The Wall Street Journal-20080114-Corporate Governance -A Special Report-- Too Many Cooks- Companies are tapping outside CEOs to run their boards- It makes sense -- but it could also be a recipe for conflict
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Corporate Governance (A Special Report); Too Many Cooks? Companies are tapping outside CEOs to run their boards; It makes sense -- but it could also be a recipe for conflict
Facing calls for tighter corporate governance, a growing number of companies are turning to a new breed of chairman to lead their board -- outsiders with experience as CEOs.
The appeal of the tactic is simple. Current or former chief executives bring a wealth of practical experience to the job, but they don't have the baggage that an inside candidate would carry. CEOs from outside "understand the complexities of business and management, yet they are more objective about people and business matters than an internal chair," says Dee Soder, managing partner of CEO Perspective Group, a New York-based executive-advisory firm. "They're not tied to the past, and they're more willing to consider new ideas and strategies."
In recent years, a number of big names have taken the step, including Walt Disney Co., Marsh & McLennan Cos. and Bristol-Myers Squibb Co. And many other companies are weighing the move, says Patrick McGurn, special counsel at RiskMetrics Group Inc., a proxy- voting advisory firm based in Rockville, Md., that was formerly known as Institutional Shareholder Services. In some cases, companies are trying the arrangement to reassure stockholders after a scandal or a bad corporate report card. Others are making the move as soon as they go public, or when they install a new CEO from outside the company.
"It's on their radar screen now," says Mr. McGurn. "When companies discuss leadership issues, whether or not to name an independent [CEO as chairman] is clearly one of the questions that they're talking about."
But as more companies tap outside chiefs as chairmen, the potential for turmoil at the top is increasing. Critics warn that this new breed of chairman will be tempted to meddle in management issues reserved for the actual CEO. Moreover, having two chiefs in top spots could confuse shareholders about who's actually in charge.
Companies, these critics warn, should screen prospective chairmen carefully to make sure they're compatible with the CEO. They should also spell out each person's duties carefully -- and then find ways to defuse conflicts as they arise.
"It's very difficult for former CEOs to become chairman and step back," says Dick McCallister, a Chicago-based managing director for the corporate-board practice at recruiting firm Boyden Global Executive Search. "These professionals are used to being the one in charge. It's plain human nature."
To be sure, the movement toward naming outside CEOs as board heads is still in its infancy. As of last June, just 7.2% of S&P 500 companies in one study had an independent chairman who was a current or former CEO of another organization, up from 6.1% a year earlier. For that analysis, the Corporate Library, an independent corporate- governance research firm in Portland, Maine, looked at about 475 companies in the Standard & Poor's 500-stock index that filed proxy statements by June 1 of each year.
Those percentages are still small compared with the alternatives. A similar report from Spencer Stuart, an executive-search firm based in Chicago, found that 65% of S&P 500 companies combined the CEO and chairman roles, while 17% had separate chairmen who formerly served as their CEO. The other 11% generally held other high-level management positions, or were company founders. Spencer Stuart studied 478 companies in the S&P 500 that issued proxy statements by May 31 of last year.
Theodore Dysart, a managing partner at executive-search firm Heidrick & Struggles International Inc., knows the kind of conflict that can ensue. In 2005, a large public company brought in a chairman who had served as CEO at another company. Within six months, the new boardroom head began getting involved in the chief executive's job. He invited himself to strategy meetings that had been previously restricted to management and intervened in senior managers' performance reviews.
Finally, the chairman pressured the chief executive of three years to resign -- even though the CEO had no history of serious performance problems. Replacement candidates were quickly dismissed, and the board leader took over the top job, which he still holds today.
The chairman "clearly wanted to run another company," says Mr. Dysart, who became an adviser to the company shortly after the chairman took over as CEO. "In this case, two cooks in the kitchen were one too many."
Still, for all the potential problems, some companies are warming to the idea of outside CEOs as chairmen -- and credit such a move with helping them survive a major crisis.
