Governance activists have long advocated that American public companies divide the chairman and CEO roles, which is already commonplace in the United Kingdom. The near-collapse of the financial system has accelerated demands from a range of stakeholders that boards establish the role of independent chairman. Indeed, some proposed federal legislation would require public-company boards to split the roles of chairman and CEO.
The practice has been growing, albeit slowly, in the U.S., where chief executives traditionally bristled at giving up the chairman's responsibilities. Still, just 37% of S&P 500 boards split the chairman and CEO roles, and in nearly half of the situations where the roles are split, the chairman is the former CEO.
Those in favor of separating the roles blame the financial collapse on the failure of executives and boards to protect the long-term health and profitability of their businesses and the interests of shareholders. A nonexecutive chairman, they argue, helps to enhance the independent oversight of management and more closely aligns the board with shareholders. Further, proponents say that an independent chairman is able to ensure that the board is fully engaged with strategy and can evaluate how well it's being implemented.
While these may indeed be benefits of dividing the chairman and CEO responsibilities, boards—and the regulators that oversee public companies—have reason to be cautious in considering the model being proposed. There is little evidence that having a separate chairman improves shareholder returns. In addition, boards today are already far more independent of management than in the past, both in their composition and through governance practices. Evidence of such independence can be seen in the number of companies that have introduced the role of a lead director, and in increased board oversight of risk management, compensation, succession planning, and the accuracy of financial statements.
To Each Its Own Governance Model
We believe each board should decide which governance model is right for it, based on the board and company circumstances. The primary objective should be the board's independence from management and the need for board leadership to deal with those matters of governance where independence matters. Ultimately, the board must weigh its ability to deliver against those objectives under the current model, or whether alternative governance models should be considered.
For many boards, a lead director provides the necessary leadership of independent directors, while other boards will want to establish the nonexecutive chairman role. Any board that embraces the division of labor inherent in the nonexecutive chairman model must recognize that it represents a change of substance, rather than just a change of form. The creation of the nonexecutive chairman role signals to all stakeholders that the CEO is accountable to a unified board with a visible leader.
The governance benefits of the nonexecutive chairman model will not be achieved without careful planning and thoughtful execution. A dysfunctional relationship between the chairman and the CEO, communication failures between the two or between the chairman and the board, or the actions of an overreaching chairman can all undermine effective governance. Poorly managed, the nonexecutive chairman model can create confusion among employees, shareholders, and the media about who really is running the company.
Below are some of the considerations boards should take into account when considering whether to establish the role and how to successfully implement this approach for their organizations, if appropriate.
Filling this complex, nuanced role will be harder than you think
An effective chairman and CEO partnership requires mutual trust and regular contact. Critical to this equation is appointing a chairman who is complementary and compatible with the CEO. A chairman must have the maturity, leadership skills, tact, and ability to keep his or her ego in check—as well as a clear understanding of the boundaries of the role—to be an effective boardroom leader. A board should not choose a chairman who has the ambition or the inclination to run the company.
The chairman's role is communication-intensive, requiring exceptional interpersonal skills, intellectual honesty, and an apolitical mindset. A nonexecutive chairman must be able to focus a diverse group of directors and build consensus among them. He or she must also be able to coach the CEO and be willing to have the difficult conversations with the CEO, when necessary.
Another consideration when choosing a chairman is the required time commitment. Because of the time demands of the role—which can initially average a couple of days per week—the nonexecutive chairman is often a retired CEO with no other chairman positions. Ideally, the chairman is close enough to the headquarters to regularly spend time with the CEO, especially in the early days to build chemistry and trust.
Avoid the timing pitfalls
A natural time to consider the nonexecutive chairman position is with the appointment of a new CEO, particularly a first-time CEO. In such situations, the chairman can provide experienced counsel to the CEO and allow the new CEO to acclimate to the new responsibilities and focus on the business. As a general rule, the outgoing CEO should not serve as chairman, except for a short-term, well-defined transition period.
Under normal circumstances, boards should avoid "demoting" a sitting CEO. Taking away a sitting CEO's chairman duties can appear to be a demotion and can cause confusion and concern within the organization, potentially sending unintended signals about the board's faith in the CEO to employees, shareholders, and other external audiences. Only in cases of a business crisis or underperformance should the board consider taking away the chairman responsibilities of a sitting CEO. While it may be necessary for the board to name a nonexecutive chairman in a crisis, directors should recognize that it will be perceived as a demotion.
Ensure a precise clarity of roles and responsibilities
The CEO and chairman should have a clear understanding of and mutual respect for each other's very different roles. At a high level, the chairman should be seen as the leader of the board, responsible for keeping board members focused on the objectives at hand, shaping meeting agendas, facilitating communication between the board and CEO, and playing a key role in CEO succession planning and board evaluations. Yet, in practice, confusion about who should do what can arise when the responsibilities of each have not been carefully defined, e.g., the planning of board meetings.
Proactively, the chairman and CEO should discuss the areas that each will focus on for the next 12 months and agree upon a process for handling differences of opinions. The chairman should be responsible for governance and managing the board, while the CEO manages the business.
Execute against the defined roles
Don't allow that clarity to be undermined by sloppy communications, or decisions or actions that depart from those agreed-upon roles. The chairman should not jeopardize the CEO's credibility as the leader of the company, or in any way—by default or by commission—erode the power or authority of the CEO. For example, a chairman should normally avoid speaking in public, unless as part of an agreed-upon communications strategy. However, there are times when the chair may be more vocal. That should occur only with the board's concurrence.
The chairman also must be vigilant that his or her communication to the CEO reflects the consensus of the board rather than his or her personal views. The individual in the nonexecutive chairman role must have the skills to facilitate board discussion and to capture the sense of the board accurately. At the same time, the chairman should help set a positive tone for director feedback to the CEO, particularly after each executive session, neither avoiding difficult discussions with management nor coming on too strong.
Communicate expectations with the entire board
A substantive, full-board discussion about the expectations for the nonexecutive chair role and how it will work in practice is critical. Many times, other directors fear a loss of some of their authority when the position is established, concerned that the chairman may become a layer between the board and CEO and diminish the traditional role and responsibilities of directors. Similarly, the full board should discuss the appropriate compensation for the chairman and whether there should be a term limit. Unless the whole board embraces the ground rules, it's easy to get off-course.
Depending on the chairman's behavior, separating the roles may or may not result in a kind of "two-tier" board. We have seen situations where the CEO, in the desire to be collaborative, seeks the chairman's buy-in for every decision before it goes to the board; this, in effect, creates a two-tier environment.
The primary responsibility of the chairman is to provide the necessary leadership to ensure that the board functions well. The chairman has to help the board stay focused on key issues, keep the discussion of issues balanced, and ensure that issues are resolved. He or she should make sure that the board assesses its real contribution each year: not just the work it did, but how the board made a difference to the company. An annual board evaluation can reveal directors' sense of how effective the chairman is, providing a check on his or her influence and insights into the board's performance.
Plan for chairman succession
As they plan for the CEO's succession, boards should consider whether a CEO transition represents a good time to create the nonexecutive chairman role and who might be the likely candidates. Finding a director who possesses all of the ideal chairman qualities is a tall order and, in some boards, no one candidate may meet all the criteria or be available or interested. As an alternative, a lead director can often perform basically the same role as a separate chairman, perhaps with less public visibility, and should be chosen with the same care and attention to the delineation of roles and compatibility with the CEO.
There will no doubt be some CEOs who resist the trend and oppose moves to separate the chairman and chief executive roles. Boards can help CEOs understand the forces that are behind a change and work closely together to define and implement the most effective governance practices for their organizations.