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The retired CEO: on or off the board?

The CEO staying on the board after retirement presents a catch-22 dilemma for both the company and its shareholders. Here are some recommendations.

One issue that goes to the very heart of corporate governance is the role of current and former CEOs on the boards of directors. Should chief executive officers remain on the board after retirement? The Institutional Shareholder Services (ISS) data base reveals that the boards of more than 20% of the S&P 500 companies include the former CEO of the corporation.

How to vote on a retired CEO's nomination is a difficult voting decision for shareholders. Many will ask whether it matters at all. Neither ISS, nor any study of which we are aware, claims that companies with their former CEOs on the board systematically underperform other companies. Why then should we even look at the issue?

The simple answer is that many of our clients now evaluate individual director nominees and asked us to focus on retired CEOs in particular. Through our research, it became apparent that the question is just as important to incumbent CEOs and directors. Given the interest on both sides, it is worth exploring the issue to find some common ground.

A look at just a few major U.S. corporations reveals a range of policies and practices regarding board seats for ex-CEOs.

At many corporations, the outgoing CEO is forced to retire from the board simply because he has reached retirement age. At Ford Motor Co., the choice is a personal one. Philip Caldwell stayed on as a director for five years until he reached retirement age in 1990, after Donald Petersen replaced him as CEO in 1985. But when Harold Poling replaced Petersen in 1990, Petersen resigned his board seat as well as left the executive suite. General Electric Co.'s policy -- not written, but observed -- requires all inside directors to retire from the board once they leave their executive posts. Thus, in 1981, CEO Reginald Jones gave up his directorship when Jack Welch became the new CEO.

But for most boards, the question is left to the old CEO. If he wants to remain on the board, few directors would argue. Even if the new CEO objects, he probably would not want to object -- he risks losing support from the directors recruited by the old CEO, who, when the change of command occurs, probably comprise most of the board.

ISS's general policy recommendation is that shareholders should consider with extra care their votes on director nominees who are the former CEOs of the corporation.

Why, as a general matter, is it difficult to support the election of retired CEOs to their boards? One reason we object to retired CEOs remaining on the board is that they could dominate the board agenda and decisions. Many, if not all, inside directors may owe their jobs to the retiring CEO and would be reluctant to contradict his views out of a sense of loyalty and/or fear: CEOs often continue to exercise enormous power even after their retirement. The same combination of fear and loyalty can apply to the non-executive directors recruited by the retiring CEO.

Limits on the CEO

The presence of a retired CEO on the board could thus limit the new CEO's ability to assume the control he must have in order to be an effective leader. If the new CEO were a protege of the retiring CEO, the problem is a conflict of interest: The new CEO will be torn by a sense of loyalty and a desire to follow his own agenda when the retiring CEO disagrees with a policy decision. If the new CEO was brought in from the outside, the problem could be even worse: The new CEO could be blocked from effecting any major changes not approved by the retiring CEO.

The current chairman and CEO of a Fortune 500 company provided us with a different way of looking at the dilemma. It is true, he said, that there are dangers of some retired CEOs dominating their successors, and that is a good reason to keep them off the board. But, he said, the majority of retired CEOs recognize this problem and, in an effort to be responsible, they stay silent on major policy questions. Thus, the most well-intentioned retired CEOs become ineffective directors.

In short, it is a catch-22 for the retired CEO. Retired CEOs who care about their successor may not be effective directors. Retired CEOs who want to dominate the board should not be on the board at all.

But it is also a catch-22 for shareholders. Retired CEOs have vast experience which could benefit the company, and the new CEO in particular. Shareholders who decide not to return the retired CEO to the board thus lose something of great value.

Supportive Circumstances

Are there circumstances under which shareholders could consider supporting a retired CEO's election to the board? Despite the generalized statements above, shareholders have to recognize that every board and every CEO is different. It would not be appropriate to apply a blanket veto to every retired CEO up for election to the board. We therefore recommend that shareholders look carefully at a variety of factors that could justify supporting the election of a retired CEO:

* Where the majority of the board is made up of independent directors. We would be more inclined to support a retired CEO's candidacy if we believed that the board had the power to prevent the problems described above. Boards comprised of a majority of independent directors is a good place to start, but even these boards may not be powerful enough, if the outside directors are beholden to the retired CEO. Another possible structural solution is to have an outside, independent chairman of the board. This may improve shareholders' ability to get the most out of its directors, the ex-CEO included.

