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Editor’s Note: March 24 Ram Charan and other experts will share a new, multi-disciplinary approach—from communication to pricing to cost cutting—to help your management team fight inflation and win. Join us >
Like their CEOs, boards—in both public and private companies—are not practiced at leading through an inflationary period. When the last such era occurred in America, most of today’s business leaders were in their teens or 20s. They have no experience in dealing with the insidious chain reaction of price increases and labor costs. In good times, directors tend to give CEOs much leeway to do as they see fit, consistent within an overall strategy the board supports. Unless things go seriously awry, the board takes a long-term, above-the-fray view of the company’s operations.
In an inflationary environment, the board of directors has an obligation to delve deeper, to ensure that the CEO and CFO are probing how inflation will affect the entirety of the company’s value chain and are establishing mechanisms to contend with those impacts.
The board should ask the CEO and CFO to bring that information to the board. A board meeting devoted solely to a discussion of how inflation and recession will affect the company is mandatory. Consider a retreat for the board to have management show you various scenarios of the inflation for your sector—not the whole economy—because there are certain sectors that are going to be affected more negatively than others.
That’s important: The inflation rate will vary sector by sector, subsector by subsector. Don’t get caught up by one single number for the whole U.S. or the whole world. Granularity will make the difference here.
The most critical task for the board is to approve the right short-term goals out one to two years for management to achieve. Most boards have already made a big mistake by not explicitly setting a cash goal for management, instead relying on EPS goals and/or EBITDA goals.
The board’s compensation committee has the important but complex task of deciding how to compensate the CEO and senior management under inflationary conditions. That task becomes even trickier in the face of a recession or markedly slower economic growth. The board should not rely on consultants for this work since most consultants have not been through a period of inflation in 30 years and may not themselves understand the new behaviors required to survive and thrive in those conditions.
To do this work correctly, the board’s compensation committee must look at the company’s financial statements, not only in nominal dollars—inflated dollars—but also in real dollars. Only by looking at the numbers on a real dollar basis will you be able to determine the actual economic value the management has created or destroyed, and it is on that basis that compensation decisions should be made. It is essential to also understand how these numbers were achieved—what did management sacrifice to get there? What were the cardinal decisions the team has made to achieve its goals? And, in so doing, did they undermine the future? A healthy discussion that includes the CEO and CFO on these topics will be useful to everyone.
Plan to review strategy at least three times annually, not necessarily to change it, but to understand how the landscape is evolving, which components of the portfolio might be vulnerable to significant decline or where sudden opportunities may appear. The long-term focus is always on how to emerge stronger in the post-inflation and post-recessionary environment. It is possible.
Leaders will now be tested differently than they were before Covid or during Covid. This period demands resilience and determination. Being defensive is easy. My advice: Go on offense. Look into the future and gain ground when the economy moves out of inflation. Make this era a period of opportunity. It can be done.