CEOs on the block.

CEOs and their companies are living through what Joseph Schumpeter called "creative destruction," a bloody but necessary way capitalism renews itself. Editor J.P. Donlon and two veteran CEOs experienced in board issues comment on the Thermidorian period in which CEOs find themselves today.

In "The League of Youth," Norwegian playwright Henrik Ibsen wrote that business leaders "are like beads on a string--when one slips off, all the rest follows." The abrupt departures of GM's Robert Stempel, American Express' James Robinson, IBM's John Akers, Westinghouse's Paul Lego, coupled with the radical restructuring at Sears, have tended to focus attention on the turmoil in the blue chip U.S. corporation. The phenomenon, however, is wider and extends deeper to include the unceremonious way the CEOs of Britain's BP, Japan's Matsushita, and Australia's Westpac also got the boot. CEO turnover at companies below the Fortune 200 level is also at an all-time high as daily readers of The Wall Street Journal's "Who's News" section can attest.

What is going on here? Have the shareholder rights groups spearheaded by CalPERS and Nell Minow's Institutional Shareholder Services succeeded where Carl Icahn and Boone Pickens couldn't? Are boards of directors becoming overaggressive? Are CEOs taking the blame for their predecessors' failures? Former Schaefer CEO Bob Lear, CE's Speaking Out commentator and a longtime observer of board issues, thinks recent events prove corporate governance really works. Former Bell & Howell CEO Don Frey argues that media exposure of board members of troubled companies tends to set a match to dry tinder. Former Avon Products CEO Hicks Waldron sees the turmoil as part of a longer evolutionary trend in which the independence of boards increases with the rise in the number of outsiders on the board.

Abraham Zaleznik, professor of leadership at the Harvard Business School, takes a psychological view. Speaking at the World Economic Forum, the annual meeting of 1,200 business and political leaders in Davos, Switzerland, he said, "Power figures are much more susceptible to irrational behavior than most suppose." The tendency toward irrational behavior masquerades as rationality itself. Zaleznik tells the story of how Curtis Publishing's management had fallen into the mistaken belief that its Saturday Evening Post was a cornerstone of Americana and would revive economically. "They had succumbed to 'magical thinking.' They believed that the Post was a venerated institution immune to market forces."

The pathology of "group narcissism," Zaleznik says, also is evident at Sears, GM, IBM, and American Express. IBM's belief in incrementalism got in the way of its evident need for a complete rethinking of its structure and its mission. When the market shifted to PCs and workstations, its leaders could not accept that a permanent change in direction was underway. "The rather curious succession at American Express," with three board members resigning in protest, "shows that political behavior sometimes combines with irrational thinking." At this stage, he argues, "rationalization becomes confused with reasoning. Board members themselves abandon objectivity in order to deal with political behavior."

In his research of leadership and organizations, Zaleznik points to five precepts for business leaders today:

1. Leaders should have a high degree of self-knowledge. Sometimes it is best to grow into the job as leader than to come "fully prepared."

2. Leaders should think in terms of substance, not process. One of the lessons learned from the study of individual growth and development is that the "rule of reason" underpins morale and satisfaction. Common management practices violate this rule with grave consequences for effectiveness and cooperation.

3. Leaders should have intellectual capacity. Establishing and defining an overarching goal requires two distinctly different tasks: to formulate what is important stripped of unnecessary elements; and to gain its acceptance by members of the group.

4. Leaders must have compassion for other people. Executives are fond of saying, "People are our greatest asset," yet people remain the least utilized resource. Compassion, in Zaleznik's view, enables managers to unlock this unrealized potential.

5. Leaders need an aesthetic sense to do things with beauty and style. When asked for his business card, Apple Computer's John Sculley provides one bearing a title other than chief executive: chief listener.

To be sure, Harvard's Zaleznik doesn't profess that his psychological perspective is a unifying theory, as many factors are involved in the recent downfall of so many titans of the 1980s. Just as mapmakers since the 1989 fall of the Berlin Wall have been frustrated by the emergence of so many "new" nations altering existing political boundaries, it has become expedient for business thinkers to advocate the abolition of organizational hierarchies and to lionize the flat organization. In "Rethinking the Corporation," Robert M. Tomasko argues that too many have written off the ability of existing institutions to fight vigorously to remain stable. "Any tendency toward change is automatically met by increased effectiveness of the factors that resist change," he writes. No one organization design or leadership style is right for every business. What we are experiencing is an attempt by institutions to reinvent themselves. The final shape is unknown, even to those who profess to know, but what's important is that the process is underway.

