Should The Top Roles Be Split?
May 1 2005 by Chief Executive
Splitting the roles of chairman and CEO didn’t get much ink until the governance crisis sent critics searching for magic solutions to heal Corporate America. In the increasingly boisterous debate, some argue that having CEOs run their boards makes directors more likely to kowtow to the CEO’s whims. Their solution? Adopt the British model of separating the jobs.
Virtually all the watchdogs are, in fact, demanding separation. Unless there are compelling reasons to do otherwise, the CEO and chairman roles should be split and the chairman should be an independent director, according to the recommendations of two key shareholder activist groups, the Council for Institutional Investors in Washington, D.C., and Institutional Shareholder Services (ISS) in Rockville, Md. “The battle isn’t whether the board is going to have an independent focus€¦quot;it’s how,” says Patrick McGurn, ISS executive vice president.
|To Split Or Not To Split|
GOVERNANCE watchdogs say the roles of CEO and chairman should be kept separate. Yet, there are key factors and special issues that should be considered. Among them:
Independence may be the new mantra, but the ultimate decision isn’t so simple. Sometimes it makes sense to combine the CEO and chairman functions; other times it makes sense to separate them. Having a lead independent director as a counterbalance to the combined CEO and chairman is another solution.
Yet, far from being a cure-all, separating the roles can sometimes hinder a company. It can impose on one company two strong personalities and put them at loggerheads. While they squabble, important, strategic decisions are delayed. Key variables revolve around whether a company is in a growth mode and needs to “import” new skills sets, as well as the ages and retirement prospects for executives at the top.
The statistics seem to underscore that separate titles are useful only sometimes. According to Kevin Klock, an analyst with the National Association of Corporate Directors, Washington, D.C., about 50 percent of all public companies divide the responsibilities. That number shrinks to 14 percent when looking at the top 100 companies, according to New York City-based law firm Shearman & Sterling in its latest report on corporate governance practices.
Based on his experience as a director of four public corporations, Donald Jacobs, former dean of Northwestern University’s Kellogg School of Management, believes “the chief executive should have both jobs.” Separating the roles may create negative value for the company, Jacobs adds, because too much time can be wasted “bringing two people up to speed on everything.”
One size clearly doesn’t fit all€¦quot;and changes even for the same company as it goes through different stages of its business development. Mine Safety Appliances (MSA), the Pittsburgh-based worker safety and health products manufacturer, has used both combined and separated roles during its 91-year history. “The consistent pattern has been that the chairman has been a founder, major shareholder or leader of a major shareholder group,” says CEO and Chairman John T. Ryan III, whose grandfather founded the company. “If that person also happened to be chief executive, the jobs were combined; if not, they were split.”
Ryan, whose firm recently reported record earnings€¦quot;$71 million, up 45 percent for 2004 on record sales of $852 million, up 22 percent€¦quot;believes being both chairman and chief executive makes him more effective. “When certain decisive actions needed to be taken, which changed our business substantially, it was more effective to be both chairman and chief executive,” Ryan says. “Could I have done what I needed to do without both jobs? Yes. Would it have been harder? Yes.”
Despite his preference for vesting both roles in one person, Ryan sees some value in separate roles for companies with major public relations, community or lobbying initiatives. “In a company where lobbying is very important, someone with a chairman’s title and personal position might be able to get in to see an influential person easier than someone without it and could spend more time on such work,” says Ryan. “That frees up the chief executive to manage the company.
“However,” he adds, “if you have a chairman whose inner need to manage hands-on wasn’t met in his career or in not-for-profit roles, this may create a problem for the chief executive, who may waste valuable time managing the chairman.”
In contrast to MSA’s experience, last summer Roger Hruby gladly relinquished his CEO title at CFC International, the Chicago Heights, Ill., specialty-coated film and holographic manufacturer, to Greg Jehlik.
In fact, it was actually Hruby’s idea to split the roles. “The operational side of running a business is very intensive and requires a tremendous amount of focus and energy,” says Hruby, who remains chairman. “I was afraid that the company was being shortchanged. I couldn’t manage 104 projects day to day and have the mental energy to think about long-term strategic initiatives.”
Nowadays, Hruby has more time to think about corporate strategy. “It’s allowing me to analyze how well the company is doing in a different way,” he says. “Instead of being distracted by the daily battles of the business, I can stand back and look strategically at where the industry is going and where we should be going.” So far, so good: CFC International had record sales of $82.6 million in 2004, up 32 percent. Earnings for the same period increased from $261,000 to $4 million due to stronger manufacturing, favorable foreign currency exchange rates and increased sales. “They achieved this because Roger is free now to identify business opportunities and develop long-term strategies,” says Michael Kohnen, a LaSalle Bank commercial lending vice president, who manages CFC’s debt. “The split has been effective and has definitely created shareholder value.”
