Jeffrey Sonnenfeld is Senior Associate Dean for Leadership Studies and Lester Crown Professor of Management Practice at the Yale School of Management, and is Founder and President of The Yale Chief Executive Leadership Institute—the world’s first “CEO College.” Sonnenfeld has been named one of the “ten most influential business school professors” by Businessweek and one of the “100 most influential figures in governance” by Directorship. Sonnenfeld has published 200 scholarly articles and seven books, including best sellers The Hero’s Farewell and Firing Back.
As 2017 begins and the United States enters its next phase under President Donald Trump, uncertainty around the future of corporate governance is palpable. Between promises to “dismantle” Dodd-Frank and actions to negotiate keeping jobs in the U.S. even before he took office, early indications suggest that the business environment may change dramatically under Trump. But to what degree is still unclear. To gain more perspective on what this might mean for corporate leaders in the immediate future, C-Suite spoke with Jeff Sonnenfeld, Yale professor and founder of the Yale Chief Executive Leadership Institute. Beyond offering his thoughts on implications under the new administration, Sonnenfeld also shared observations on CEO and board leadership in the changing business landscape.
Jeff Sonnenfeld: I think in some ways there is more uncertainty than business leaders realize. President Trump defies ideological boxes, and while he is sensitive to criticism, he doesn’t hold grudges long and is quick to forge new alliances. That means it’s hard to draw battle lines. He is very good about bringing issues directly to the people if he doesn’t get his way. He demystifies language with such a plain-spoken, direct style.
Sonnenfeld: There is always the disinfectant quality of daylight. However, if the business environment becomes all ad hoc deal-making rather than predictable principles, that’s when it gets to be uncertain if not volatile.
Sonnenfeld: Well, the activist question creates an interesting paradox. For example, Trump is close to Carl Icahn, but I would say that Icahn represents something very different than the deal struck with Carrier. Icahn would take the jobs overseas or break them up into pieces, selling them off at fire sale prices as he tried to do with Dell. Many activists are not trying to fortify great American enterprises but trying to extract the greatest value of the moment as opposed to making that long-term investment. Of course, Icahn would be quick to say he’s held some businesses for decades, and that’s true. But most activist enterprises have had a very short-term view to squeeze the most out of a company.
That’s not to say great activists haven’t performed really well and in some cases produced profound change. There are companies like Chesapeake Energy where there was rampant inside dealing that needed the accountability, integrity and discipline that Carl Icahn brought. But when do we need them and how much? When you have 6,000 funds and 6,000 public companies, you start running out of opportunities, and then you see them chasing down really healthy public companies like PepsiCo and Apple and Dupont. It’s a shame to see that happen.
Sonnenfeld: There’s a nascent movement talking about tenured voting. We’ve had classification of stock issues of course, having to do with ownership, and there is a variation of that where you would have more influence if you’re a longer-term holder of the stock. It’s a way of perhaps putting some controls in.
Another area that’s new that’s being discussed right now is to create different categories of institutional investors. You have some who will put investments into sectoral indices and are managing it pretty passively, and are often criticized by governance voices and advocates for not doing the homework themselves and delegating to conflicted or confused proxy advisory firms.
But the other side is that some of these institutional investors are really active to the point where they are raising anti-trust issues as they are taking large stakes in competitor firms. For example, you have some places like the airline industry where large owners are telling management don’t worry, just keep raising prices, and giving the same message to the competitors in which they have parallel ownership interests. It’s basically what amounts to collusion taking place through the owners—it’s a new area management has to watch out for.
Sonnenfeld: Say on Pay has been exaggerated. Although there are many good qualities of Dodd-Frank, some need review, and some provisions didn’t get to the worst of the abuse. The worst pay decisions were the ones happening upon hiring where executives were striking ridiculous deals, often being compensated for pay they wouldn’t haven’t gotten if they’d stayed on where they were. If they were a rival candidate for a job they didn’t get, they went to the market and wanted to be made good for retention options if they stayed at the firm. Why should the new firm pay for loyalty to the last firm? These types of compensation problems come from misadvised boards upon hiring, and that would never be up for public review by shareholders.
There’s also still not a lot of correspondence between compensation and performance. You have some companies where they tower over peers but are among the most modestly compensated, and they don’t push for it, while performance is off the charts.
Sonnenfeld: Wells Fargo is more representative of lingering problem – as is Theranos, even though Theranos was not a public company. In these scenarios, it’s possible the firms couldn’t have performed worse if there were no board of directors at all. I think it’s a situation where the board delegated due diligence to the great reputations of highly accomplished, noble professionals that were genuinely not corrupt, basically saying if this person thinks it’s ok, then it’s alright. And because of this, they were finding things out after the general public.
