Your Company Has Changed,Why Hasnâ€™t Your Board?
June 22 2009 by C.J. Prince
When Stephen Hemsley took over as chief executive of United – Health Group in December 2006, he inherited a bit of a governance mess. Since March of that year, the company had been embroiled in an options backdating scandal, making it the target of both SEC and Justice Department investigations. The board had lost credibility when for months it refused to oust CEO William McGuire, even as dozens of other companies were dismissing chief executives over similar allegations. Hemsley, an insider who had been cleared of wrongdoing, was tasked with restoring trust at the Minneapolis health care company, and that included dealing with a board that had aligned itself, perhaps too closely, with the tainted image of its fallen chief.
In the nearly three years since, fully half of the board has turned over, with old-guard directors retiring their seats, and new independent directors, such as Robert Darretta, the retired vice chairman and CFO of Johnson & Johnson, and Michele J. Hooper, managing partner and cofounder of The Director’s Council, a private company that helps boards increase their independence and diversity, coming on. The result is a largely independent and continually evolving board, possessing industry expertise and knowledge uniquely relevant to UnitedHealth’s future success.
But it shouldn’t take a governance crisis to prompt a review of board composition. As industry changes force shifts in corporate strategy, most CEOs will, at some point in their tenure, find it necessary to ask themselves whether they have the right mix of expertise, experience and business savvy to advise and challenge senior management on the path to success. A board that has served adequately, even exceptionally, during one phase of the company’s life, may well be ill-suited for the next phase. “And it doesn’t mean the board members aren’t very good people. It just means that the company has moved to an entirely different place,” says Jerre Stead, CEO of IHS, a provider of technical information, decision-support tools and related services.
Businesses that had been focused purely on domestic sales, for example, may need to recruit directors with international savvy as they plan to move into markets abroad. Even those without immediate plans to expand overseas need to understand how rapid globalization will affect their markets. “It’s so critical today to have board members who have global views,” says Stead. “It has to be people who have either led global organizations or lived abroad – or both. And they need to have stayed current because the world is changing so quickly.” Gayle Mattson, EVP and global leader of the Board & CEO Practice at executive search firm DHR International, reports that an increasing number of companies are seeking out such expertise for their boards. “Globalization is the number one priority of every corporate board today that I’ve had the privilege of working with,” she says.
In other fast-moving, competitive industries, CEOs need to make sure that at least some of their directors understand current trends and can evaluate not only where the company is, but where it needs to go. “That’s especially true in our industry,” says Dan Hesse, CEO of Sprint Nextel Corp. “Things change quickly in technology businesses, so it’s important that the skills of the board keep up with the strategy of the company and the environment in which it operates.”
Managing Board Turnover
The very public, and unpleasant, battle between Disney’s former CEO Michael Eisner and the company’s shareholders before his departure in 2005 could have led to an equally dramatic, high-profile turnover on the board, given that several of Disney’s directors were longtime Eisner supporters. But while the board’s complexion has changed fairly dramatically since Robert Iger took over as CEO, the shift has been more of a quiet evolution than a radical reconstruction.
Over a period of four years, Iger and the board have replaced Eisner friends like Leo O’Donovan, Gary Wilson and George Mitchell with new blood, such as Apple icon Steve Jobs, retired Starbucks CEO Orin Smith and Susan Arnold, president of global business units at Procter & Gamble. Each new director recruitment took place over a period of six months or more, giving both parties ample time for due diligence and to assure themselves that the new recruit would fit in well with Disney’s evolving board culture. Similarly, UnitedHealth Group’s board, rather than risk more headlines by asking directors to step down, shortened terms to one year and then let those tenures expire quietly, filling the seats as vacancies arose.
That is typically the way it ought to be done, experts agree. Even in cases where change is clearly warranted, there are a host of reasons not to rush the process. For one thing, it’s harder than ever to find great directors, given the time commitment required for board service, and sitting CEOs have tighter restrictions on the number of boards on which they can serve. For another, you don’t really want to hire any directors who don’t take adequate time to do their due diligence. “A good board member is going to want to talk to other board members, the CEO, general counsel, the CFO, the outside counsel, the audit firm,” notes John Gardner, vice chairman with executive search firm Heidrick & Struggles.