Whether the roles ought to be separated depends partly on a frank evaluation of the skills and character of the CEO. Unlike CFC International’s Hruby, Edward Kaplan, founder of Vernon Hills, Ill.-based Zebra Technologies, a leader in the bar code printer industry, has been chairman and CEO since Zebra went public in 1991. “If a chief executive is a visionary, has strategic skills and has a large stake in the company, that person should be chairman,” says Kaplan. “Given the fact that I’ve got so much experience in this industry, I can operate very quickly with good judgment on a wide range of decisions that have to be made.” The results seem to support his view. Zebra’s 2004 net income increased 31 percent to a record $120.6 million on sales of $663 million.
Michael Smith, a Zebra Technologies director, agrees. “It’s advantageous that Ed has both titles,” says Smith, who is CEO of Chicago-based Firevision. “He’s a compelling intellectual strategist, able to formulate and guide strategy for the company, with a level of insight and intelligence I’ve never seen in another executive. And he’s a really gifted cost-focused operator. Ed thinks and acts like a shareholder. If you’ve got the right guy, combining the roles makes the most sense.”
It’s a different situation if an executive prefers to start enjoying a more relaxed lifestyle after years of being in the hot seat. Then the role of nonexecutive chairman comes easily, with little prospect for conflict with a CEO. “Splitting the roles is a safety valve,” says Jack Schuler, chairman since 1990 of Stericycle, a leader in medical waste disposal based in Lake Forest, Ill. “I’m there to play idea tennis with Mark Miller, our chief executive. If he wants the opinion of the board, he comes to me and I poll them instead of him going to each one.”
Board members speak more freely to him than they would to Miller, says Schuler. “I give Mark cover,” he notes. “I’m the one who gets the general consensus to an idea so Mark can operate more independently.”
This result has enabled Stericycle to grow from a loss of $11.6 million in 1992 to record profits of $60.5 million on sales of $138.9 million (up 21 percent) for the most recent reporting period. “Having Jack operate as chairman allows him to play the role of leader of the board, leading board meetings and discussions from some distance,” says Miller, CEO since 1992. “It’s made for a much stronger company. It’s like two cooks in the kitchen. We each have a different set of skills, which produces a much better meal.”
The boards of many companies are debating these issues, but they should be advised not to adopt cookie-cutter solutions. Making a decision requires hardheaded analysis of the personalities and the business. “My recommendation is that the board routinely evaluate the effectiveness of the solution it’s chosen in executive session, particularly when one of the two jobs becomes open,” says Richard H. Koppes, a leading corporate governance expert and former general counsel with CalPERS, the California Employees’ Retirement System. The solution that works at one point in a company’s history may not make sense as time passes. “Perhaps, they should separate the jobs for a few years and then combine them,” says Koppes, who today is a partner with the international law firm Jones Day.
Ryan of Mine Safety Appliances agrees that the decision should be made case-by-case, reiterating that separating roles is no guarantee of performance€¦quot;or honesty. “At WorldCom, the jobs were split. Enron won numerous awards for its corporate governance,” says Ryan. “It’s too simplistic to say that splitting the two jobs results in better governance. If you’ve got a determined conspiracy involving things that can be manipulated by a chief executive, even the best board would be very challenged to stop it.”
One major company, General Motors, has experimented with different leadership models, though none of them has been enough to halt its loss of market share. In 1992, GM split the jobs of CEO and chairman in part because it was fed up with Robert Stempel’s autocratic leadership style. The board “rebelled against a king figure, who was chairman and CEO, and predominate in the organization,” recalls David Cole, chairman of the Center for Automotive Research in Ann Arbor, Mich. In November of that year, when Stempel, the king in question, resigned, the board hired John F. Smith Jr. as president and CEO and John Smale, Procter & Gamble’s CEO, as nonexecutive chairman of the board.
But, 10 years later, that structure just wasn’t taking GM where it needed to go. Facing intense global product competition and escalating fixed costs, the board in 2003 decided to give the role of chairman back to the new chief executive, Rick Wagoner. “GM is trying to integrate its businesses on a global basis,” explains Cole, whose father, Edward Cole, was a GM president. “You have to have a very simple structure that responds to the changing competitive landscape quickly and easily. That’s why Rick has both jobs. What you call him doesn’t matter. What’s important is that he’s coach of the executive team, not a king. Kings don’t win. Teams win.”
That, then, is a final piece of evaluating the right management structure: What’s happening in the business? What is the right strategy and who has the skills to deliver on that strategy?
If a company is doing well in the market and the CEO has many years to go before retirement, it makes little sense to inject even more complexity into top management by dividing the job into two. If, however, the company is not doing well and the CEO is older, then restructuring jobs at the top might make more sense. Making these judgments in the real world is far more complex and demanding than the gadflies will ever grasp.