DON FREY ON: THE SEEDS OF DESTRUCTION

I have spent over 40 years in big business and worked in many roles--research, product engineering, general management, and outside directorships. During this period, I have seen many fads come and go, all of which were to solve all problems: Management by objectives and bottom-up budgeting have been replaced by just-in-time inventory, total quality management, and team building. I have experienced many kinds of turmoil and change--brutal competition, regulatory survival, startling new technology, recessions, takeovers, and LBOs--but nothing compares to the big company upheavals of today. They are unprecedented and, while different, are as far-reaching as the Great Depression of the 1930s.

One indication of today's turmoil is the downsizing of large companies: Witness the reduction of 3.6 million people at the Fortune 500 from 1981 to 1991, while the economy as a whole added 21 million jobs. Also unprecedented is that perhaps half of those workers laid off were white-collar professionals or semi-professionals. The downsizing also has been accompanied by spectacular failures of some large companies: General Motors, Westinghouse, IBM, Eastman Kodak, American Express, Sears, DEC. These companies have become victims of their own isolation; hubris; and slow-to-change, deterministic-reductionistic bureaucracy. Isolation led them to miss changes in the world. Hubris led to dismissal and denial of external changes. Bureaucratic reductionism-determinism meant many big companies could not effectively manage the processes of change that are only slightly reductionistic and not very deterministic. Along with all of this are the increasing demands for accountability by large pension asset managers. Pension managers turn out as unforeseen long-term investors with large companies because they can't get out!

We will, when this is over, have changed the structures, conduct, and raison d'etre of large industrial organizations; changed the relationships between businesses; changed the governance role and accountability of senior management; changed the role of stockholders; and improved large company productivity--all with great political and social upheaval. One result will be a permanently altered relationship between employees and large employers.

While all of this has been going on, we have suffered slow economic growth. To wit: Had we experienced from 1980 to 1990 the same average annual rate of economic growth seen between 1950 and 1970 (3-plus percent, instead of 2-plus percent), there would be no federal government deficit today.

The origins of our current turmoil date to the beginning of my 40 years in business. I recall the move by companies in the 1950s to begin investing their pension funds in common equities. Today such funds own 50 percent of all common equities; these holdings enable fund managers to exercise their leverage with corporate management. This new dynamic, of course, also means workers' capitalism.

Also in that decade came the assumption that the principles of business were universal, and that running one large company was the same as running any other. This gave rise to unwarranted reductionism and an additional set of problems. The LBO craze of the 1980s led to massive debt that still weighs heavily on many corporate balance sheets. The 1950s saw the rise of business schools, churning out thousands of MBAs who were too dependent on formulas and too little-equipped to lead innovation and to adapt to changing conditions. The spread of the business computer, spectacular in itself, did not lead to productivity improvements until recent empowerment of rank-and-file workers with team-based management.

What have I learned from these past events, and where do I think we are going?

* Downsizing and delayering, along with modern computerized information systems, can move decision making down in an organization. Delayering, ironically, will now make possible (or force) productivity gains from computers, along with labor cost reductions.

* Perhaps most important, delayering will speed up things. The time needed to accomplish the tasks of business is now a major competitive issue. One result: The working capital required per unit produced by a manufacturing company (or sold at retail) will drop.

* The destruction of too many large companies emphasizes the need for recreating the vision of the founding fathers. We can only arrest the destruction of our large companies by replacing the inward-looking, process-oriented bureaucratic administration with leadership that constantly seeks to innovate.

* There also may be an upper limit on a company's size, perhaps one that is normalized by the size of unit sales (i.e., autos vs. soap chips). The old economies of scale arguments are now too simplistic and have become with some large companies diseconomies of scale. Big companies either must break up or act like individual small companies. Jack Welch of GE is following this paradigm.

* The most important business decisions for innovation or constant renewal are not necessarily amenable to mathematical or accounting calculations. Vision and judgment do count.

