.
Trouble Spots
Probably the thorniest issue CIOs face is choosing fund managers. Too often, board members lobby for their own friends and business associates without considering whether those managers fit with overall investment objectives or have a good track record of performance. “Any CIO needs to recognize there will be pressure,” says CIO 3. “If the recommendation is to hire a friend of a friend, that’s when it gets to be difficult.”
Or, according to CIOs, board members may attend conferences where they’re wined and dined by asset management firms trying to influence their opinion. That is particularly true if the board’s role is not only to set policy, but also to be in charge of the actual implementation. But even in cases where the CIO’s staff does more of the heavy lifting, the CIO can still be vulnerable. “A member of the board will direct the staff to hire a fund manager,” says CIO 4. “If you don’t, you’re going to lose your job.”
More often than not, board members don’t make explicit requests. “They don’t say they want something, but you can tell,” says CIO 1. “There’s a code.” These discussions also usually take place in private. “It’s not in the record that the reason a manager was considered in the first place was because a board member said, ‘if you don’t include them, I’ll make sure your life is a living hell,’” says CIO 4. And, there’s also a quid pro quo among some board members, according to CIOs. “In between meetings, board members may talk to each other. One will say a fund is coming up for a vote and, next time, I’ll vote for your guy,” says the same CIO. “They’re scratching each other’s back.”
Such situations happen on both public and private boards, according to CIOs. On public boards where some members are elected, there’s another wrinkle. Elected members may feel they’re on the hot seat, facing greater scrutiny by voters to choose certain types of managers. “I’ve seen board members focused on asset management firms that fit their constituency, like an underrepresented group,” says CIO 1. In such cases, board members feel pressure not to help a friend’s friend. Rather, they see their role as following through on voters’ expectations.
The situation is compounded on boards with trustees lacking the appropriate expertise. “The question is who gets on boards,” says an industry insider. “If you’re talking about universities or foundations, it’s usually who gave the most money.” In the case of public boards, elected members may have little to no financial experience. The result: Board members may not only be less than adequately informed about investing, but also may lack any managerial knowhow. “If you have little management experience, serving as a pension trustee can present a very steep learning curve,” says CIO 1. Or board members with little knowledge of what it means to be a fiduciary may have an unrealistic picture of how prepared they are, basing their perception on their personal investing history. “The board member thinks, ‘I’m a great 401(k) investor of my own money, so I have something to teach the investment group,’” says CIO 2.
Such inexperience can be particularly troublesome when it involves an aggressive board member and a conflict-averse board. Skorina recalls sitting in on a board meeting where the CIO discussed a $500,000 investment in a top venture capital firm that, he says, had the potential to reap big returns. Then a board member vociferously argued that no investments under $2 million should be made. Ultimately, the board concurred, even though that minimum number seemed somewhat arbitrary. “Boards tend to not want conflict, so often they just go along with the person making the most noise,” says Skorina. “The CIO couldn’t do anything about it.”
Dealing with new board chairs can create another level of political danger. A new chair will likely have a different personality—less assertive, for example, or more controlling—and different priorities and biases. And, there’s no guarantee the individual will have appropriate expertise. “A new chair can come in who’s a professor or a doctor or a company founder. Do you think they necessarily know about institutional multi-asset investing?” says Skorina.
Protection
When it comes to inoculating themselves against the difficulties of board politics, a CIO’s smartest move is forming a solid rapport with board members—and treading lightly. “You need social skills,” says Skorina. That also means forming alliances with as many board members as possible. CIOs recommend regularly holding unstructured conversations, via anything from one-one-one lunches to phone calls, particularly in advance of board meetings. That helps to build credibility and trust. “If the board is responsible for day- to-day operations and oversight, they want to feel comfortable that the team Is effective,” says CIO 3.
Making sure board members don’t get unexpected news is also important, whether there’s been turnover among staff or investment underperformance. “Boards don’t like to be surprised,” says CIO 4.
Of course, such an approach works only if board members are open to this kind of communication. “Some board members don’t want to hear from the staff other than through formal meetings, others want monthly updates,” says CIO 4. He instituted a process through which he would send the board materials a week before a meeting. Over the next two days, he would speak to each board member discussing what was on the agenda and the reasons for every decision. But at his next job, at another public fund, the board wasn’t interested in holding these discussions. The result: Board members tended to come to meetings unprepared, often bringing up questions already addressed by staff evaluations. “You’d have to explain why you felt something wouldn’t work and that put the board member on the defensive,” he says. “It wasn’t really good for a healthy relationship.”
While public records of proceedings may help, they aren’t the be-all and end-all. For one thing, meeting notes often are vague. And even on public boards, “Not all decisions are made in public sessions,” says CIO 4.
Still, they can provide some cover. CIOs recommend ensuring that all recommendations and the rationale for them are clearly and objectively stated in public documents, without saying anything overtly negative. The same CIO points to a board member who had a vested interest in a particular fund manager and refused to disclose it. The person ultimately was chosen. But the public record noted the staff’s recommendations about the selection. “At least the staff’s concerns were in the public record,” he says.
When in doubt, CIOs can regularly turn to the investment policy for backup. That is, should board members support taking potentially harmful actions, CIOs can point to policies and demonstrate the ways in which they make those changes impossible. “The beauty of it is, you can say, I hear what you’re saying, but our policy says I can’t do that,” says CIO 4. Best defense is, from day one, to recommend policy updates, including manager selection criteria— setting different parameters for choosing managers in various asset classes, for example. The board may adopt or reject those recommendations. “But at least you gave it a shot,” he says.
An investment policy-focused attorney can provide extra protection. “The lawyer can tell the board we need to follow the letter of the law. And if you don’t, we’re going to get sued,” says CIO 3. For that reason, such attorneys should regularly attend all meetings.
Complementing those efforts should be a concerted effort to educate board members on the ABCs of investing and fiduciary responsibilities. That can involve meeting privately with certain board members to discuss some basics. Or, if a CIO plans to make a complex recommendation, it can mean a long-term educational process. “This is another way to build credibility,” says CIO 4. He points to a time he wanted to introduce a plan to address currency exposure. Six months before making a recommendation, he started to educate the board on the importance of that issue at every meeting. Then, he included the topic in an asset allocation study. Later, he explained that he was putting out an request for proposals for a manager to handle the issue.
Ultimately, not all disagreements are worth fighting over. CIOs say that, if a decision—choosing a particular counter-party or index fund, for example—isn’t likely to have an appreciable effect on returns, they generally give in. “You weigh the impact on the portfolio vs. the relationship you want to have with your board member for your long-term success,” says CIO 3. “You have to pick your battles.”
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Why Politics Has No Place on Pension Boards
Former Public Pension CIO: Endowments Marked by More Informed Boards