In case you haven't noticed, CEOs aren't sticking around as long as they used to. New York headhunters Pearl Meyer & Partners found 39 CEOs at the Fortune 200 level jumped or were pushed out in 2000, up sharply from the previous year. One of the lesser-studied aspects is what kind of severance terms the CEO takes away.
While investors today make loud noises over excessive CEO pay, they get even angrier about lush CEO farewell packages, especially if the CEO is leaving under a cloud (witness the angst over Jill Barad's exit from Mattel). What can your board do to avoid getting taken for a ride when the CEO departs?
1. Take a sensible stand on the CEO's way IN. If the board is filling the CEO slot from the outside, and especially if there's pressure to lure talent on board, a common temptation is to view a too-puffy future departure package as a minor detail, setting generous terms or easy standards. "I've seen boards get rushed, they're so antsy to get someone in the CEO's position," says Steven Currall, a professor at the Jones School of Management at Rice University. As with rushing into any marriage, it's wise to stay cool long enough for a good pre-nup.
2. Build smart CEO evaluation into severance terms. Too many companies already go soft when it comes to setting tough CEO standards for pay, much less for severance. A few board queries suggested by Currall include, "What are the other reference companies, how far above industry averages do we want to go, and what time frames should we use?" For setting severance, don't be afraid to more heavily weight performance toward the end of the CEO's tenure. In the Mattel/Jill Barad case, Currall notes that, "the board rationalized a generous severance package by saying she'd added a lot of corporate value early." Too often, though, boards are willing to overlook value destroyed late in the CEO's term in their eagerness to move on.
3. Apply the smell factor. When negotiating CEO severance, both going in and at departure, ask how the outcome will look to investors, employees, and analysts. What concerns will there be? What is the timing of the announcement? Announcing a premium parachute package at the same time as major layoffs or plant closings is asking for trouble.
4. Stand firm. Assuming that the contract severance terms you set with the CEO were fair, resist the temptation to sweeten the deal when he or she leaves -- even if the CEO wants to play tough. "CEOs use whatever tactics they can, including guilt and the threat of litigation," says Currall. While you'd think departing CEOs (especially those with performance problems) have zero leverage, the threat of hardball tactics often does the job of bringing a richer payoff. Directors should be good poker players and stick by the CEO's original terms.