Talent, Strategy, Risk
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Talent, Strategy, Risk

How Boards and Investors Are Redefining TSR

Bill McNabb, Ram Charan, Dennis Carey

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eBook - ePub

Talent, Strategy, Risk

How Boards and Investors Are Redefining TSR

Bill McNabb, Ram Charan, Dennis Carey

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About This Book

A playbook for long-term value creation

Balancing the short term and the long term is a perennial struggle, but new developments put boards squarely at the center of this dilemma and in need of guidance. Much of the $14 trillion of assets that firms like Vanguard, BlackRock, and State Street manage is now held in index funds, creating a huge class of permanent institutional investors. These so-called passive investors (unlike activist investors, passive investors don't have power to exit the fund) own almost 60 percent of the Fortune 500—and they have found their voice. Perhaps best exemplified by BlackRock's Larry Fink, these investors are stating in no uncertain terms that simply managing for short-term shareholder profit is not acceptable.

In this agenda-setting book, three leaders who have been on the front lines of these changes with boards, management teams, and the investment community challenge leaders to rethink TSR (total shareholder return). Since TSR cannot keep the short and long term in balance, McNabb, Charan, and Carey argue that boards should focus on a different kind of TSR—talent, strategy and risk—because decisions and actions around these factors, more than any others, determine whether or not a company creates long-term value.

Offering boards a playbook for managing talent, strategy, and risk, the authors explain how to:

  • Analyze the business through the eyes of a shareholder activist
  • Help management take a longer view and communicate it to investors
  • Track execution of long-term plans and goals
  • Keep major risks, such as cyberattacks and sexual harassment, front and center
  • Refresh board composition and create diversity to meet the new challenges

Given the new realities of corporate ownership, boards need to lead for the long term. This authoritative book shows them how.

