Why boards fail at succession planning

The heads of Tata Sons and HDFC Bank are due to depart soon. The boards are looking for a successor. Good succession planning means a tentative list of successors should be available long before an incumbent's departure.

Succession planning is poor because CEOs don't want to leave. And boards don't have it in them to challenge the incumbent on this matter, as on any other matter.

We will get sound succession planning when boards cease to be dysfunctional. That requires an overhaul of how board directors are selected in the first place.

More in my column, Why boards fail at succession planning.

FINGER ON THE PULSE
T T RAM MOHAN

Why boards fail at succession planning

You have done your job, we are grateful, but we feel the time has come for you to make way for somebody else. 

If only boards of directors had it in them to deliver the simple message to the chief executive officer — and in time — the world would be a different place.  

At Tata Sons, N Chandrasekaran was at the helm for over nine years. Going by Tata Group’s policy, he had two more years to go for his retirement. Yet, according to media reports, all board members except Noel Tata favoured another term of five years for him.  

At HDFC Bank, Sashidhar Jagdishan, who had served as managing director for over five years, declared just a few months ago that he was raring to go for another term. Clearly, he had the backing of the board then. Things changed dramatically after Rajiv Kumar took over as the bank’s chairman.  Mr Jagdishan announced last month that he would not offer himself for reappointment.

One is not getting into the merits of what transpired. The point here is that boards seem congenitally incapable of telling an incumbent that it’s time for them to move on. 

At Tata Sons, it was left to a scion of the house of Tata to overrule the other directors. At HDFC Bank, it required a former IAS officer and Constitutional authority to take a position very different from that of the board until then. Board members, other than the promoter, seem incapable of asserting themselves in such a fashion — not just in India but the world over. 

As a result, professionally managed boards seldom ask an incumbent to leave. The incumbents carry on until they reach their age limit or term limit — or until disaster strikes. Succession planning at most boards is a farce. The only succession planning that happens is done by the CEO — and it is all about ensuring that no successor emerges. 

Boards fail at succession planning for the same reason that they are largely dysfunctional and ineffectual: They lack the ability to seriously question and challenge the CEO (or executive chairman). The result is underperformance at several places — often hidden while the incumbent is around — and disaster at some, after a star CEO leaves. 

One notable disaster was the failure of the Royal Bank of Scotland in 2008, the biggest in the history of banking. The 17-member board did not have it in itself to challenge the decision of the CEO, then a celebrated figure, to go in for the acquisition of ABN Amro. The decision led inexorably to the implosion of the bank. After the Global Financial Crisis of 2007, it turned out that the story was not very different at the boards of many of the biggest banks and investment banks in the world.

One of the best diagnoses of the underlying problems of governance came, not from a panel of finance or management experts, but from the UK Parliamentary Commission on Banking Standards  , mostly comprising career politicians. The bane of most boards, the Committee noted, was that there was too much “collegiality” on the board. One veteran corporate executive caught the spirit of boards beautifully in his testimony to the Committee:

You have dinner with people the night before and one of them says, “Do you want to borrow my house in Tuscany and the rest of it?” It doesn’t happen to me, but you know what it mean(s). Then the next day at the board meeting, do you say to them, “Look, I have three questions for you and I’m not going to stop until you've answered all three of them properly”? People don’t do that.

How true! It’s awkward to pose tough questions to  management. Nobody likes to strike a jarring note in the proceedings. And that has partly to do with how board members are selected.

The non-executive chairman has a key role in selecting board members. Behind the scenes, the CEO has an important input in the selection of board members and a key role in the selection of the chairman himself. The individuals the chairman and the CEO select for the board are those with whom they have been on back-slapping terms at the clubs where they hang around. 

Board members are well remunerated — the median pay at the top 50 companies in India is ~70 lakh. To challenge the CEO is to risk non-renewal of one’s term and possible ostracism from boards in general.  

