Debating CEO duality within the company

I - Introduction

Corporate governance is a system by which direction and performance of the company is entrusted to the directors. It is based on maximising shareholders worth. Efficient governance confines its directors from misuse of their authority. Such participants are comprised of the chief executive officer and the chairman, who reports directly to the board (Monks & Minow, 2001). The differences of the two posts will be highlighted later with the emphasis on the dangers imposed when there is a breach in separation of power accompanied by evidence from various research and case studies.

II - Scope and Delimitations

The paper will briefly explain the separation roles between chairman and chief executive presenting both sides of arguments regarding the dangers of concentration of power giving case studies as evidence. Emphasis would be given to different codes implemented towards prevention of fraud caused by it. The last part would discuss the opinion on the argument and insights on which side the author is on. For simplicity purposes, it would only discuss the UK and US implications.

III - Discussion

At most of 93% of US companies, the chief executive also performs as the chairman. Alternatively, England only has a third of the listed companies holding both posts (Monks & Minow, 2001). Although it is proven hard to distinguish between the actual limit as to which the two roles should conform to, sometimes overlapping is unavoidable This could be attributed to the fact that US codes of conduct presents severe punishments in comparison to that of the UK so they are more confident on applying such practices. Codes of practices between US and UK, varies (see Appendix). The latter imposes mere guidelines with less emphasis on consequences compared to the former.

The report on Code of Best Practice was published in 1992 in the UK. It constitutes to the „recommendations‟ put forward for the board, CEO and investors. On the same note, the Combined Code endorsed new provisions on „self-regulation‟ during the same period. It was intended more of a guideline as it clearly allows flexibility to companies.

„‟ to be followed by individuals and companies in the light of their own particular circumstances. They are responsible for ensuring that their actions meet the spirit of the code and in interpreting it, they should give precedence to substance over form.‟‟

The above statement alone is enough to deduce that the Combined Code is optional. Oddly enough compliance will not be mandatory but disclosure is. Managers are required to narrate how their company applied each section of the Code. In the event when a company fails to conform, then a justification is required as to why it occurred (Cadbury, 2002). This „comply or explain‟ attitude seeks to promote „good‟ corporate governance within UK. Although it should be noted that this approach is not followed in a universal level because some countries prefer to conform to a more officially binding agreement. The US is a good example of such country (Solomon, 2007).

As mentioned above there are major differences regarding practices between UK and US. The latter employs far more strict rules, known to be the Sarbanes-Oxley Act (see Appendix), the American counterpart to Combined Code which was initially a reaction to Enron (see p.10). Sarbox¹, published in 2004, enforced a mandatory report on effectiveness of internal control systems. It also required both CEO‟s and Chief Executive to sign a certification vouching for the effectiveness and reliability of accounts to prevent fraud, which are given heavy consequences. This is far more binding compared to that of UK, because it also acts as company law.

The question still lies as to which one is proven more effective: the milder approach of the UK or the heavily regulated US. It would still be observed in the long term. Although there is a general belief that a voluntary approach would give individuals to muster issues at hand, an additional force would also encourage them to go to the right direction (Solomon, 2007). Which of the two will be effective is still up for debate, although if a code is purely voluntary, then it will be followed by some and ignored by most.

Section 3.1 - The Debate

This section will present both sides of argument on today‟s standing on having two positions held by the same person. It should be noted that the clear definition between the two posts was made possible because of the above decrees.

Pro-separation:

Some companies in the FTSE 100 combined the two positions, during this time there was still no support as to efficiency in separation of roles. Later on, the exposure to concentration of power without an independent persona was clearly proven after Maxwell collapsed (see p. 11). This was precisely why the codes were put into place (Cadbury, 2002).

The recent collapse of large companies can be blamed to the uneven spread of power within and by the time the directors knew what is happening, it was already too late. Such disasters could have been avoided (Rees & Sheikh, 1995).

Chairman and Chief executive: a distinction of roles

- Chairman

They are entrusted by the Board to exercise delegated duties and draw the best possible route towards the Board‟s goals. A more general view is that chairmen main duty is to provide leadership of whatever means to optimize their Board‟s wellbeing. He is also expected to communicate the company‟s objective to stakeholders. Given that the Board changes through time, the chairman‟s role will vary accordingly (Cadbury, 2002).

- Chief Executive:

The ones responsible towards putting forward strategic proposal that can be undertaken give the Board‟s approval (Cadbury, 2002).

Given such definitions, it is only right to assume that a single person can‟t conform to both positions and perform exceptionally well without bias or temptation towards their own gains. General bodies emphasize on the separation of the two roles, the Committee on Financial Aspects stressed:

„‟ given the importance of the chairman‟s role, it should be separate from that of the chief executive. If the two roles are combined, in one person, it represents a considerable concentration of power. We recommend therefore that there should be clearly accepted division of responsibilities... which will ensure the balance of power and authority „‟ (Cadbury, 2002:104).

Therefore, it is required to have a clear division of responsibilities in such situation, if ever the roles are combined, then there is a need for an unbiased and independent constituent to be present (Cadbury, 2002). According to the Combined Code (1998:14), a decision to join the two posts should be publicly justified; it goes on and says that the CEO and Chief should not be occupied by the same individual.

There is a logic reason behind all this, firstly, different range of abilities and experience would be required to fill in the two posts as each one requires different degree of expertise. For example, the leadership of the Board (Chairman) differs from actually implementing decisions (Chief Executive). Secondly, the chairman is required to choose the board team, a responsibility that requires commitment and careful consideration without bias. Lastly, the concentration of power will make it difficult for the board to carry out its monitoring function (Cadbury, 2002). We discuss these reasons in details:

Power Concentration:

Shareholder‟s hope is that the appointed persons would act on their behalf towards optimality. This safeguard will be weakened when the chairman of the board is also the chief who controls the business. Such situation gives a „formidable combination‟ when held by one person which would prove disastrous when we do not have a capable board (Cadbury, 2002). As the CEO‟s focus is on running the business and the chairman‟s alliance with the board, the combination of which will prove to be disastrous in corrupt hands.

Succession of position:

The chairman would normally take the lead on appointing a new chief. Given this, they could choose someone who can be influenced easily; hence, one person would occupy both positions even when there are two people appointed because of the influence the former would have from the latter (Cadbury, 2002). On a situation wherein a retiring CEO should occupy the chairman post, is clearly discouraged by the Combined code. It goes on saying that if such situation is unavoidable, then the board should take the shareholders point of view, giving a reasonable explanation as to why such appointment should be tolerated.

On the same note, there would also be a lack of independence when this happens, which can cause tension between the incoming CEO if the retired one is still in the company. Furthermore, instead of running the board, the retired CEO would get involved in the company itself (Mallin, 2007).

Biased Outlook:

The Board exist to monitor the management. Thus, when one person is the CEO and the chairman then the performance of the CEO would be evaluated by himself. Hence, to optimize shareholder‟s interest, it is an advantage to have separation of roles. It would then lead to a more objective evaluation of the CEO. Although there has not been much studies done regarding this, a few researchers findings supports that companies with separate roles outperformed those who combined them (Monks & Minow, 2001).

Adversaries of duality² claimed that it limits the board from monitoring performance which will prove to be a disadvantage during evaluation periods. Directors will also shy away from stating the real standing of the firm, which will affect the efficient management and controls in place (Baliga & Moyer, 1996).

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¹ A common name for Sarbanes-Oxley Act

² A situation where both CEO and Chairman post are occupied by a single individual.