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PART ONE
The New TSR
A Framework for Long-Term Management
Talent, strategy, and risk encapsulate the work of a company, broken down into its discrete functional elements—the spheres that the CEO must manage and that the board must oversee, with the aim of enhancing long-term shareholder value. The new TSR is a tool that boards can use to escape short-termism and reorient for the long term. If the board can get the new TSR right, the old TSR will take care of itself.
These three spheres are tightly interrelated. The board must nurture a leadership team suited to create and execute the strategy that the company will need to thrive in the marketplace of the future. And the directors must make sure that the company’s strategy both mitigates risks that can threaten the enterprise and embraces risks that present an opportunity for long-term value creation.
Master these three realms—as the first part of this book will show you—and the board will be able to answer the essential question: How does the company grow?
CHAPTER 1
Talent Rules
Of all the factors that go into the creation of long-term value, talent is the most important one for boards to be talking about. More than any financial goal or stratagem, talent—people—determines a company’s success or failure. People create and execute strategy and manage the associated risk. They conceive new business opportunities. They allocate resources. They are accountable for sustaining competitive advantage. Indeed, companies don’t compete. Talent does.
The priority for talent starts with the CEO, the person of final accountability. So the appointment of the CEO, and oversight of the CEO’s tenure, is the board’s most important task. That responsibility includes the CEO’s top team—the people whose opinions the CEO most respects. This group may number twenty-five or fewer, but their mindset and abilities, and the way in which they invest energy in their work and keep informed, are crucial to the program of the CEO. These people also demand the attention of the board.
Smart companies look for talent everywhere. They vie for talent not only with counterparts in their own business but also with companies in other industries. Established companies compete with startups as well. Around twenty years ago, Amazon CEO Jeff Bezos recruited the chief technology officer of Walmart. That anomalous hire should have been a wake-up call for Walmart, and for Kmart, too. In 2019, Walmart returned the favor and recruited an Amazon staffer to be its chief technical officer. Competitors like Target and Home Depot need to anticipate such moves.
To do so, they have to establish a flow of information about talent. They must follow emerging trends in middle- and upper-level talent, in technology management, in risk and regulatory functions. What trends are new, and what trends are coming? Who is thinking about novel ideas? Such intelligence is second nature in the fashion business, where the move of a designer from one house to another becomes news that spreads instantly throughout the industry. It must become the norm throughout the corporate world.
Yet few boards have this external focus. Exceptional companies like Microsoft recruit regulatory people ahead of time and get them ready to deal with the next wave of oversight. By contrast, the talent development process at old-line players like GE, IBM, Ford, and other Fortune 500 corporations has failed. These companies could not produce their own successful candidates despite billions of dollars of development investments. What went wrong?
If talent is to be the board’s principal focus, boards need a new approach to its management and oversight. Until recently, most companies had a compensation committee that might meet once a year for half a day, flipping through candidates for top positions, and that would be the end of its scrutiny.
It’s time for radical change. Boards at smart companies look at talent every time they meet. At General Motors, CEO Mary Barra opens all board meetings with an executive session that has a human resources management topic on the agenda. She says, “There’s always something happening related to talent and people movement or development that I want to keep the board up to speed on.” She dedicates one board meeting a year to talent, focusing on CEO succession and development, and discussing in detail the performance of every senior officer of the company.
Others should follow her lead. Companies must lift oversight of talent management to the level of the board, just as they did for audit management. They can start by folding talent development into the ambit of the compensation committee, rechristened as the talent, compensation, and execution committee (see chapter 5). And the board can insist on a greater HR presence in the boardroom, with frequent updates from management and time to make its own observations.
In this chapter, we will present the lessons of leaders who have made talent their priority. (See figure 1-1.)
FIGURE 1-1
A CEO for the Long Term
No job of the board is more important to the creation of long-term value than selecting the CEO and the leadership team. Their capabilities must align with both where the company is today and where it is headed. The CEO does more than run the business. The CEO is your long-term visionary. As former WSFS Financial Corp. chair and CEO Mark Turner says, “The CEO is developing into not just a leader of the organization but a leader of leaders—an external champion and explorer for the organization and a serial disrupter.”
But first, boards must disrupt the old way of choosing the CEO. Gone are the days when the board could simply nod through the incumbent’s pick for the job, perpetuating yesterday’s rule. In choosing the CEO, whether from inside or outside the company, the board must focus relentlessly on the long-term needs of the company.
To meet these needs, the board can start by deepening its understanding of the company’s talent pool. It should also determine the qualities the CEO will need in the years ahead based on emerging trends in the marketplace. And the board must take into account the vagaries of succession, ranging from a planned retirement to a sudden departure. Among the questions the board should ask: What is the second-generation pool? What is the generation below that group? Will the company have three or four candidates ready in five or ten years?
The board must know these candidates and follow their development path. If every year the CEO says she’s going to stay for the next five years, the board must search for candidates deeper in the corporation than the person in the office next to the CEO because the CEO might outlast the person next door. That’s why smart companies make talent development part of their agenda. For instance, J.P. Morgan Asset & Wealth Management takes the top team away for a week every summer and dedicates an entire day to talent. All boards should consider asking their CEO to do the same.
This sort of strategic thinking is key to managing for the long term. Throughout the process of evaluation, boards should look forward, not backward, which means letting go of assumptions about the candidates they are trying to assess. A lot of boards fall into the trap of confusing familiarity with actual assessment of a candidate. It’s ironic that at a time of so much transformation in business, boards don’t challenge themselves to look at transformational CEO candidates wherever they happen to come from. Elena Botelho, senior partner at leadership advisory firm ghSMART, says, “When you see a board making the wrong decision, it’s typically because they thought they were making a ‘safe choice.’”
Familiarity is not data. To move in the right direction, start by jettisoning the old system of internal assessments. From where we sit, the board has too often simply taken the recommendation of the outgoing CEO without getting data on up-and-comers. Enlisting the help of an outside consultant can give you more perspective on future needs.