Take Tenet Healthcare Corp., a Dallas-based operator of acute-care hospitals. In July 2003, the company named Edward Kangas, former world-wide chairman and CEO of Deloitte Touche Tohmatsu, as its first outside board leader since its formation in 1995. It was a critical time for the company: About seven months earlier, federal regulators had started an investigation into Tenet's pricing strategy and other business practices, causing its stock to plummet. Several private lawsuits against the company -- brought by patients alleging unnecessary surgery -- added to its troubles.
Mr. Kangas was a wise choice for the chairman job because "not only is he a former CEO, but he is a regulatory-sensitive person," says John Coffee, a professor at Columbia Law School in New York who is familiar with Tenet through his research into corporate boards. "Anyone running an accounting firm understands the need for cutting square corners."
With Mr. Kangas running Tenet's board, the company replaced many senior managers and named a new chief executive, Trevor Fetter -- the company's president and interim CEO at the time. Then Mr. Kangas and the board backed a series of crucial belt-tightening initiatives from Mr. Fetter. These included plans to invest $40 million annually toward new programs designed to improve patient care. The company also entered strategic alliances with several nursing unions, sold 58 -- or more than half -- of its hospitals and started expensing the cost of stock options.
Messrs. Kangas and Fetter say they forged a healthy relationship early on by being cognizant of one another's responsibilities. "I understood in a first-hand way the role Trevor was playing and that my job was to lead the board, not to lead the company," says Mr. Kangas.
Mr. Fetter agrees that Mr. Kangas "had a strong view that management was not his role. Ed has been a stickler about making sure people are clear on that both inside and outside of the company."
In June 2006, Tenet resolved all government investigations into its business practices with a $900 million settlement package. Last year, RiskMetrics Group rated Tenet's corporate-governance performance better than 96.7% of its S&P 500 peers -- up from a showing of 50.8% in 2002. RiskMetrics Group also listed the company among the top 1% performers within the health-care sector.
So, how can companies make sure things go smoothly when they bring in an outside CEO as chairman?
For one, conflicts between chairmen and CEOs can be resolved with open and honest communication. One former CEO who took on a chairman job in the early 1990s says he found himself stepping outside the bounds of his job and getting involved in operational details. "It was a natural reaction for a former operator like myself," he says.
He recalls that the CEO simply confronted him about the issue -- and that ended the problem. "He was right, and I backed off," the former CEO says.
Companies should also look for danger signs when they're interviewing potential chairmen. For example, companies should be wary of candidates who appear to have too much time on their hands, warns Julie Daum, North American Board Services practice leader at Spencer Stuart. "If this is your only job, you might have a tendency to make more out of it than what it really is," she says.
They should also watch out for candidates who seem too ambitious. Consider the case of the chairman who ended up ousting the CEO. Mr. Dysart, of Heidrick & Struggles, says the candidate openly stated during the interview process that he was interested in also running another company. "That was a red flag that the directors in hindsight would say they should've paid attention to," Mr. Dysart says. "It was clear that this person had a deep desire to lead a company."
Companies may be able to avoid power struggles by carefully assessing how candidates' behaviors and traits mesh with those of their CEO, says Dr. Soder of CEO Perspective Group. Some companies give behavioral-assessment quizzes; others just ask questions about the person's work style. "A healthy relationship between a chairman and CEO is essential and depends greatly upon their personalities and leadership styles," she says.
To boost the odds of making a favorable match, companies should also interview professionals who have prior experience working with the candidates in a range of capacities, says Ms. Daum of Spencer Stuart. "You want to see in what kind of environment they are successful and what kind of people they work best with," she says.
Most important, companies need to be sure the candidate they choose understands the parameters of the job, says Ms. Daum. "You want somebody who really wants the CEO to be a success and to shine."
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Ms. Needleman is a reporter for WSJ.com in New York. She can be reached at [email protected].