The UK Parliamentary Commission proposed some remedies. One was that the Nominations and Remuneration Committee or NRC be chaired by a senior independent director, not the chairman. Another was advertising independent director positions so that a wide enough pool was available. Neither proposal has taken off because it’s not clear how they improve matters.

If we want directors to exercise their independence, we need to tackle the problem of self-selecting boards, of which the CEO is a member and influencer. The process at public-sector enterprises in India is instructive. The concerned ministry appoints independent directors through the Bureau of Public Enterprises and without reference to the chairman/CEO. Independent directors are not beholden to management for their appointment. Independent directors are required to submit a note annually to the BPE outlining key issues at the company on whose board they sit. 

This principle must be applied to the private sector as well. One way is to have at least some independent directors nominated by key stakeholders, such as institutional shareholders, institutional depositors, large lenders and retail shareholders. The NRC must not select all the independent directors. A less intrusive alternative is to have major stakeholders generate candidates for the NRC to choose from.  Involving multiple stakeholders in board selection is the key to creating true diversity and independence in the boardroom.

Board membership must be seen as serious work, not as providing opportunities for a lunch outing. The UK Parliamentary Commission referred to the fact that independent directors at banks are required to devote 30-36 days in a year to their boards. The chairman’s position, it said, must be seen virtually as a full-time one. The chairman of a large bank “should usually not hold any other large commercial non-executive, let alone executive, positions.”

These proposals are not the end of the matter. But they are a good starting point. We need radical reform in the boardroom, not the tinkering that has failed to alter the reality of zombie boards. 

 

Chairman's exit at Coforge Ltd is truly extraordinary

Some months ago, the world was shocked when the Chairman of HDFC Bank chose to resign from the board on what he regarded as point of principle.

What has happened at Coforge Ltd (formerly NIIT) is quite extraordinary. It is the company -or the board- that has caused the resignation of the Chairman, OP Bhatt, on a point of principle.

It appears that Mr Bhatt resigned following an internal audit of the board evaluation process. Boards are required to conduct an annual evaluation of board members. This typically involves an outside agency seeking the view of board members on their peers and producing a rating. The ratings and the general assessment of the agency are presented, first, to the NRC of the board and then the whole board.

The internal audit showed that only Mr Bhatt and the Chairman of the NRC had access to the full rating report. In  making a presentation to the board, they concealed material facts, including the fact that Mr Bhatt had received the lowest rating.

Now, getting the lowest rating in itself is not a big problem. If the others get a score of 8 and the Chairman gets, say, 6 or 7, it doesn't look good but boards can live with it. Even if the Chairman's rating is much lower than that of the others, it's a problem only if it persists year after yar.

There are two facts that should make people sit up. One, that an internal audit of the board evaluation process was conducted at all. Such an audit is unusual or even unknown. Did the internal audit team propose it ? Or was it commissioned by the Audit Committee of the board? Why was it undertaken in the first place? Was there an apprehension that  all was not well with the board evaluation findings?

Secondly, the fact that Mr Bhatt's peers on the board apparently gave him a lower rating than they gave others. Typically, the Chairman gets high ratings and even  the highest from other board members. Board members are keen to have their terms renewed and would not like to give a low rating to the Chairman. The ratings are supposed to be confidential but everybody knows that confidentiality can be easily breached in some matters.

Mr Bhatt was due to leave the board in any case end  April 2027 as he had failed secure the votes required for another term. The internal audit findings have merely hastened his departure.

In effect, a company Chairman has had to leave on a point of principle. And the rest of the board has been instrumental in bringing about this outcome. Two cheers for the triumph of corporate governance!

President can fire anybody at 'independent' agencies but the Fed is different: US Supreme Court

The US Supreme Court ruled that those in leadership positions at various independent agencies including the Federal Trade Commission serve at the pleasure of the US President. The President can, therefore, remove them at will.

Not so the members of the Board of Governors of the US Federal Reserve. They can be removed only for "cause" meaning the President must prove that they have done something that deserves removal. The court did not define what "cause" meant but indicated the threshold would have to pretty high. 

