Following the corporate scandals of the early 2000s, many governance observers and commentators in the United States began to discuss whether, in order to avert such crises in the future, boards should separate the roles of chairman and chief executive officer, a practice common to governance models in the United Kingdom, much of the rest of Europe, as well as Canada and Australia.
While some in the US embrace the notion of separating the roles of chairman and CEO, others reject the division of power. To delve further into both sides of the issue, we asked two boardroom experts to share their individual and distinctive points of view. David Kimbell is co-leader of Spencer Stuart’s Board Services Practice in Europe. David specializes in chairman and CEO assignments and was the firm’s worldwide chairman from 1987 to 1999 and co-chairman from 1999 to 2003. Tom Neff is chairman of Spencer Stuart in the US. Tom also is the founder of the Board Services Practice in the US, having conducted more than 400 board searches and 150 CEO searches over the past 20 years. He serves on the boards of two New York Stock Exchange companies and a family of mutual funds.
DAVID KIMBELL
Splitting the roles of chairman and chief executive officer results in a clear delineation between the purpose of the board and the responsibilities of the executive, and results in a more effective dynamic between the two.
When the Cadbury Report was published in 1992, with its groundbreaking Code of Best Practice, it was widely accepted that some aspects of the new governance code could not be implemented by UK-listed companies overnight, and would therefore take effect gradually over a period of years.
The recommendation that the role of chairman should be kept separate from the role of chief executive was a case in point. The notion of splitting the roles was greeted with a fair degree of suspicion at the time, if not downright resistance. However, the Cadbury Report’s principle of “comply or explain” gave companies the flexibility to phase in the change over a number of years, so that by the second half of the decade the majority of boards had a non-executive chairman and there was no stigma attached to holding the post of chief executive on its own — no sense that this was “half a job.” The transition may have been painful for some, but the symbiotic relationship that exists today between countless well-chosen chairmen and their chief executives only serves to strengthen their businesses.
Cadbury’s two main concerns — about the dangers of corporate power concentrating in the hands of one individual and the need for shared responsibility in the light of an ever more complex business environment — both still exist. Indeed, the 2003 Higgs Report and subsequent
Combined Code endorsed the separation of roles, and today most observers, as well as chairmen and CEOs themselves, would agree that separating the roles has been good for British business. So what have been the benefits?
First, as a critical entity set apart from the day-to-day running of the business, the board is vitally important to the health of the company. It should not be run by a chief executive with his or her own agenda who seeks to dictate to, or unduly influence, the board on key issues such as the recruitment of directors. Instead, a chairman who is independent at the time of appointment is better placed to run the board in an even-handed manner, with the interests of shareholders being paramount.
Second, a non-executive chairman can make life less lonely at the top for the CEO by acting as a sounding board, mentor and advocate. The demands on today’s CEO are extraordinary enough without having to run the board. A relationship with the chairman based on mutual trust and regular contact can make for a powerful partnership. However, it is essential that the two roles are clearly defined from the outset to avoid territorial disputes or misunderstandings. Many companies announce publicly the two sets of roles and responsibilities, which can be summarised quite simply: the chairman manages the board, and the board entrusts the chief executive with management of the operational side of the business. This may at first sound like an unwelcome delegation (and therefore diminution) of power for the CEO, but in reality it means that the board is placing full authority in the hands of the CEO to execute strategy and manage business performance.
Third, a non-executive chairman is ideally placed to form a dispassionate view of the CEO’s performance, taking into account the views of fellow board directors. Nothing about the chairman’s relationship with the CEO need compromise his freedom to take action and remove the CEO if that is considered by the board to be in the best interests of the business and its shareholders. When a CEO departs, the fact of the chairman’s continued presence in charge of the board reduces the level of trauma in the business. While the CEO is in place, the chairman can play a helpful role in succession planning.
Fourth, such is the importance of the board to the health of the company that it requires a skilled chairman who is not distracted by the daily pull of the business to devote sufficient time and energy to its management. This may involve a time commitment of anything from one to three days per week. The chairman maintains contact with board directors between meetings, organises board evaluations, listens to shareholder concerns, acts as an ambassador for the company, liaises with regulators, and shares much of the burden of corporate governance. This leaves the CEO time to concentrate on the demands of the business.
Most UK chairmen have been successful CEOs or CFOs of other major companies, but as chairmen they find they need to cultivate different, softer skills. With nothing to prove, they can play a less visible, supporting role. Seniority and experience enable them to conduct board meetings with a deft touch, ensuring that the board functions as an independent entity and encouraging the non-executive directors to cast a supportive yet critical eye over the business, finances, people, rewards system and governance. Perhaps most importantly, the chairman can ensure that the board is fully engaged with the strategy and focused on evaluating how well it is being implemented.