* Following the recent disasters at big companies, boards of directors suddenly have become newsworthy. With this exposure, they will become more assertive. They will, as intermediaries, restore the balance between chief executives and owners (increasingly pension funds as long-term investors). Particular attention to future directions, including demands for innovative capabilities and "what if" challenges, will be necessary.

* Globalization means more to compete with global competitors than anything else. If the company has to be global to compete, that follows.

I remain optimistic about U.S. business' ability to weather this storm of controversy. Of any nation on Earth, this country and its businesses retain the greatest ability to change. We are changing again--for the better!

HICKS WALDRON ON: CEOs AND OUTSIDE DIRECTORS

Many people, primarily those outside the corporate community, say that a dramatic new phenomenon suddenly has emerged, propelling the premature departure of several CEOs in recent months. Some even suggest a contagious wave is sweeping through corporate boardrooms, and that boardroom cabals will become the norm ... the popular thing to do ... the new national pastime.

These people also contend that major institutional shareholders are the instigators of this phenomenon, and that pressure from them is igniting and fanning the flames.

This view may seem reasonable from the vantage point of an outside observer. But it is not the whole truth. We will not be entertained by what appear to be continuous boardroom uprisings. We have seen only a handful of CEO changes--dramatic simply because they involved large companies and occurred in a brief period of time. In most cases, the ousters were provoked more by the sagging economy and lagging corporate performance than anything else.

These developments, however, do shed light on a more general, long-term trend of improvements in corporate governance--and, by definition, in the relationship between boards and CEOs. We are probably in the 10th year of this trend. It is a healthy one. In fact, we are seeing an evolution, not a revolution.

Over the last decade, we have recognized the increasing independence of outside directors. Most notable among the developments prompted by an independent board are the shift toward a higher ratio of outside to inside directors; the tightening of specifications for new directors; the greater involvement of nominating committees in selecting new directors and, therefore, less dominance of the process by CEOs; and the increased participation by boards in achieving corporate goals. Outside directors act more as experts and consultants to management, and in the process, they have become more deeply involved in the business and in the methods of problem-solving when crises occur.

These changes have exercised a positive influence on enhancing shareholder value. Sparked by the takeovers and mergers of the 1980s, as well as by pressure to demonstrate the relationship between CEO pay and corporate performance, directors have become more urgent in their demands for results. Of late, however, these efforts have been impeded by some large institutional investors whose managements seem more interested in CEO bashing and ego fulfillment than in achieving their principal raison d'etre: maximizing returns to their constituencies.

In spite of the distraction of dealing with some of these institutions that appear to have run amok, the recent flurry of CEO turnovers is certain to have captured the attention of executives and board members alike; and something constructive is sure to result. It should stir CEOs and boards to rethink their respective roles; to re-examine the tracks they are on and to confirm that they are the right ones for their companies; and to evaluate honestly their company performance and corporate governance.

Those CEOs who have not made it a religion to communicate constantly with their companies' shareholders and analysts should rethink their priorities. It should not be necessary to respond to institutional demands for meetings with management.

CEOs who don't regularly communicate with outside directors should consider how this might be best accomplished. One approach, easily adopted by CEOs, is an annual one-on-one, frank, and open meeting with each outside director. Agendas for such meetings could include observations on CEO performance, effectiveness of the board, full disclosure of impending business issues--all of the subjects that are never properly discussed during board meetings.

The brief flurry of departures from the boardroom we have witnessed is convincing evidence that managing a modern U.S. corporation in a complex and competitive global environment is a difficult job indeed. It also proves that the buck does stop, after all, at the CEO's desk. All the more reason the CEO needs constant support--not just scrutiny--from all the corporation's constituencies.

Donald N. Frey is the former chief executive of Bell & Howell, and former president and chief operating officer of General Cable Company. He currently serves as director on the boards of Andrew Corp., Cincinnati Milacron, Clark Equipment, and Springs Industries. Winner of the 1990 National Medal of Technology, Frey is also a professor of Industrial Engineering and Management Sciences at Northwestern University's Robert R. McCormick School of Engineering and Applied Science.

Hicks B. Waldron is the former chairman and chief executive of Avon Products. He currently serves as chairman of Boardroom Consultants, which helps coordinate board successions and offers guidance on other corporate governance issues. Waldron is also a member of the board of directors of ARCO, CIGNA, Hewlett-Packard, and Ryder System.

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