Board Members Versus Board Observers

December 21, 2022

There is often some confusion about the difference between a board member and a board observer when it comes to a board of directors. In addition to understanding the role each one plays, there are also usually questions about the rights each is entitled to and what their responsibilities are. Let’s dive into these differences!

What Is a Board of Directors?

When a company is public, shareholders elect the board of directors that acts as a governing body for the organization. The board of directors is responsible for setting the strategy and dealing with managerial matters of the corporation.

Every public company is bound by law to have a board of directors that conducts meetings at regular intervals; some private firms and nonprofit organizations also have boards of directors. 

What Is a Board Member?

A board member belongs to the governing board of a public company responsible for making managerial decisions and setting company strategies. Board members are fiduciaries who work to ensure a sustainable future for the organization by implementing financial and ethical policies. Through these policies, they ensure that an organization has enough resources to achieve its goals.

In public companies, board members are elected by their shareholders by making board of directors nominations. In most cases, the nomination committee nominates candidates for the board. Investors can also nominate board members to change the board's leadership and company policies.  

Some may wonder if a board member can be an employee, but this is typically not permitted as it is a conflict of interest.

Responsibilities of Board Members

Members of a board of directors have predefined responsibilities within an organization. The primary role of the board of directors is to hire, supervise, and evaluate people in key positions, such as the chief executive officer (CEO) or a company's general manager, and to analyze the business's overall strategy and performance. Board members are responsible for setting the direction of the organization to ensure that the vision and mission of an organization are met. 

The members contribute to developing a governance system and managing a healthy relationship with the CEO. The board is responsible for protecting the interest of the corporation and investors within a company; it’s also responsible for the auditing process. Members hire an outside auditor and monitor the auditing process to ensure that it is done every year and on time. 

What Is a Board Observer?

A board observer is not a board member but an individual who can attend and actively participate in the board of directors meetings. They have access to all the information provided to other board members during meetings, but a board observer is not allowed to vote on topics up for discussion.

Who Can Become a Board Observer?

There is no specific rule or formula on who can become a board observer. Any person who owns between a 1% and 10% stake in a company can become a board observer.

One can get the rights of a board observer through a stockholder’s agreement or a side letter. Board observer rights are commonly granted to venture capitalists or people with private equity in a business. 

Recently, there has been an uptick in the number of investors, particularly angel investors and venture capitalists, who prefer not to take a board seat because of compliance and governance issues. Instead, they prefer to become board observers.

Board observers are brought on board for different reasons. Sometimes, investors want team members to attend board meetings to help guide the company. 

When a corporation has received venture capital funds through multiple rounds, it’ll often need a person who can inform its investors about what is happening within the company. Instead of providing board seats to multiple different investors, it will add a board observer.

Differences Between Board Members and Board Observers

Board observers are informal members of the board–they don't have any fiduciary responsibilities to the company. That said, a board observer is equally responsible for maintaining the confidentiality of a company just like a board member. 

Moreover, members of boards can vote; they can also exclude board observers from meetings when there is a confidential discussion or to avoid a conflict of interest between stakeholders. The board members prioritize the organization's interests over their personal ones. In the case of a board observer, they can prioritize their personal interests.

Board observers don't have the same rights and responsibilities as board members. When investors hold a large share of the corporation, they can still have considerable influence, even as board observers. 

Can board members receive benefits? We let you know in our recent article.

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