Why the different treatment?

Well, the Supreme Court contends that the many independent agencies are all part of the executive- they exist to enforce various statutes. As a result, they come under the authority of the President. And the President has the right to decide who he wants to work with. Period.

As for the Fed, it has been historically conceived as an agency that is independent of the executive. Without such independence, it cannot execute its mandate effectively. 

President Trump had fired Governor Lisa Cook on charges of  mortgage fraud. The US Supreme Court is saying those charges have to be proved and Cook must have the right to defend herself before she can  be removed.

In short, there is only one truly independent agency and that is the US Federal Reserve. The Fed is not an extended arm of the Treasury. All the other agencies cannot claim such independence. 

How open is the Strait of Hormuz?

We know one thing for sure about the MoU that the US and Iran have signed.

The US wants the Strait of Hormuz opened as quickly and fully as possible. If that happens, oil prices keep falling for a while and governments get a chance to replenish their strategic reserves. To keep oil flowing at the maximum rate in the 60 day negotiation period is what the US wants. 

At the end of 60 days, there is room for an extension. The US administration will keep talking so that oil prices are under control in the run up to the mid-term elections to the US Congress in November. 

Iran would like oil to flow as slowly as possible. The greater the pain to the global economy, the greater is Iran's leverage. Moreover, within the 60 day period Iran cannot charge tolls or fees. After 60 days, it feels it has the right to charge fees towards services rendered to the ships.

So the incentives for both sides are clear enough.

What is not clear is how far the Strait has opened. The priority is to get the estimated 1000 ships stranded during the conflict out at the earliest. The sailors on these ships have had a terrible time in the past 100 days. The middle portion of the Strait needs to be demined and that will take time. Ships can pass through routes close to Oman or those close to Iran. 

The International Maritime Organisation (IMO) has created a route close to Oman through which, they say, tankers stranded during the conflict are passing at a furious pace. Iran objects, saying all ships must pass only through its own designated routes.

Just how much is going through?

In normal times, 135 ships transit the Strait each day. Military analyst Larry Johnson provides data to show that on June 23, only 7-13 ships transited the Strait. On June 24, according to FT, an estimated 41 ships transited, 15 via the Iran route and 26 via the Oman route. That is a huge jump. 

And that jump is precisely what provoked the Iran missile attack yesterday on a ship using the Oman route. The IMO has since suspended its evacuation plan. So the Strait appears to be closed again for practical purposes. 

In return for opening the Hormuz, Iran gets some of its assets released and it gets a waiver of oil sanctions for 60 days. But it loses it leverage over the global economy and the US economy.  

The ceasefire period thus seems to be working to the advantage of the US. The Oman route is spoiling the show for Iran. Iran cannot allow a situation in which it does not control the flow of traffic in the Strait of Hormuz. Hence the Iranian attack on a tanker in the Oman area.  

Will the US construe that as a violation of the MoU? And how will it react if it does?

 

Begone, India's oppressive oldies!

The Economist has a vitriolic piece on how the old in India- that is, anybody who has crossed middle age- oppress the young. It calls them 'uncles'. The piece is worth quoting at length.

An 'uncle' is easily identified:

A dead giveaway is the phrase “let me tell you”. It is inevitably followed by a thesis on what really ails the country. Another hallmark is unsolicited advice, veering from career counselling (“only girls study literature”) to dietary prescriptions (“eat five soaked almonds to build immunity”). But the defining feature of the Indian uncle is his bottomless disdain for the youth of today: feckless phone-addled softies, the lot of them. They need discipline.

How true! Condescension, sanctimoniousness, a know-all air- these are the attributes of the Indian uncle. 

I would add one more giveaway: the constant use of the word 'values'. ("These youngsters don't have any values"). It doesn't occur to them to ask themselves what their own values are.

What they have produced, in pursuit of their so-called values, is a highly repressive culture:

Thus does the country produce such infantilising policies as Gujarat’s plan to require parental sign-off before adult couples can legally marry. Or Goa’s mandatory uniforms for adult students at its public colleges. Or Delhi, where adults can vote at 18 and marry at 21 but cannot enjoy a beer until they are 25.

