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Are Current CEOs the Best Board Members?

Are Current CEOs the Best Board Members?

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Published by Brian Tayan

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Published by: Brian Tayan on Aug 17, 2011
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Topics, Issues, and Controversies in Corporate Governance and Leadership
stanord closer look series 1
Are Current CEOs the Best BoardMembers?
By many measures, current CEOs should be thebest candidates to serve on boards o directors. Active CEOs bring an important mix o manage-rial, industry, and unctional knowledge that equipthem to advise and monitor a corporation. Tey can contribute to multiple areas o governance thatare important or a rm’s long-term success, in-cluding development and vetting o the corporatestrategy, risk management, internal talent develop-ment and CEO succession planning, perormancemeasurement, and shareholder and stakeholderrelations. Tey also bring important intangible at-tributes such as leadership skills, decision making,the ability to prioritize, the ability to lead in a cri-sis, and a strong work ethic. o this end, a survey by the NACD nds that CEO-level experience isthe single most important unctional backgroundin recruiting a new director. Ninety-seven percentconsider it “critical” or “important,” responses arhigher than or any other background.
For these reasons, it is not surprising that someo the most visible CEOs in America serve on theboards o other large corporations. For example, James Mulva (CEO o ConocoPhillips) is on theboard o General Electric, Patricia Woertz (CEO o  Archer Daniels Midland) is on the board o Procter& Gamble, and David Cote (CEO o Honeywell)is on the board o JPMorgan Chase. Interviews with senior-level executives indicate that they gainconsiderable insights rom board experience thatbenet their own organizations as well.However, over the last ten years, the number o active CEOs serving as directors has declined in a precipitous ashion. According to Spencer Stuart,active CEOs represented over hal (53 percent) o 
By dv . l  B tyaugu 17, 2011
the pool o newly elected independent directorsamong S&P 500 companies in 2000. By 2010, thatpercentage ell to 26 percent. Active CEOs now siton an average o 0.6 outside boards, down rom1.4 a decade ago. Corporate guidelines that limitoutside directorships have no doubt contributedto this reduction. Almost two-thirds o companieslimit the number o outside board seats that theirCEOs may serve on, a policy not widely in eect a decade ago.
Increased time demands—both romdirectorship and rom being a CEO—also likely encourage CEOs to voluntarily limit outside boardservice. Companies have responded to this trend by recruiting new directors who are executives below the CEO level or who are retired CEOs (see Exhibit1).It is unclear whether the change in proes-sional composition o corporate boards representsa reduction in board quality or an improvement.Currently, there is no widely accepted, rigorousstudy that demonstrates that current CEOs are bet-ter board members or that companies with CEOdirectors benet in terms o improved advice ormonitoring. In act, recent survey evidence sug-gests that active CEOs might not always be the bestboard members. According to a study by Heidrick & Struggles and the Rock Center or CorporateGovernance at Stanord University, 80 percent o corporate directors believe that active CEOs are nobetter than non-CEO board members (see Exhibit2). Although respondents value the strategic andoperating expertise o CEO directors, when askedabout their unattractive attributes, a ull 87 percentstate that active CEOs are too busy with their owncompanies to be eective.
o be sure, survey respondents identied several
stanord closer look series 2
Are Current CeOs the Best BOArd MeMBers?
positive aspects o having active CEOs serve onthe board. Beyond their strategic and managerialexpertise, respondents value active CEOs or theirexperiences in dealing with a crisis or ailure and ortheir extensive personal and proessional networks.In terms o intangible attributes, active-CEO di-rectors were seen as being able to identiy with theCEO on a range o pressing issues, build trust withthe CEO, prioritize challenges, and demonstratecurrent knowledge o business issues.On the other hand, active CEOs are criticizedor not being as engaged as the company needsthem to be and or being unable to serve on time-consuming committees or participate in meetingscalled on short notice. Respondents also nd ault with active CEOs or being too bossy, poor collabo-rators, and or not being good listeners.Te tenuous benet o appointing active CEOsas directors is refected in part in the research lit-erature. Fahlenbrach, Low, and Stulz (2010) ndno evidence that the appointment o an outsideCEO contributes positively to uture operating perormance, decision making, or the monitoring o management by the board.
At the same time,the research suggests that the appointment o activeCEOs as directors might lead to increased CEOcompensation. O’Reilly, Main, and Crystal (1988)nd a strong association between CEO compensa-tion levels and the compensation level o the out-side directors who serve on the board, particularly the compensation committee. Tey argue that,consistent with social comparison theory, commit-tee members reer in part to their own compensa-tion levels when approving CEO pay packages. I committee members are current CEOs with highcompensation levels, this can lead to a distortedview o “air market value” and a propensity to ap-prove large compensation packages.
Te Heidrick & Struggles and Stanord Rock Center survey citedabove also ound criticism o current CEOs or be-ing “too generous with compensation.”For these reasons, it might be that the trend o re-cruiting ewer active CEOs and more retired CEOsas directors is benecial to governance quality. Aterall, retired CEOs have the same strategic, operat-ing, and leadership experience as current CEOs but without the time demands that distract them romtheir director duties. Tere is also common consen-sus that their leadership experience provides value well beyond their retirement date. Evidence to thiseect, however, is not overwhelming. According to the survey by Heidrick & Struggles and Stan-ord Rock Center, only 55 percent o respondentsbelieve that retired CEOs are better directors thanactive CEOs. Only 46 percent believe that retiredCEOs are above average.
Why thIs Matters
1. Many people believe that current CEOs arethe best board members. Is there convincing evidence that this is the case? I not, maybe itis time or companies (and the nominating andgovernance committees) to reassess the impor-tance o this criterion when looking or new board members.2. How much does the requirement or CEO-levelexperience limit the pool o available directors?Does this restrict the availability o diversity candidates who might be less likely to have thatexperience?3. I the availability o current or even retiredCEOs is low, should proessional directors (di-rectors whose primary job is to serve on boards)be used to ll this gap?4. In the Heidrick & Struggles and Stanord Rock Center only 26 percent o respondents believethat CEO-level experience becomes outdated within ve years. A ull 38 percent believe that itnever becomes outdated. Is there a “shel lie” toCEO experience? Do the positive qualities o re-tired CEOs deteriorate, or do they never becomeoutdated?
National Association o Corporate Directors (NACD) and Te Cen-ter or Board Leadership, “2009 NACD Public Company Gover-nance Survey” (2009).
Spencer Stuart, “Spencer Stuart U.S. Board Index,” (2010).
Heidrick & Struggles and the Rock Center or Corporate Gover-nance at Stanord University, “2011 Corporate Board o DirectorsSurvey,” (2011).
Rüdiger Fahlenbrach, Angie Low, and René M. Stulz, “Why DoFirms Appoint CEOs as Outside Directors?”
 Journal of Financial Economics 
Charles A. O’Reilly III, Brian G. Main, Grae S. Crystal, “CEOCompensation as ournament and Social Comparison: A ale o wo Teories,”
 Administrative Science Quarterly 
stanord closer look series 3
Are Current CeOs the Best BOArd MeMBers?
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Corporate Governance Matters.
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