By Lewis N. Rose
Much had been said leading up to the resignation yesterday of the CEO of Canadian Pacific Railway Limited (CP-T) and about the rest of the 16-member Board of Directors of the beleaguered railway. CP Rail’s chief executive Fred Green abruptly resigned two hours ahead of the AGM Thursday morning. He and five other directors, including the company’s chairman, John Cleghorn, said they were not seeking re-election to the Board of Directors. Green served CP for 34 years.
The Globe & Mail wrote of the resignations, “The announcement is an unexpected and dramatic last twist in a four month proxy battle that has pitted New York Activist Bill Ackman against a Board of Directors stocked with leading Canadian business titans. The departure of so many senior officers and directors ranks as the biggest proxy upset ever seen in corporate Canada.”
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Should the Board of Directors of CP have fired its CEO earlier?
And, what lessons can other boards learn from CP?
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If you’ve been following CP, its stock has fluctuated for years. It rebounded from a five-year low of $32.99 in March 2009 to $67.56 two years later. But then the stock plummeted again to $48.59 in September 2011 – a 26% drop, from which it climbed again. Analysts and others have attributed this pricing yo-yo to a number of factors – not the least of which is management, in particular, the CEO, and the effectiveness of its Board of Directors.
The intention is not to point fingers at CP; rather, CP is a timely illustration of the intricate relationship between Boards of Directors and CEOs – in particular, when should a board fire a CEO?
There’s a maxim: Bad news doesn’t get better with age. And Boards often wait until too much damage is done to shareholder value before acting. Or they wait too long until someone else forces their hand and makes the decision for them.
To answer the question: “When should a Board fire its CEO?”, one has to understand a Board’s responsibilities and the five red flags that corporate directors should recognize and act upon before it is too late. No one factor alone may be cause for termination. The existence of multiple red flags, however, should cause a Board to seriously consider the future of its chief executive.
1. When the CEO avoids accountability…it’s time to fire the CEO.
Chairman Cleghorn was right to dismiss the claims of Pershing Square in public, as he and the Board had chosen to rally around Green. They bet on their horse. They appeared to have confidence in Green. But, should the Board have fired Green sooner? Bill Ackman certainly believes so.
In the Summary to the 2011 Annual Report, the company blames “significant disruptions” on “unusually severe winter weather and the impact of subsequent flooding.” The company in that same year issued profit warnings citing challenges such as the rising cost of diesel fuel, choppy freight volumes, increased expenses, and the weather again, including avalanches. Green was quoted in a March 21 profit warning release, stating that “multiple severe weather events” resulted in “slower train speeds…reduced productivity and asset velocity thereby constraining network capacity and limiting our ability to meet market demands.”
A CEO’s job is to act and react swiftly and decisively – whether the challenges are internal or external – and keep the company “on-track”. No excuses.
Blaming the weather will only get you so far with investors. Behind the scenes, a Board has to ask the tough questions, expect accountability and demand immediate action and tangible results, or else replace the person who is leading the company to protect shareholder value and ensure the viability of the company.
When major customers, analysts, investors and others voice their dissatisfaction with the service levels of a company and the CEO dismisses, ignores or is ineffectual in the response to their concerns or problems, it’s time to reconsider the leadership of the company.
2. When the CEO chooses “hope” as a strategy…it’s time to fire the CEO.
When a CEO starts grasping for salvation, it’s time to fire the CEO.
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This is the point at which smart directors should be speaking to advisors about the benefits of hiring an interim CEO.
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Management expert Jim Collins has observed that when leaders start introducing new and sometimes out of left-field ideas such as new product lines, new technologies, new strategies, entirely new geographic or capital expansions – they are rationalizing the situation and bargaining, hoping to postpone the inevitable.
This is the point at which smart directors should be speaking to advisors about the benefits of hiring an interim CEO, focusing on radical strategic and operational change, and considering a new chief executive to lead the company through a turnaround.
3. When a number of key executives depart the company in a short period of time…it’s time to fire the CEO.
It’s been said that a team is only as good as its leader. This is true. But, a team performs only as well as the executives on that team, and it is the CEO’s responsibility to select and motivate them. When senior management changes, sometimes repeatedly, with little effect on earnings, it’s time to look at the person at the top.
The senior officers of CP, for example, numbered 10 people in 2008 (excluding Green and Cleghorn). By the following year, the group had grown to 14 and in 2010 it shrunk to 12. By 2011, the group had contracted back to 10.
A closer look shows that after a profit plunge in 2008, CP appointed a new senior management position dedicated to driving out inefficiencies. Brock Winter, its VP of Operations was promoted to the new role of trimming fat from the railroad’s operation. Green quipped that Winter’s new title would be “senior vice-president of reporting to me.” Winter began a review of the company’s operations in that year. By 2011, he was gone.