And unless the current directors are not adding any value, it’s best not to show them the door abruptly, says Korn/Ferry International’s Charles King. That kind of dramatic move could signal Wall Street that the company is in governance trouble. Instead, consider temporarily expanding the board by one or two members to accommodate new talent. As King points out, “There are a lot of things you can do to manage the board in terms of the skill set so you can create this portfolio of talent and manage that portfolio.” - C.J. Prince
Other CEOs may find they need help from a Washington insider as their companies navigate a newly regulated environment. “If you were in banking and you thought you were unregulated, now all of a sudden you’re regulated,” says Hesse. “And if you are a company that takes government assistance, your business plan and environment with respect to regulation has just changed a whole lot, very quickly. A year ago, it might not have been a very important issue, but today it is.”
With the recent change in the White House, more companies are looking to bring some political savvy onto their boards. “One of the things I bring to a board table is my knowledge of how Washington works, how our governmental processes work and that is quite useful,” says Barbara Franklin, CEO of Barbara Franklin Enterprises, a private investment and consulting firm headquartered in Washington, D.C., and a former U.S. Secretary of Commerce under President George H.W. Bush. She has served on as many as 14 boards since the 1980s, and currently sits on two. “You could get that from other places, a Washington consultant perhaps, but I think it is useful to have someone around a board table who has been inside the process.”
Even at the most basic level, a company’s needs change as it grows from start-up to midsize to multinational, requiring different kinds of expertise at the board level, points out Charles King, senior client partner in charge of CEO & Board Services for Korn/Ferry International. King is currently working with a company that had spent several years growing by acquisition, but is now looking to level off and focus on organic growth. “The board that got [the CEO] through this quadrupling of size over the last several years may not be the right board to help him manage the mature part of the life cycle,” notes King. “His board didn’t have a great deal of industry experience. They were deal people, movers and shakers, lawyers who helped him through some of the proxy battles and transactions, but now what he needs are some people who understand the industry and can help him, as a 40-something CEO, think about the speed bumps ahead.”
Given that many directors have served on their boards for a decade or more, the process of implementing change is a delicate one. And in anything but a genuine Enronesque crisis, asking directors to step down in droves is generally not a good idea from a public relations perspective, and can be a risky move for the company, since it can take new directors up to a year—or longer— to truly get up to speed.
“It absolutely is an evolution where you are making gradual changes in the boardroom, because the institutional memory and history is very, very important,” says Hesse, who recommends seating one or two new directors per year, depending on the size of the board, as term cycles permit. “So you keep that continuity. The board isn’t stagnant, but except in rare cases, I don’t suggest massive makeovers either. It should be a constantly evolving process.”
Even in the case of UnitedHealth, where the independence and wisdom of the board had been called into question, the company chose not to kick up too much dust in an effort to bring about change. Rather than make headlines by asking directors to retire early, the board shortened director term limits to one year and then let those tenures expire quietly, filling the seats as vacancies arose.
One key to a successful transition is getting a thorough grasp of what the board has in terms of skills and competencies, and where the gaps lie. New CEOs who have inherited their boards should set up one-onone meetings with each of the board members to get a sense of who they are and what they bring to the table, advises Franklin, who was recently appointed chairman of the National Association of Corporate Directors. “Sometimes, we are too superficial,” she notes. “There may be more there than you realized initially.”
Board Renewal as a Strategic Differentiator Driving Success
Public company directors know that our most important responsibility to the shareholders is succession planning and continuity of leadership to build and lead the enterprise. We are in a time of great market upheaval and pressure. This will require many corporations to adjust and change their business model. They will need to cut costs and think more broadly about how to compete to build and preserve shareholder value.
All directors clearly understand the importance of having a robust pool of general managers to develop and cultivate for leadership succession. When the CEO hires a senior executive to build the leadership team we are actively involved. We understand that corporations outgrow the capabilities of their executives. Hiring and promoting talent to adjust to a new business model enables the company to grow and adapt to changing business environments.
Although a board faces the same outside pressures, board succession is almost never discussed. It is one of the taboos in the boardroom, yet the perspective around the boardroom table must change with time. Just as a company may outgrow its CEO, the company also may outgrow the capabilities of its board members.
Companies that engage in board renewal find that it brings a set of experiences, perspectives and an important network of introductions and contacts. A positive example can be seen at SunPower Corp. The board was small when SunPower, a solar panel systems company, went public in 2005 with three outside board members.
SunPower’s business evolved; we acquired and integrated companies and began the process of expanding our thinking on offshoring our manufacturing, tightening our supply chain, and globalizing our go-to-market. We recruited Dr. Uwe-Ernst Bufe, former CEO of Degussa, a global chemical company, to help mentor our CEO and bring contacts and expertise in the polysilicon supply chain, as well as deep operational knowledge.
