Paying Big-Time For Failure

Who is really to blame for those fat severance packages given to CEOs who falter?

What do you think about the obscene severance packages being handed out to CEOs who have basically failed on the job? As a (small) stockholder and a middle manager who busts his butt for five figures, that drives me crazy. -- Anonymous, Miami

You're not alone, but just make sure you aim your anger in the right direction -- and that might not be at the CEOs getting the huge payouts. All they did was say: "Yes, thank you," when offered a big package. Greedy? Maybe. But more often, they are simply the beneficiaries of a common and disturbing dynamic that starts in the boardroom.

Which brings us to the real culprits here, the company directors. They're behind many severance pay debacles for one main reason: They messed up succession planning.

Why does succession planning have so much to do with severance pay? Because many of the "obscene" payout deals that bother you so much weren't created when the errant CEO was fired. They were designed long before, when the new boss was hired from the outside because the board failed, over several years, to develop a pool of internal talent.

Not that internally promoted CEOs come cheap. The typical insider will get a substantial pay increase, hefty rewards tied to performance, plenty of new perks, and a bigger office. But the deal gets much richer when a white knight has to be enticed to gallop in and save the company from itself. These saviors on horseback get everything an insider gets, plus the guarantee of a big consolation prize even if they blow it. And that last part is usually why the deal gets sealed. Without back-end protection, no outsider would touch most of these risky positions.

Not all severance messes are related to outsider CEOs, of course. Sometimes insider CEOs fail and get sent on their way with more money than they appear to deserve. That can be galling, too, but the dynamic we're talking about is different. It starts when a board needs a new CEO and, looking inward, realizes: "Oops! We forgot to plan for that." The directors then call in a headhunter, whose lust for a successful placement is second only to the board's level of panic. The dynamic is complete when a seemingly perfect candidate is located -- usually in a wonderful, secure job that he or she has no intention of leaving. Unless, of course, the deal is right.

Case in point: Hewlett-Packard (HPQ). Back in 1999, when the board decided to change CEOs, the lack of internal candidates launched headhunters into a national search. Soon enough they found Carly Fiorina, successfully toiling away at Lucent Technologies (LU). Amid great fanfare, she was pried away from her comfortable position with, needless to say, an offer she couldn't refuse.

But Carly's six-year tenure at HP was fraught with board dissension. So you would think that when she was fired, her farewell gift would be modest. At about $40 million, it wasn't -- sparking widespread criticism, much of it aimed at Carly. But what about HP's board? Without doubt, it negotiated the severance payout, and it did so as Carly was prancing in with trumpets blaring, not as the door was slamming behind her.

The HP case is hardly unique, although sometimes the endings are happier. Take Ed Breen and Tyco. In 2002, Tyco (TYC) was hit by a disastrous accounting scandal, and its CEO was removed. Again, the board turned to headhunters, who quickly set their sights on Ed, a respected executive at Motorola (MOT). But Ed wasn't going to quit a thriving career at an unsullied company to clean up the chaos at Tyco for a standard-issue deal. No wonder the board had to back up a Brink's truck to unload a new compensation package at his doorstep. Fortunately, Ed is doing a good job at Tyco, so the terms of his severance package are a moot point.

Look, we agree that severance packages can be obscene. But unfortunately, this problem is probably going to get worse. The reason: Sarbanes-Oxley has driven scores of boards into a state of frenzied micromanagement. Too many of them are now more concerned with accounting minutiae than with people development, including succession planning. What a shame. Boards have only one job more important than developing internal candidates: coaching and supporting the current CEO. Boards can't do the work of management. They can only make sure the right management is in place, now and in the future.

So we're with you on this one and don't blame you for wanting to scream. The big severance packages awarded to failed leaders make you question the whole capitalistic system. But should you ever decide to really let it rip, just make sure, if the CEO was an outside recruit, that you aim your invective not at the easy target, but at the right one.

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