The boards that succeed at CEO succession link their requirements to strategies. They step back and take a fact-based, analytical view on a broad range of candidates. Often the best candidate for succession turns out to be an outlier instead of the obvious choice. Data-driven analysis of company needs will encourage greater objectivity and let boards come to a reckoning with their unspoken assumptions before an outsider forces the issue.
Some companies are using simulations to test how a candidate would act when presented with scenarios that a CEO might face on the job. Simulations also let companies benchmark candidates against one another. Humana, for instance, used simulations before appointing Bruce Broussard CEO in 2013. Doing so gave the outgoing CEO and the board a window on how the various candidates would respond to different challenges, based on hard data beyond interviews alone.
To make a choice for the long term, consult the team below the CEO, which often knows a lot more about the candidate pool than the CEO does. Inevitably, the CEO wants their lieutenant to be the successor. The board has a fiduciary responsibility to understand who out there might be a better pick.
At GSK, when Jean-Pierre Garnier was retiring as CEO in 2008, three insiders were in the running for the job, and the board formed a clear bias to anoint the person who was sitting in the office just next door to him. So one of us (Carey) identified fourteen executives within the company who had interacted with all three candidates, flew around the world to interview them, and asked which of the three they thought would be the best choice for the future. And nearly 100 percent of them recommended the same person—Andrew Witty, one of the other two insiders. Witty got the job.
This model is one that every company can adopt to vet an internal CEO candidate. At GSK, the data from the review changed the decision of the board that had already made up its mind to accept the recommendation of the CEO. Listen to the people who have worked with your internal candidates. Conduct a systematic, thorough canvassing of close colleagues and customers who have worked with them. In so doing, you will turn a rote anointment of a CEO’s recommendation into a hard-nosed selection process.
If you are nearing a decision on an internal successor, give the candidates a chance to show how they might manage the agenda of the future. Then you can base your decision on real-world information, like quality of decision making in a fast-changing world. One approach is to put your candidates through their paces in different parts of the company. Then you can see how they operate in challenging circumstances and cope when confronted with competitive issues. And the board can become confident that the next CEO will know how to build an effective team, make good and timely decisions, and lead the company in the right direction.
Just before Mark Turner of WSFS stepped down as CEO, he spent three months on the road looking for opportunities to ally with innovative companies. He took advantage of his time away to field-test his heir apparent. (For more on his sojourn, see chapter 2.) For the previous three years, he had moved his number two, Rodger Levenson, through various roles, from chief commercial lender to chief financial officer to head of corporate development working on mergers and acquisitions. The natural progression would be for Levenson to become chief operating officer, with responsibility for Turner’s direct reports. Turner put that plan in motion just before he left.
Turner says, “While I was gone, he ran the organization. He stepped into my role. He did the earnings calls, did the weekly staff meetings, did the monthly strategy meetings, ran two board meetings as the effective CEO, and did everything that was necessary to keep the organization moving forward.” The period was an active one for the company, involving the negotiation and closing of three small acquisitions. So his role was more than stewardship. Turner adds, “It became a way for me, for the board, and for him to decide if this is something he can do and something he wanted to do.”
The tryout also demonstrated the strength and cohesiveness of WSFS’s team. Turner says, “While it was a contained test of leadership, it was also a test of the model we’d been using for a while, which is dispersed leadership. Rodger and his team stepped up and did incredibly well because they were used to being leaders. This was not an abrupt change in authorities or responsibilities.”
What is more, Turner’s absence from the office helped other leaders develop. He says, “We had a couple of very new members of the team, one a very young CFO, and he blossomed during that time because he was lifted and asked to do more than he otherwise would have. Had I been there, he would have been two steps from the top. Now he was only one step away and was asked to do much, much more.”
Field-testing CEO candidates has become a hallmark of long-term planning. Any venture that lets board members see candidates in a live environment is invaluable. How do the potential leaders deal with stress? How do they perform with the full weight of responsibility on their shoulders? Only then will you be able to see if they can act calmly and thoughtfully when the shells are exploding around them.
CEO Succession Is a Judgment Call
For the wreckage that can ensue when the board gets succession wrong, look no further than Ford’s performance over the past twenty years. After a period of good returns and market share, in 2001 the board asked CEO Jacques Nasser to resign after he clashed with chairman William Ford over strategy and corporate values. Ford, the great-grandson of the founder, had become chair two years before, and with the family trust holding 40 percent of the vote, the CEO role was his for the taking. He took it.
What followed was a period when the board’s passive approach to CEO succession resulted in a string of failures. Ford, not a natural chief executive, relied heavily on his COOs. He, and the board, cycled through three in five years, a huge turnover rate for the executive wing. Collectively they racked up $22 billion in debt. Ford finally told the board to hire a new CEO.
It delegated the job to two board members with a good track record in selecting CEOs—Irv Hockaday, CEO of Hallmark Cards, and John Thornton, co-president of Goldman Sachs. In 2006, they recruited Alan Mulally from Boeing, where he had overseen the creation of the 777, the top-selling wide-body jet, and demonstrated his ability to execute strategy and lead large teams. One of us (Carey) conducted Mulally’s vetting.
There was no purge when Mulally arrived. He succeeded because he was a good leader. On his first day, in a meeting with two dozen executives, someone asked him why he should be CEO of Ford. He said, “You’re a great team, and you’ve taken this company to disaster. I’m going to work with you to take this company to new heights.” Over his eight-year tenure, he paid off most of Ford’s debt; sharpened the company’s focus by unloading Jaguar, Volvo, and Land Rover; built up market share; and restored the stock price. He stepped down in 2014.
In the years since, however, the board repeated the mistakes that had sent the company to its nadir. Hockaday and Thornton were gone from the board by the time Mulally stepped down. The board appointed his choice for successor: Mark Fields, the COO. He was an able executive, and Ford’s profits were good on his watch, but sales declined 25 percent, a steeper fall than the industry average, and share price fell by 35 percent. The board asked him to leave after only three years.
Next came Jim Hackett, a former CEO of Steelcase, the furniture maker. His experience might make him seem a strange choice to lead an automaker. Ford’s chair—still company scion Bill Ford—didn’t think so, and he gave Hackett the job without much input from anyone else or a systematic search. Three years later, after billions in losses and a 40 percent decline in share price, Hackett was fired.
Ford’s board chose a new CEO in late 2020, its third in six years, and still doesn’t have a settled strategy. The board, and the chair, failed in their most important job: selecting, devel...

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