Board Games: The Role of Directors in CEO Search
The prevailing view is that Directors only do what’s barely needed (approvals, audits, watch for derailments), but without stock-based compensation won’t put much of an effort.
The effectiveness of stock-based compensation is by far not a given. And also there’s no link between the Director’s % shareholding and his/her performance.
However, the Board doesn’t act as a collection of independent individuals, it’s a complex living thing with its internal dynamics; CEO search also grows out of the connections and relationships of the Board.
The Social Character of the Board
Directors’ actions are regulated by massive social facts of structural relationships and social values: the community is small and interconnected on many levels – professional, residential, alumni network, analyst community, cross-firm directorships, etc.
Directors are well aware of the components of their social status (i.e. no “fog of war”) and they value their membership in certain social circles.
Identifying with a particular corporate board: high internal cohesion and group distinctiveness (how easy the group can be defined and how members identify each other).
Corporate boards are relatively small (13 people on average) and leads people to be aware of each other not only as professionals, but as individuals. Easier to build relationships with the CEO, too.
Many boards are homogenous making it easy to play the role and be a part of the whole. [MK: that’s why all corporate director institutes have insisted on introducing diversity to the boardrooms for 10+ years now.] Similarity of background, gender, race, etc.
Group cohesion sits on top of the group norms guiding Directors’ own behaviours and the behaviours of others. Ex: lack of status distinction within the Board, modesty, no bragging, everyone’s equal [but obviously higher in status than outsiders]. It’s a gentleman’s club.
Within one Board there’s a group identity. When Directors sit on several Boards, they’re part of the Director community [meeting the basic conditions of a societal position and a common perspective].
Community is built on interlocking board memberships; sitting on prestigious boards elevates status and increases influence. Also helps diffuse information about board practices with the Director community.
In the managerial corporations managers decided how much to give to shareholders and to reinvest into the business. But in 1980s finally shareholders starting holding the Directors to account, and they had no choice but stop being the CEO’s best buddies.
The pendulum swung the opposite way: Directors became subservient to shareholders at the expense of the Board and the firm.
Independent Directors were loyal to the broader Director community, not individual shareholders, and were the force behind many inconvenient changes in the governance playbook.
Institutional investors in 1990s figured out that coordinated action could all but force Non-Executive Directors (NED) to pay more attention to CEO succession.
This led to the tendency of Directors relying on external opinions in their decision making on the topics that are not formalized (since outsider CEOs don’t fit the incumbent CEO’s profile).
These external opinions are likely to create a frame of reference not just for the outside world, but for the Board, too, and if the CEO is dubbed a lame duck by the press – the Board starts believing the press. (No benefit of a doubt.)
Launching the CEO Search
Organizing the Search: The Search Committee
Usually chaired by a Director responsible for exec development and comp committee. And an exec search firm is hired, too, of course.
If the firm performed satisfactorily, the outgoing CEO is allowed to participate, but not lead. However, usually an internal candidate-heir apparent is chosen in the end. Or can create a horse race show when several candidates compete.
If the firm’s performance slips (read: CEO performs poorly), or if the “CEO’s position has become unexpectedly vacant” ©, Boards rush to find a replacement.
It’s expensive NOT to have a CEO because: a) staff / managers / execs experience a great deal of uncertainty, and b) this quickly destroys the positive image of a firm. So investors / exchanges force the Directors to find a replacement asap.
Boards don’t have a lot of experience in external searches, so they use the internal search processes and templates.
Committee size doesn’t substantially impact the quality of the candidate in the end. Its composition does, but since “all Directors are equal”, this often gets ignored.
Directors who are retired businesspeople and/or from non-profit or education backgrounds are more likely to volunteer to participate in the committee. Their knowledge of the company only comes from quarterly Board meetings.
Directors tend to look for those who they know, so naturally older retired Directors are not likely to have young aspiring CEOs in their close circles.
Lack of diversity of functional experience in the nomination committee leads to hiring a CEO just like them, ignoring the blind spots.
Defining the Position: The Specification Sheet
The CEO succession is an opportunity for the firm to change/alter its direction.
Alas, many Directors jump straight into writing the spec instead of thinking of the firm’s objectives.
The spec is done by the exec search firm with the input from each Director. It has to be specific, but also must be rooted in the firm’s strategy. A highly value-added activity…
… which is then ignored and not looked at again. The list becomes unmanageably long and no CEO however capable can fit it.
Issue 1. Listing personal traits [MK: context-specific] instead of skills.
Issue 2. CEO Spec sheets from different industries look surprisingly similar.
Issue 3. Some wishes are contradictory, especially when it comes to “balancing” risk taking and delivering returns.
It again falls on the Directors’ shoulders to figure out which traits are needed, and which can be overlooked, since there’s no “perfect CEO” profile.
Issue 4. Comparing the incumbent candidate’s known features against the spec is markedly different from comparing the external candidate’s features due to masterful self-selling and secrecy.
To be continued