Lululemon: How Much "Discretion" Should a CEO Exercise?

This week Lululemon CEO Christine Day announced that she would be stepping down.   Her resignation comes just three months after the substantial product recall of yoga pants that led to the departure of the firm's Chief Product Officer.   On the day of Day's surprising announcement, Lululemon shares fell 17%.  Investors wondered if other bad news might be coming from the company that has been a terrific growth story over the past several years.  Day chose not to discuss the detailed reasons for her departure.  She told Fortune, "There is no difference in strategic vision for the company, we were and are aligned... My values include discretion. While I know everyone would like to know 'the reason' [I'm leaving] there are some things that should remain private because the truth is the good things outweighed the bad and by being respectful and grateful one can remember that."  

I find this incident very interesting.  It raises some difficult questions regarding the responsibilities of a public company CEO.   While I respect Day's right to privacy, I can't help but look at that stunning 17% drop in the firm's shares.  Do the shareholders deserve more information?  Does Day have a responsibility to disclose more information about her departure so as to prevent such a drop in the firm's shares?   It's hard to say, of course, given that we don't know the reasons.   However, it seems clear that investors were spooked by the surprise departure.   Investors simply do not like being left in the dark. 

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The Power of Independent Executives

Does a CEO bring in many new members on his or her top management team after taking charge at a company?  Or, does the CEO have a number of key holdovers from a previous administration?  Does this key factor in the composition of the top team make a difference?  New research by Augustin Landier, Julien Sauvagnat, David Sraer, and David Thesmar (published in the Review of Finance) suggests that having more "independent" executives on the senior team can have positive effects on decision making and financial performance.   The scholars define "independent" to mean executives not appointed by the current CEO.  

The scholars collected data on over 1,800 American companies over a 17 year period.  According to this article in Strategy and Business, here are their results: "Controlling for a variety of factors, they found that even the smallest uptick in the nonindependence of executives caused a decrease in the firm’s annual return on assets of between 0.5 and 0.8 percentage points."

What's going on here?  They argue that CEOs tend to hire people who think like they do. Moreover, executives hired by the current CEO may feel more beholden to that leader.   As a result, they may not be as willing to express dissenting opinions.   On the contrary, an executive hired by a previous CEO may be more willing to push back on high-stakes, potentially risky decisions.  The authors go on to argue that "independence" of senior executives may matter much more than the independence of board members, since the top team meets much more frequently and is much more directly responsible for strategic choices and performance at most large corporations. 

Additional research by these scholars shows that firms with fewer independent executives on the top team also are more likely to make acquisitions that destroy shareholder value.  Here is the key finding:  "Although acquisitions, on average, led to decreases in shareholder value for the companies in the study, firms with fewer independent top subordinates fared much worse, losing about 45 percent four years after they made an acquisition, almost triple the 16 percent loss posted by firms with more of those executives." 

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What Happens When The Former CEO Sticks Around?

Professors Tim Quigley (Lehigh) and Don Hambrick (Penn St.) have published a new study in Strategic Management Journal on the impact when a former CEO stays on as chair of the Board of Directors.  Their results prove quite interesting.  Quigley and Hambrick examined 181 successions in high technology firms.  What did they find?  When a predecessor sticks around as board chair, the firm tends to experience less strategic change.  Resources don't get re-allocated as much to new initiatives or sectors, divestitures are less likely to occur, and executive team members are not replaced as often.   The scholars also found that company financial performance doesn't change much.  As they wrote, "New CEOs who are restricted in their actions are correspondingly restricted in the degree to which they can alter performance."  When the predecessor finally does step down as chair of the board, then strategic and personnel changes begin to occur.  Moreover, performance begins to deviate from the earlier levels. 

Many people advocate separating the chair and the CEO roles in corporations.  These results suggest that we have to think carefully about who occupies those roles.  If the chair position is held by the current CEO's predecessor, we may have a chair who does more than monitor and control the CEO's actions.  That chair may actually restrict the CEO's actions so as to preserve the strategy, structure, and executive team that already had been in place prior to the succession.  In these cases, the governance process may actually inhibit very necessary strategic change at times.

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The HP Board: Another CEO Bites the Dust?

News reports indicate that the HP Board of Directors will fire CEO Leo Apotheker today and replace him with Meg Whitman.  Many people have criticized the Board heavily for its actions over the past few years... and rightfully so.  They have had their share of public fiascoes.  From my perspective, they deserve the most criticism for not having developed a talent pipeline and a succession plan that would have enabled them to promote an insider during at least one of these management changes.  From Fiorina to Whitman, the Board keeps going outside the firm to find a new CEO.  How can a firm such as HP constantly have to reach for an outsider?  That's a flawed talent strategy and poor governance.

On the positive side, I applaud the Board for not falling into the sunk cost trap with Apotheker.  They deserve some credit for acknowledging their mistake and cutting their losses.  Many Boards would have been reluctant to fire a CEO after such a short period of time, even if it became quite clear that things were not working out.  

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Does Your Board Conduct After-Action Reviews for Acquisitions?

I learned yesterday that the Board of Directors of one major industrial firm in the US does regular after-action reviews on major acquisitions.  What a great practice!  What does this systematic practice achieve? First and foremost, we all know that acquisition proposals and valuations involve many assumptions (about things such as the amount of synergies, the discount rate, etc.).  Moreover, the valuations turn out to be HIGHLY SENSITIVE for some of those assumptions.  We also know that many deals don't turn out as advertised.  The after-action reviews not only allow the firm to reflect on past actions and adapt plans moving forward.  They also provide a measure of accountability that is desperately needed when it comes to pitching deals and capital investments.  Because managers know that the Board will revisit the deal pitch in the future, they will tend to be more "intellectually honest" when it comes to their assumptions about synergies and the like.  Hopefully, that accuracy will lead to better deals and more appropriate valuations.

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