SunPower then adapted its business model, expanding to sell its solar panels from residential,to business rooftops and to joint venturing with utilities. We needed depth, experience and knowledge in the utilities sector, and added Tom McDaniel, former EVP and CFO of Edison International. This is an example of building a board and forward investing in it to bring knowledge, direct experience, contacts, and what I characterize as “scar tissue,” to the boardroom. The board is truly in a partnership, to mentor and contribute actively with our CEO and his leadership team.
A contrary example can be seen at Lucent, where I was a board member in 2000. Lucent went through an enormous market challenge when the telecom industry imploded and revenues went from $33 billion to $8 billion in one year. Clearly, bringing in a board member who had gone through market dislocations and financial restructuring would have enhanced the company’s ability to remain viable, strengthened the CEO’s knowledge, and allowed the company to make the necessary aggressive decisions in order to endure and evolve. Rather than do that, the company brought on a NASA scientist who had never been in the for-profit product world, which was clearly not the perspective needed.
I believe companies and shareholders are well served when boards actively engage in board renewal. Just as CEOs look at the management team and see who would scale and who would not, and what is needed to maximize the enterprise performance in a marketplace, the same analysis should be applied to board members.
Annual board assessments usually focus on the information that management supplies the board and whether it is received in a timely manner. What boards may better ask themselves is whether the board can be strengthened—what new perspectives and experience would help our enterprise going forward? If this question is asked, we may see more board renewal in the future.
Stead of IHS further recommends that new CEOs go through two or three cycles of board meetings and committee meetings before making any changes. “Within six to nine months you’ll have a very good view of, do you have the right fit, the right board members, what needs to change, who needs to change?” he says.
For CEOs who have worked with their boards for some time, thorough annual self-evaluations are key, says Hesse. “The board needs to look at where the company is going and then assess themselves as a team rather than looking at specific individuals,” he notes. That approach can also help some directors see for themselves why their service may have outlived its usefulness. And for those boards and CEOs reluctant to give longtime directors the boot, the process gives them a context and support for doing so.
“It’s much harder to give someone the bad news if there’s no setup to do it,” says Constance Dierckx, senior consultant with management consultancy RHR International. She adds that, for a review to be really effective, directors have to be willing to be brutally honest—with themselves and with one another. “Some of those reviews are anemic,” she says. “We did a board survey two years ago and 98 percent of the respondents said their board was either ‘highly effective’ or ‘effective.’ But last time I checked we didn’t all live in Lake Wobegon. Some boards really are just average.”
With an accurate self-portrait in hand, the CEO and board can begin to take steps to fill in the knowledge and skills gaps. Catherine Bromilow, partner with PricewaterhouseCoopers and leader of the corporate governance group, cautions against looking for expertise that is too specific, lest that director become the unofficial expert, leading to others to defer to him or her on related matters. “You don’t want the other directors thinking, ‘I have a concern about a major shift in IT strategy that we’re going through, but if Jill, our IT expert, doesn’t say anything then it must be okay.’” Mattson adds that boards ought not confuse the skills they need in the C-suite with those they need in the boardroom. “Directors need to know what questions to ask; they don’t need to be able to run the company,” she says.
And while specialized industry knowledge is helpful, it shouldn’t take the place of good critical thinking and a basic willingness to be honest and open. “When you add new people you do want to look for specific experiences to add to the mix, but you don’t want to lose the culture,” says Franklin. “If you have a culture of respect and trust and candor, that’s where the CEO gets the most help—that honest giveand- take with the board.”
If the board has no current openings, there are other ways to bring in additional expertise. Rather than seating a new director, Franklin points out, the board can simply invite experts to advise on an ad hoc basis, to join for a single meeting or a series of meetings. “I’ve been on boards where we’ve done that. We wanted to learn more about what was going on in Saudi Arabia, so we got several experts to come and join us at a meeting and talk about what was going on, economically and politically,” she says. That’s a strategy likely to become more popular as sitting CEOs, who can now serve on fewer and fewer boards, become harder to find. Bromilow notes that companies can also consider creating a separate advisory board, rather than asking valuable directors to leave the table. “Your board may be bringing some great attributes in terms of sound business advice and you don’t necessarily want to blow that up,” she says.
But CEOs and boards do want to keep their attention focused on being proactive about board succession planning, and thinking ahead, four or five years out, about which directors are retiring and what needs the company expects to have as it executes its strategy. “What you don’t want to do is have all your good people go at the same time,” says John Gardner, vice chairman with executive search firm Heidrick & Struggles, adding that some companies elect to keep certain directors a year or two beyond retirement age just for that reason. “Otherwise, you end up with a whole new board that doesn’t understand how you got where you are.”