Of course, not all chairmen are perfect and their performance, like everyone else’s, needs to be monitored and assessed. Enter the senior independent director (SID). The SID is an independent non-executive director with two additional responsibilities — to chair a meeting of the non-executive directors without the chairman present at least once a year, and to handle the chairman’s evaluation. This is an excellent safeguard and means that action can be taken against the chairman if, in the view of the other non-executive directors, the chairman is getting too close to the CEO or is failing in his or her other duties. The SID is generally unobtrusive — a necessary insurance policy in case a crisis occurs that cannot satisfactorily be resolved by the chairman.
So why has the separation of roles become the received wisdom in the UK and Europe, yet remains anathema to much of corporate America? It may simply be that UK and US business leaders stand at different ends of the transition process and therefore take a different view of the short-term pain involved in splitting the roles. There may be a deeper cultural or psychological explanation that makes it harder for US leaders to countenance anything less than full authority in the boardroom. (The important thing to remember here is that the UK non-executive chairman has no need or desire to take credit for the success of the business and is therefore no threat in this regard.) Or it may be that the most compelling argument for the status quo in the US is the absence of evidence that splitting the roles leads to greater shareholder returns.
It may be hard to prove a tangible, quantifiable financial effect brought about by separation, certainly in the short term. However, there is no doubt that the CEO becomes more effective when he or she has more time to work in the business, instead of getting bogged down by board and governance matters that can be effectively handled by someone else. The leadership of the business is not constrained by separating the roles, in fact quite the opposite. With a chairman in support and taking the heat on many board and governance-related issues, the CEO is released to concentrate on business performance, profitability and ultimately shareholder return. This can only be a good thing.
Finally, the role of non-executive chairman is ideally suited to a recently retired chief executive (of a different company, that is) who wishes to remain actively involved in business and share his or her accumulated wisdom and experience in a different kind of leadership role. The standalone chairman role provides an elegant staging post on the road to retirement and ensures that some of the most talented CEOs running companies are not lost to business overnight.
TOM NEFF
Splitting the roles of chairman and chief executive officer does not improve the effectiveness of the board or the performance of the company.
There are four reasons why separating the roles of chairman and chief executive officer should not be mandated in the US:
- There is no evidence of economic gain to warrant a splitting of the roles.
- Separating the chairman and CEO roles in the US has little to do with the improvement of US corporate governance beyond what already has occurred.
- There is no trend in the US toward establishing an independent chairman separate from the CEO.
- What works in the UK does not necessarily work in the US; there are cultural differences in our business environments.
Advocates of separation of the roles of chairman and CEO admit there is no proven economic benefit for their case. In fact, evidence indicates that not separating the roles is beneficial.
Compare the productivity of US-based companies and their global competitiveness against companies in countries where the split is mandated. A Booz Allen Hamilton survey in 2004 found that companies that separated the roles actually had smaller shareholder returns. ¹ The principle of parsimony dictates that one should not change a system when there is no evidence the system is broken. To state the principle colloquially, “If it ain’t broke, don’t fix it.” Should there come a time when there is evidence that separating chairman and CEO roles provides positive return to shareholders, advocates of division will have some relevant evidence for their case. Arguments about the dangers of concentrated corporate power and the need for shared responsibility are not yet based on economic reality.
The argument, however, goes beyond financial performance.
Egregious incidents of corporate wrongdoing among less than 2 to 3% of S&P 500 companies are not sufficient proof that 97% should overhaul a system that is working. Moral and ethical failures are part of the human condition, and no rules or regulations can guarantee that a leader will remain honest. The fact that the overwhelming number of US companies continue to operate honestly is a testament to the rectitude of the CEOs who run them. This is not to say there are not valid reasons that dictate a temporary split of the role: a company in crisis, one that is underperforming, the arrival of a new CEO who lacks governance and boardroom experience. But these instances are infrequent and temporary and should not be taken as part of a larger rationale to enact a sweeping mandate of change.
Put simply, separating the roles of chairman and CEO is not the only formula for improving corporate governance. There are other ways, and US corporations have adopted them.
Unlike five years ago, there are much better checks and balances in today’s boardrooms. Boards are far more independent of management, with approximately 80% of directors for S&P 500 companies completely independent of management, both in the present and in the past.
There are new mechanisms in place to strengthen boardroom independence. Boards now use an improved process for selecting new board members that is normally led by the nominations committee and not the CEO. They regularly hold executive sessions during each board meeting without the CEO present. These executive sessions allow independent directors to discuss the effectiveness of management, the quality of board meetings and other issues or concerns. In spite of initial resistance, boards have found the practice so helpful that many hold an executive session after every board meeting rather than the suggested once or twice a year. Until it is proven that these board changes are insufficient for the proper governance and growth of US corporations, why should boards abandon a successful governance model?
