The CEO's Boss

While CEOs have taken most of the blame for recent corporate failures, their boards certainly share considerable responsibility, according to William M. Klepper, author of “The CEO’s Boss: Tough Love in the Boardroom.” So, to limit repeats of recent failures, the working relationship between boards and CEOs needs substantial improvement.

In his book, Klepper, a professor of management at Columbia Business School, sets out to describe how boards and their CEOs can most effectively work together at the same time that boards provide independent oversight of their CEOs. Klepper suggests some essential building blocks for productive board-CEO relationships and important yardsticks boards can use in evaluating their CEOs’ performance.

At the core of a CEO-board relationship should be a cooperatively developed set of principles — what Klepper calls a “social contract” — to which both board and CEO commit themselves. To ensure adherence to these principles, which Klepper recommends should include satisfaction of stakeholders, the board must frequently provide candid and unflinching critiques of the CEO’s performance, what Klepper calls, “tough love.” Klepper devotes most of “The CEO’s Boss” to explaining what boards should be looking for in a CEO and thus the basis for their feedback.

Klepper’s major insight is that there is an optimal leadership style for each stage of the business cycle. Boards, therefore, should be continually ensuring that their CEO’s style is what is required, given the company’s stage along the business cycle. A board, for example, may have astutely hired a driver personality to bring its company out of a low point in the business cycle. But, if that CEO maintains that same style as the company progresses into a surge of growth, the board must inform the CEO that he or she needs to adopt a more “expressive,” spontaneous, trusting-the-gut style. If the CEO is unable to do so, the board must exercise tough love and find a new CEO.

Klepper also says that boards must use soft metrics, such as integrity, leadership, development of internal candidates, and strategic thinking, to supplement hard metrics in assessing CEO performance. These metrics can often produce early warning signs, so that if a board keeps an eye out for them and responds to them quickly enough, it can forestall deterioration in profitability.

Klepper is thorough and persuasive in his argument for the necessity of a social contract and the merits of using the leadership style/business cycle matrix and soft metrics in evaluating CEOs. The author’s leadership style/business cycle matrix in particular can provide a useful framework for a board’s assessment of how a CEO is doing in view of the company’s needs.

What Klepper does not address is how to ensure that board members will remain faithful to the social contract and committed to providing the tough love required to uphold it. There is no discussion in “The CEO’s Boss” of the factors that have been cited by regulators and many other commentators that contribute to boards straying from their responsibilities. What is to keep them from being cowed by a CEO, with his or her power to marginalize them, take away some of their perks or blackball them so they will not be considered for other lucrative corporate board positions? Missing here are suggestions for objective standards and structures to institutionalize the independence of directors. There is no mention of the many legislative and other proposals that have been made to encourage the independence of boards, such as separation of the CEO’s and chairman’s positions, proxy access for shareholders to be able to nominate board candidates or requirements that board members have substantial ownership stakes in the company.

These omissions are important because the efficacy of all of Klepper’s prescriptions rests on the good and steadfast intentions of board members — from their commitment to the social contract to their best efforts to evaluate CEOs on the basis of the appropriateness of their leadership style and soft metrics. But, it is most likely that an overwhelming majority of the Lehman Brothers board members who allowed Richard Fuld Jr. to run amok and of the other boards whose companies went bankrupt in the recent financial crisis would affirm that they operated by the principles in Klepper’s model social contract. Peer pressure, desire to protect their positions and the lack of hard incentives to keep their eyes on the ball, however, led them to abdicate their supervisory responsibilities.

Klepper provides a reminder of how boards and CEOs should operate. But, his recommendations can be useful only if they are underpinned by incentives to maintain their commitment to the social contract.

As much as it would be heartening to believe that we could depend on the appointment of well-intentioned people to management and board positions for achieving high functioning boards, experience has proven that this is hopelessly idealistic. Klepper, like so many others, points to Tyco International under Chairman and CEO Edward D. Breen and Jack Krol, lead director, as the model of how a CEO and board can function effectively. Breen and Krol committed to a jointly crafted social contract, Klepper observes. But, the fact that they successfully turned Tyco around seems largely a result of their internal compasses that steered them to work on behalf of shareholders and other stakeholders and not primarily in their own self-interests. Certainly, if people who could be counted on to put stakeholders’ interests first populated all boards and CEO offices, there would be no need for laws, leadership style/business cycle matrices or any other schemes to make boards provide the requisite amount of tough love and function ideally as their CEO’s boss.