* Where the retired CEO does not serve on key board committees. Given the potential for conflicts, we would recommend withholding votes for any retired CEOs who served on board audit, compensation, or nominating committees. We might start by notifying the board of our objection, and withholding votes if the retired CEO refused to step down from any of these committees.

* Where the shareholders have the power to effect governance changes. We also would be more inclined to support a retired CEO's election at a company where shareholder voting rights are free and unencumbered. Since the board itself may not provide the necessary checks and balances, it is imperative that institutional shareholders, who cannot rely on the "Wall Street Walk" as much as they used to, be able to implement change if and when it becomes necessary.

The specific safeguards to look for are corporations that: (1) allow cumulative voting, (2) do not have classified boards, (3) have confidential voting policies and third-party vote tabulators, (4) allow shareholder action by written consent and special meetings, (5) do not have dual-class voting plans and/or where management does not control a majority of the vote, and (6) allow shareholders to remove directors without cause. Each of these features would allow shareholders to remove from office any director if and when it becomes necessary. Without these safeguards, it is difficult to support any director candidate whose efficacy is already open to question.

* Where companies have demonstrated a strong performance record or aggressive response to poor market conditions. It would be shortsighted to argue against any director candidate who has served on the board of a corporation with a strong performance record. What is more problematic is the voting decision on director nominees of corporations with poor performance records. Shareholders have to examine whether performance has suffered because of mismanagement or because of market- or industry-wide conditions. In the latter case, we would look favorably at director nominees who approach their companies' problems aggressively. Implementation of a restructuring plan, the retention of an adviser to explore value-enhancing strategies, and/or a change in top management, for example, are signs that the board is doing everything it can under the circumstances. In those cases, shareholder support for all board candidates, the retired CEO included, can be justified.

Retaining the Value

Short of keeping the retired CEO as a director, is there a way for shareholders to retain that experience without harming the corporate governance process? The special circumstances described above will certainly come into play at many corporations. But there also will be cases when shareholders are so dissatisfied with corporate management that they will want to effect a meaningful change. Because of the generalized problems described before, withholding a vote for the retired CEO is a viable option.

Even so, in these cases shareholders still face the dilemma of losing a candidate with potential value. There are some possibilities to retain that value short of electing a retired CEO to the board:

* The retired CEO could become a nonvoting member of the board. This alternative, however, would not solve a thing. The lack of a vote would hardly stop a retired CEO from exerting his influence if he so desired.

* The retired CEO could be put on retainer as a consultant to the full board, or to a committee of the board. This alternative has more appeal, but still runs the risk of allowing the retired CEO to exert undue influence over board decisions.

* The retired CEO could be allowed to stay on as a director, but could be excluded from serving on any board committees. Again, this alternative offers some potential, but it still allows the retired CEO to exert too much influence over the new CEO and full board.

* The retired CEO could be put on retainer as a consultant to the new CEO. This is the most promising alternative. It would allow the one person who would benefit the most from the retired CEO's experience -- the new CEO -- to take advantage of his predecessor's expertise. It also would allow the new CEO to maintain full authority when dealing with the board. This alternative still could place the new CEO in a precarious position, if the retired CEO were ever to disagree with the new CEO and bring his case to the board or other officers. But the danger would be minor if the choice were left to the new CEO: If he had a good working relationship with his predecessor and valued his advice, the arrangement could benefit all concerned. If the new CEO were concerned about his predecessor's shadow, he could make a clean break.

Our essential concern is that the chain of accountability be clear and enforceable.

The decision for shareholders will often be gray. What should the vote be, for example, at a company with a superior performance record and an open governance system, but whose board chairman and nominating committee chairman are not independent directors? Is this reason enough to withhold a vote for the retired CEO?

