Buffett’s Annual Letter: A Board Assessment Tool

Boards would do well to use Warren Buffett's annual governance missive as a guide when evaluating their own effectiveness.

In his annual letter to Berkshire Hathaway shareholders released in February, CEO Warren Buffett reflected on several corporate governance challenges boards face today. While acknowledging the difficulties, he suggests that directors must meet these challenges head on as part of their obligation to shareholders, stakeholders and their companies.

As a director who has served 62 years on 21 different corporate boards, Buffett’s insights can serve as a starting place for boards that want to assess themselves and begin transforming their companies to mirror those in the Berkshire Hathaway portfolio. Here are key questions that can help you perform a “Buffett board assessment”:

Have you found the right CEO? In his annual letter, Buffett writes: “The bedrock challenge for directors, nevertheless, remains constant: Find and retain a talented CEO— possessing integrity, for sure—who will be devoted to the company for his/her business lifetime.”

This suggests that Buffett believes many CEOs may not possess “integrity” and may not be “devoted to the company” for their business lifetime. It might be a good exercise for each board to determine whether their current CEO meets these criteria. This starts with each board deciding as a group what level of “integrity” their CEO should have and what actions demonstrate a CEO’s “devotion to the company.” This is a reminder that all boards should embrace the responsibility of selecting a CEO that will not attempt to game numbers or look to sell the company for personal gain. Does your board currently have a CEO who has growing the company long-term for all stakeholders as his/her primary focus?

Have you added female board members? Buffett noted that 2020 marks the 100th anniversary of women attaining the right to vote, yet having their voices heard in boardrooms is still “a work in progress.”

In light of this anniversary, there is no better time for boards to evaluate their own progress on this issue than now. Most governance experts view having at least one woman director on a board as “best practice.” Has your board done all in its power to meet that standard or better?

Are you scrutinizing acquisition proposals properly? Buffett writes: I have yet to see a CEO who craves an acquisition bring in an informed and articulate critic to argue against it.

This begs the question: Do current board processes allow directors to thoroughly analyze and oppose an acquisition or sale proposal from the CEO without risking their seat on the board? Additionally, does the board retain outside auditors to determine if a proposed acquisition or sale is truly in the best interests of all stakeholders?

In his letter, Buffett contends that many acquisitions (and sales) are fueled by management’s ego or by lucrative financial incentives to getting deals done. Is there enough oversight in place on your board to ensure all acquisitions or sales lead to the long-term growth of the company?

Is your director compensation in the best interest of stakeholders? Buffet suggests that over time, director independence has been compromised by rising compensation. Director compensation has now soared to a level that inevitably makes pay a subconscious factor affecting the behavior of many non-wealthy members,” he writes.

He suggests that once directors begin earning $250,000-$300,000 for attending meetings “six or so times a year,” they may be inclined to do anything to maintain that paycheck. “Is it any wonder that a non-wealthy director now hopes—or even yearns—to be asked to join a second board, thereby vaulting into the $500,000-$600,000 class?” he writes.

Buffett’s point is that between higher director fees and the awarding of millions of shares of stock, directors may be so comfortably compensated that they don’t maintain the urgency of action required to push management to improve the company long-term. In this scenario, independent directors become dependent on the compensation the company affords them and thereby begin working for their own interests. That is not good for the stakeholders. Is your director compensation plan structured to keep the directors in the fold or to keep the shareholders and stakeholders happy?

Does your board refreshment policy keep your board prepared to compete? Buffett writes, Generous age limits—usually 70 or higher—act as the standard method for genteel ejection of directors.”

This comment suggests Buffett feels directors might have forgotten that board seats are like any other high-level position—to keep them, you must deal with intense competition and you must be a high performer. Age and misconduct can’t be the only ways directors are removed from the board. Does your board have a fair and respectable way to make sure all directors are making substantial contributions to the board? Has your board considered term limits as a way of ensuring new insights and members are constantly added to the board?

Does your board have basic principles that are used to determine who will be chosen to sit on your board? Just as he has core principles for picking stocks, Buffett has principles for selecting directors: At Berkshire, we will continue to look for business-savvy directors who are owner-oriented and arrive with a strong specific interest in our company. Thought and principles, not robot-like process will guide their actions.”

With this statement, Buffett clearly articulates what he believes makes an ideal corporate director. Each company should come up with its own core principles they want in their corporate directors and then refuse to compromise when making their selections. It might be a good exercise for boards to discuss or write down and tabulate which characteristics they want in future directors, creating a new criteria for board selection that incorporates the core values of the company. What better way to assess the board than having its members articulate what they should be living up to? If all else fails, you can use Buffett’s criteria—they seem to have worked well for him.