The most notable improvement to corporate governance is the appointment of a lead or presiding director. Lead directors are proving to be an effective alternative to governance concerns without stripping CEOs of the chairman title and responsibilities. Today, 94% of S&P 500 boards have a designated lead or presiding director. ² The growing list of responsibilities for the lead or presiding director closely resemble that of a non-executive chairman and can be tailored to the needs, composition and chemistry of a board. Duties often include, but are not limited to: helping set the board agenda; communicating with other directors between meetings; spearheading the CEO’s evaluation; presiding over executive sessions; leading the charge in recruiting independent directors; regularly reviewing governance structure and processes; ensuring the right information flow to directors; and, finally, overseeing evaluation of the board and each independent director.
Based on our interactions with boards, where the role of lead or presiding director tends to be defined more broadly, independent board members are collectively more accountable for and more committed to the boardroom process. The role also has resulted in richer and more productive discussions among independent directors and management. To get the most benefit from this critical role, we advise against making this a nominal position, one that is rotated among various board members. In those boards where the role has continuity, the lead or presiding director provides a real balance to the CEO and management.
With the lead or presiding director now serving as the voice of the majority — and providing a counterweight where the CEO chairs the board or the chairman is not independent — why should boards of directors alter the CEO’s existing roles and responsibilities? Rather than help the organization, there are negative issues that could surface if separating the roles were mandated, especially if the former CEO became chairman. There is potential for confusion surrounding who has responsibility and accountability and, depending on the style and personality of the chairman, there could be attempts to usurp the CEO’s role, ultimately leading to boardroom showdowns.
Those who advocate splitting the roles of chairman and CEO argue that corporate America is already shifting to permanent separation as a means to improving company performance, so arguing against the division is trying to dam the tide of change. But, their argument is not supported by the facts. In 2005, 29% of S&P 500 boards separated the roles, up from 23% in 2000, according to our own 2005 Spencer Stuart Board Index. Yet when you take a closer look, the numbers tell a different story. The former CEO of the company was most often the chairman. In the US today, only 9% of boards have a truly independent chairman — hardly a sweeping change and move to the UK system. While on the surface there appears to be an increase in the number of boards splitting the chairman/CEO role, the reality is that few are actually appointing a separate, independent chair.
And, lastly, what works in the UK, which adopted this structure more than a decade ago, does not necessarily work in the US. Executives in the UK tend to retire earlier and some view the non-executive chairman role (often a six-year commitment) as the pinnacle of their business career. This is not the case in the US, where the normal retirement age is noticeably higher, making it less ideal for a 65-year-old to take on the role of chairman. Given these factors, it would be challenging to find people who have the experience, capacity and interest to fill the role of chairman for five years or more. Advocates of division underestimate cultural differences in management between the US and the UK and assume corporations operate alike.
In reality, boards that believe they are taking a step forward in corporate governance by permanently splitting the roles of chairman and CEO risk negatively impacting their company and shareholders. Rather, they may not be able to attract the best possible CEO for the job, particularly those who have already been chairman and CEO. Board and company performance should be the real test of whether to separate the roles of chairman and CEO. If the CEO is doing a good job and has the confidence of the board, company and the shareholders, there is no economic or governance benefit to taking away responsibilities.
Boards should focus on strengthening the lead director role and adopting new practices in corporate governance versus breaking the current — and proven — governance model in the US. While separating the roles of chairman and CEO is borne out of good intentions, every change has multiple effects — some good and some bad. It makes little sense to change a long-held and desirable structure until there is convincing proof there is a better way. Advocates of splitting the chairman and CEO roles have yet to provide the proof.
FINAL THOUGHTS
So, what is our conclusion and will there always be a divide between the UK and the US? Clearly both sides of the debate feel strongly that their views and experiences support the current model in each of their markets.
Either way, the statistical evidence would suggest that there is a steady tide of reform in the US with the most significant being the emergence of a strong independent lead or presiding director. It is not far-fetched to imagine that maybe, one day in the future, the lead director might effectively take over the duties of the chairman. Yet, as with any reform, change will be dictated by the needs of the economy and marketplace.
As an international search firm that takes its board practice seriously, our bigger concern is ensuring a source of qualified board candidates for independent chairmen and lead or presiding directors. What might constrain everyone’s goals, however, is the shortage of qualified candidates to take on these critical roles. This has become a reality in the UK, not helped by the Combined Code restriction that no chairman of one FTSE 100 company can chair another FTSE 100 board, which alone removes 40-plus candidates from the pool. In the US, retirement and the length of time one could reasonably expect to carry on chairman or director duties poses another set of challenges. This is why, overall, we are quite grateful people are living longer and willing to work for longer as well, albeit part time.
So we conclude by suggesting that there is mutual respect and merit in both models. One side is not better than the other — just different — and both should continue to learn from each other’s experience.
Footnotes
- Chuck Lucier, Rob Schuyt and Edward Tse, “CEO Succession 2004: The World’s Most Prominent Temp Workers,” Booz Allen Hamilton, 2004.
- Spencer Stuart Board Index, 2005, pg. 3, pg. 10.
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