Thus too are Indians subject to the pronouncements of learned higher-court judges, over 85% of whom are middle-aged men. The Calcutta High Court in 2023 advised young women to “control sexual urges” rather than “enjoy the sexual pleasure of hardly two minutes”. A judge in Karnataka observed that it would be “better for the nation” if social-media access was restricted until the age of 18—or even 21. And on May 15th the chief justice of the Supreme Court lamented that “There are youngsters like cockroaches, they don’t get any employment, they don’t have any place in profession”.

I often wonder whether India's lack of innovation, its mediocrity in most fields is the result of the spirits of the young being repressed all the time.

Then, they are forever exhorting the young to work hard, which is another way of saying 'don't enjoy your life too much'. And the young slog as nobody does in the developed world:

They go to school or university. They attend extra coaching classes. And when they get home they study some more. In May more than 2m candidates sat a national exam for around 130,000 medical-college seats. Nine days later the testing agency invalidated their efforts because papers had leaked. The same month 1.8m pupils received the results of class 12 exams—the single most important test in Indian schooling. Those, too, were full of errors. A parliamentary committee is investigating both fiascos. The uncles will grade the uncles.

The behaviour of uncles is not confined to family. It extends to the workplace. And, most regrettably, the same attitude permeates academia. 

In the name of instilling discipline, teachers draw up rules that would be regarded as crazy in the western world. They also expect unquestioning obedience and  constant 'sirring'. Savage punishment is meted out for even minor transgressions, such as copying in a five-mark quiz.

The young are growing into a relatively more prosperous and freer world than the ones the uncles themselves experienced. That gets to the uncles. There is nothing to the oppression the uncles practice other than malice and envy. 

More power to the young as they stand up to the uncles!

Ouster of BP Chairman: does anybody know how it happened?

I had a post yesterday on the ouster of the BP Chairman, Albert Manifold.

I repeat: it's an extraordinary event. No violation of the law. No violation of regulations. No financial misconduct. Removed only because his behaviour was too aggressive to be acceptable- the expression used is "bullying".

I say it's extraordinary because bullying by those at the top has almost become normalised in most places- and not just in the corporate world. But, remember, in Britain, a deputy PM (Dominic Raab), had to quit in 2023 on similar grounds. PM Rishi Sunak removed him after an investigation showed that, in an earlier avatar as Foreign Secretary, Raab had been abusive towards staff members. 

That does not mean that the UK is free from bullying. However, even if there is the odd instance of somebody being penalised for bullying, two cheers for the same! There is hope for civilisation.

I find the reporting on the event, while extensive, weak on detail. 

How exactly did the removal happen? Typically, it is the Chairman who convenes a board meeting and approves the agenda with the help of the Company Secretary. In this instance, the other directors seem to have met without the knowledge of the Chairman and passed a resolution for his removal. 

An FT report hints at the role of a Senior Independent Director in the whole affair:

For UK governance aficionados, the affair shows the power of the senior independent director when things go wrong in the boardroom.

I infer that the Senior Independent Director is empowered to convene a meeting of the board and act against the Chairman. Does the removal of a Chairman have to be ratified by shareholders? Doesn't look like it.

The board of BP seems to have acted on the basis of whistle-blower complaints about the Chairman. That too is extraordinary. The Chairman and the board receive board complaints about management. But complaints about the Chairman going to other board members is not something one has heard of.

I doubt that what happened at BP is possible in Indian board rooms. The Chairman very often is the promoter of the company even if he is in a non-executive position. It is inconceivable that the other board members can or will act against him. 

But what if the Chairman is not a promoter, just another independent director? Can he be removed by the rest of the board?  Again, I doubt very much.

I whole-heartedly welcome the idea of removing somebody at the top on grounds of bullying or aggressive behaviour. I also like the idea of removing a Chairman who behaves badly. 