If you take Wells Fargo directors at their word, they were among the last to find about the problems. Following Los Angeles Times reports, the Los Angeles district attorney alerted management know what the problems were yet years past with the misconduct of the cover cross-selling continued. And even the regulators were not immediately on top of it. They believed the assurances that Wells Fargo had taken steps to fix the issue, and there’s basically six years of information the board should have had and they didn’t get. And it isn’t until they are watching the Senate testimony of their CEO when they decide to investigate.
The troubling part is that many such boards are filled with sophisticated honest directors yet they had a flawed group process on the board. They have everything you want in terms of the conventional wisdom regarding good governance structural criteria. Furthermore, in terms of independence from management, all the structural precursors that ISS or Glass Lewis would measure them against, and they just didn’t do the right thing.
Measuring good governance and what good governance is has no correspondence. We have structural predictors that really aren’t preventative or predictive.
Sonnenfeld: Measuring good governance and what good governance is has no correspondence. We have structural predictors that really aren’t preventative or predictive. We use them because they’re easy to measure.
You have to look at the process and the flow of information if they’re only meeting quarterly—and it’s hard to measure boards this way. There’s a big loss of memory in between meetings, and they see graphs in front of them every three months, and it’s always the same upward sweeping function regardless of the information shown. There’s time lost in between. Is the board in contact with itself on a much more frequent basis, even though there were no minutes shared, for continuity of knowledge? And secondly, does the board do their homework, and is there accountability to do their homework?
There’s a rush for all boards now to be under pressure from good governance advocates to remove every inside director from the board, except for the CEO. However, there is no listing requirement, no Sarbanes-Oxley requirement, no Dodd-Frank ruling, no legal or regulatory pressures to do so. But as a mythology developed around it and presumed values of independence, this was taken to an extreme, suffering the law of unintended consequences. Now you are completely relying on the voice of only one member of management, the CEO. And through the inelegance, ineloquence or integrity of someone, the board might miss something.
Advocates will respond to this and say, ‘Jeff you don’t understand, the management are still attending and sitting there.’ It’s not the same when other members of management parachute in and out for presentations in a blur of PowerPoint slides. They generally don’t have the allowed voice or the legitimate vote, they are there for dog and pony show presentation, and it seems impolite or impertinent to speak out. They’re certainly not going to grandstand at the expense of another colleague who is about to present. Some need to have an authentic board membership to have that value as an influence. Some advocates will tell us the CEO will have a dampening effect because that’s their boss even if they are on the board. If they are so intimidated about speaking truth to power with the CEO present, the company has a much bigger problem.
Sonnenfeld: Companies are getting out of the globalization thing now while the getting is good. There are a lot of free market economies that are getting infused by strong nationalist tendencies, which has created some confusion in the sort of globalist Davos-man mindset. And maybe they’re thinking they’re not quite sure in this post-Brexit world. Even before we started in the recent round of elections this last year around the world, we’re already about five years past the peak of globalization as far as direct investment, capital flows, trade of goods and services and immigrations flows. Things are becoming much more country-by-country specific, and it’s a different model. Many may be thinking they are not sure if they want to roll up the sleeves and figure out what is this new model is going to be.
Some of the recent CEO retirees are reasonably young as well. You also have the baby boomers who may be saying ‘I don’t want to go off to the senior circuit golfing just yet,’ but perhaps may try something other than a public company CEO and be really happy living that life. It’s maybe less remunerative but certainly less stressful than the constant scrutiny and critique. There is something very draining about being a public company CEO today—and sure, some of them are very well compensated, but many of them come to the conclusion it’s not worth it after a while.
Sonnenfeld: I often speak before audiences related to short and long-termism for private equity funds that host the CEOs of their portfolio companies. In the past, these CEOs were champing at the bit to be unleashed and unchained to go public. I really don’t hear a lot of eagerness like that anymore. A lot of it is due to the regulatory changes and the short termism. CEOs feel like it’s nice and warm as well as protected when they remain private, where they can talk candidly sharing problems and not feel like they’re making themselves vulnerable in dangerous ways. They can bounce ideas off of colleagues and other CEOs in these portfolio companies, and obtain good advice. The private equity fund was often anxious to liberate these assets and the CEO couldn’t wait to get released, but that’s not the feeling now, and we’re finding the opposite tension.