Also in 2008, CP appointed Kathryn McQuade as CFO, replacing Mike Lambert who resigned from the country's second-largest railroad to pursue “other interests.” Lambert had held the role for only two years.
In 2011, three key executives from the previous year were gone: Edmond Harris the EVP & COO (who retired), Raymond Foot the VP Sales, and Brock Winter the SVP of Engineering and Mechanical, the efficiency expert. In March of this year, CP appointed Mike Fanczak as the new EVP and COO, replacing Harris. Winter was not replaced in the efficiency role.
All this executive shuffling could be excused if it resulted in sustained improved performance and earnings. If not, it’s time to look at the leader of the company.
4. When the CEO denies or dismisses the facts…it’s time to fire the CEO.
When your benchmark competitors are overtaking you in size or innovation, or, in the case of CP, operational effectiveness, and your CEO is in denial or dismisses these real competitive threats, a Board must take a hard look at the chief executive.
Another Canadian household name, Research In Motion (RIM) (RIMM-Q) (RIM-T), long touted itself a “leader in wireless innovation.” Chief competitor Apple (AAPL-Q), on the other hand, says that it “designs Macs, the best personal computers in the world...leads the digital music revolution…has reinvented the mobile phone...and is defining the future of mobile media and computing devices.” RIM might argue its leadership in innovation, but consumers don’t want self-proclaimed assertions of technological leadership. They want iPods, iPads, Macs, iTunes and everything that Apple can produce, as fast as they can produce it. Consumers ultimately decided the fate of RIM’s co-CEOs…but should the Board have acted first—before its stock melted down?
CP, in a May 2011 press release, claimed “it is clear that CP has the right plan, the right management team and the right Board that is generating substantial and sustained value for shareholders.”
The facts speak otherwise. In simple terms, CP’s operating ratio (a key indicator of productivity that measures costs as a percentage of revenue) was 81.3% last year. Its newly stated goal, after prodding from Pershing Square became 70% to 72% in 2014 and 68.5% to 70.5% in 2016. By comparison, CN’s current operating ratio is 66.2%, a level CP does not even aspire to in 4 years time!
Terrain, location, legacy routes and other excuses are insufficient justification for the shortfall in performance compared to the closest competitor. What specific, measurable plans are (were) in place to significantly improve CP’s operating ratio?
Interestingly, since Pershing Square’s interest in CP, the company share price has increased by approximately 30%. Time will tell if the new Pershing Square nominated Board and CEO will continue to improve shareholder value, but when a stock plummets and the CEO is unable to course-correct, its time to look to alternatives.
5. When a Board loses confidence in the CEO…it’s time to fire the CEO.
The primary responsibility of a Board is the selection of the CEO and the oversight of company strategy. A Board must continually assess the performance of its CEO. Far too often, ongoing attention to critically benchmarking CEO performance is overlooked. Board members must regularly and frequently ask themselves: “Do I have confidence in the CEO?” If the answer is “no”, or even if it is “maybe not,” it is time to consider a change.
The families and friends of the lives lost in the Space Shuttle Challenger disaster in 1986 know only too well that there is a moment in time, in an organization’s life, called “the Challenger moment.” The Space Shuttle broke apart and disintegrated over the Atlantic Ocean after an O-ring seal in a rocket booster failed to deploy as intended at a critical moment. The “Challenger moment” for a company is that seminal moment when a Director, or the Board as a whole, knows that a mission-critical component (like a CEO), will not function under pressure as intended and that the company is in dire risk of crashing. At this moment in time, when the Board loses confidence in their CEO, it is the responsibility of a Board to act.
There are always better alternatives to maintaining the status quo. “The devil we know is better then the devil we don’t” is not an option. Seek professional advice.
When a Board does not or will not act in the best interests of the shareholders, the Board becomes the company’s greatest liability. Just ask the Board of CP.
When a Board does not or will not act in the best interests of the shareholders, the Board becomes the company’s greatest liability. Just ask the Board of CP.
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Lewis N. Rose, CA, ICD.D, is the leader of the Business Performance Optimization™ and Turnaround Management practice at Farber Financial Group in Toronto. Lewis was the President of the Grocery Division, Chief Financial Officer and a Board Director of Maple Leaf Foods Inc., the President and a Director of Alliance Atlantis Communications Inc., and the CEO and a Director of global software company Cryptologic Inc. Lewis advises both struggling and healthy companies on practical processes to improve performance and profitability. The views expressed in this article are those of the author and do not necessarily represent the views of Farber Financial Group.