Can we hope that Company Law will be suitably modified so that BP-like actions become possible here?

BP Chairman ouster: No bullying please, we are British

The board of oil major BP has removed its Chairman, Albert Manifold, reportedly because he was given to bullying and "shouty" behaviour.  

That is  not what the sanitised text of the board's statement said. The board said his removal, which was unanimous, "...follows serious concerns raised to the board related to important governance standards, oversight and conduct."

An FT report presented a more unsanitised version of what transpired:

Manifold, who was appointed BP chair less than a year ago, was viewed by other BP directors as too aggressive, according to other people familiar with discussions inside the company. Several colleagues saw the level of control he exerted as more akin to that of an executive chair, these people claimed. They alleged Manifold at times spoke down to senior members of staff, both in one-to-one encounters as well as in larger meetings. One person familiar with BP claimed that describing Manifold as “shouty” was “understating it”, adding: “They thought they were hiring a tough change agent, they didn’t think they were hiring a bully.”

It is a tribute to British corporate culture that a Chairman can be removed not for want of performance or for malfeasance but simply because he had behaved badly. 

If the BP board's criterion were to be applied in India, I suspect a significant chunk of corporate India would be decapitated.

 

Rupee slide: is there a case for a rate hike?

 The fall in the exchange rate of the rupee is the biggest concern at the moment. 

The current account deficit is expected to widen to around 2 per cent of gdp in the wake of the surge in oil prices. That is not a big deal by historical standards. We were comfortable with a CAD of at least up to 2.5 per cent of gdp, meaning we could find enough sources of foreign capital to finance the deficit.

Not so today. FII flows have been hugely negative and net FDI too has been negative. We could get public sector companies to raise foreign borrowings with a commitment from the government to cover exchange rate risk. We could resort to NRI foreign currency deposits. And the like.

But why not just raise the policy rate?

Former MPC member, Janak Raj, writing in BS, argues that we should not. He gives his reasons.

Empirical evidence suggests that defending an exchange rate with interest rates rarely works except in a full-blown panic, and even then, it requires very sharp hikes.

In theory, that's not true. Any rate hike, by raising the differential with respect to rates abroad, must cause the rupee to strengthen. Maybe not appreciably. But it should certainly help halt the relentless slide in the rupee. 

Further, he argues: 

The policy rate is an instrument for inflation control. Since exchange rate depreciation impacts inflation, the policy rate should be raised only if inflation breaches the target. That is, the MPC should only be concerned with exchange rate pass-through to inflation. 

By implication, the MPC should react only if the inflation rate exceeds the upper band of 6 per cent. At present, inflation is projected to be around 5 per cent.

The problem is that, if the MPC were to wait until the upper band is breached, the fall in the rupee would have fallen far too far for comfort. The momentum of rupee depreciation may become irreversible. Every fall in the exchange rate of the rupee has its implications for the fiscal deficit, given the reluctance to pass on prices fully to the consumer. 

So, with inflation projected to be in the region of 5 per cent, a judgement has to be made. Given the current geo-political situation, is there a prospect of oil prices rising above, say, $110 per barrel? Even at the present level, are FII outflows likely to persisit?

If the answers are in the affirmative, then there is a heightened probability of inflation breaching the upper band of 6 per cent. That creates the case for a rate hike. No need to wait until the horse has bolted.

Raj argues that the main problem could that India has taxes on capital gains that competing markets do not have. But that is a new situation. It has always been the case. Nevertheless, foreign investors have come in droves because stock returns in India too are higher so that the post-tax returns compare well with those in other markets.

The depreciation in the rupee is not the entirely the result of rising oil prices. Earlier, investors bolted after India was subjected to punitive tariffs by the Trump administration. Not that the CAD was seriously impacted but investor sentiment turned negative. We were told that they did not view with favour a market towards which the US administration had a hostile stance.

The point about hiking the policy rate is that we can expect the effect to be immediate. All other instruments will take time in producing results.