Who controls the chief exec?

When the collapse of Enron in 2001 was followed by that of WorldCom and a string of other major bankruptcies and scandals around the globe, it became apparent that, worldwide, something was rotten at the core of corporate life. While aggressive accounting policies and earnings management were undoubtedly part of the story, the real reasons for the downfall of household names and former stock market favourites lie elsewhere.

In many cases, there was an overly dominant chief executive (Tanzi at Parmalat, van der Hoeven at Ahold and Kozlowski at Tyco, among others), whose own greed, hubris and personal ambition brought about the failure.

There is a fine line between the chief executive as hero and the chief executive as villain.

While some like Jack Welsh are highly successful and much admired, Percy Barnavik, supposedly Europe's equivalent, nearly brought ABB to destruction.

In the UK, Arnold Weinstock created in General Electric an industrial giant with large cash reserves, only to see his successor, George Simpson, destroy 99.5 per cent of shareholder value in a short space of time.

How can this happen? Ineffective boards are the main culprit.

The Scots have a saying that "the fish rots from the head", and so it is with companies. The prime function of the board is to provide oversight and guidance, to monitor the chief executive's and senior management's actions, and to protect the interests of the shareholders.

As part of this, they must be prepared to challenge and hold the chief executive accountable and remove him if he fails to discharge his duties adequately.

This they are less likely to do if they are financially beholden to the company or are family members or cronies. At Tyco, for example, some of the "independent" directors depended directly on the company for the bulk of their income, while at WorldCom, many of the directors owed their wealth to Bernie Ebbers, the now disgraced and jailed chief executive.

Similarly, at Parmalat, the board was comprised mainly of family or friends. Such boards are unlikely to be effective.

An essential characteristic of a non-executive director must be independence of mind, which needs to be coupled with a willingness to walk away if dissatisfied.

Stewart Hamilton is Professor of Accounting and Finance, and Dean, Finance and Administration at IMD.

This is the first in a  series. Next, we will discuss the dominant CEO.

At a glance

-- The board must be prepared to challenge and hold the chief executive accountable. 

-- It must also be willing to remove him if he fails to discharge his duties adequately or works against company interests.