The Shareholder's Voice

The answer is, it depends. In the end, votes on any director nominees must be made on a case-by-case basis. But whenever there is a question, shareholders have a simple, but oft-neglected, tool at their disposal: informing the corporation of their concerns and desires. A positive response to an inquiry is a good sign that the board is attuned to shareholder interests. A deaf ear would suggest that a more aggressive approach may be necessary.

Since the board of directors is the fulcrum of corporate accountability, it follows that votes on director nominees are the single most important use of the shareholder franchise. The point is underscored by recent trends in proxy voting and shareholder activism. As shareholder attention focuses more on the board of directors, it is natural that certain nominees, by virtue of having served as the CEO of the corporation, deserve great scrutiny. Retired CEOs bring with them a knowledge of the company, personnel, and industry that is hard to match. On the other hand, those very advantages could limit the new CEO's efficacy or could force the retired CEO to be an ineffective director. In short, it is a catch-22 for both the retired CEO and for shareholders.

We thus have four policy recommendations:

* Shareholder votes on director nominees who are retired CEOs of the corporation must be made with great care.

* Shareholders should consider withholding their votes for retired CEOs unless special circumstances exist.

* Shareholders also should recognize that the new CEO may want to retain the retired CEO as a personal consultant.

* Shareholders should communicate their desires and concerns to the board on a ongoing basis.

Howard Sherman is Senior Vice President of Institutional Shareholder Services Inc., the Washington, D.C.-based proxy voting and corporate governance advisory firm. He is also Director of the firm's Global Proxy Services.

Resist the Desire to Stay On

The reasons for a retiring CEO to leave the board of directors have almost nothing to do with the concept that he or she would end up dominating the board agenda and decisions. Some of the reasons are related to the fact that all organizations are run by human beings and some to the nature of the way corporations are governed.

In the real world, one either holds a job and assumes the authority and responsibility that goes with it or one does not. All new CEOs worth their salt have their own vision for their company which they believe is appropriate for the times. Since times change, and never more rapidly than today, that vision may very well be -- and should be -- different from yesterday's. This does not mean that the last CEO's policies were necessarily wrong; it only means that new conditions may require new policies.

If a retired CEO stays on the board, he or she may have to sit and watch the new person dismantle some favorite programs and alter the direction of the company. As these plans develop at board meetings, the choice faced by the retired CEO is to comment on the wisdom of the new direction, in which case it can be construed as meddling, or to say nothing and thus make zero contribution. It is a Hobson's choice which can easily be avoided by not staying on the board. This course of action also produces the added benefit of opening a place for another director not so constrained.

What about losing the accumulated of the retiring CEO? That is easily solved. If the new CEO wants to tap the perceived wisdom and experience of the retired CEO, a telephone call or a quiet meeting does not require board seat. While there are instances where this intergenerational exchange has been active and productive, it is the exception rather than the rule.

One reason for mandatory retirement is to assure the corporation of fresh leadership to meet changing conditions. If the new leadership wants to consult the old, no corporate structure is necessary; if consultation is not desired, no corporate arrangement will ensure it. On the other hand, if the new CEO wants to get moving with his or her agenda, a board seat occupied by the retired CEO may be seen as an impediment to getting on with the job, particularly if new management feels that radical measures are called for.

In short, there are myriad reasons for the retiring CEO to leave the board, and few if any arguments for the other course. The board itself can set retirement dates and also change them, so if the continued service of the old CEO were still required it could be arranged, but in general it is best to stick to some known pattern.

The human desire to stay on with a company that has been home for many years is strong and understandable, but the world is so full of so many other interesting things to do that the desire to stay should be resisted for one's own sake and for that of the company.

Walter B. Wriston is the retired Chairman and CEO of Citicorp. He chose not to stay on as a director when he retired in 1984.
COPYRIGHT 1993 Directors and Boards
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1993 Gale, Cengage Learning. All rights reserved.

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Title Annotation:includes related article; chief executive officer; board of directors
Author:Sherman, Howard
Publication:Directors & Boards
Date:Mar 22, 1993
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