Commentary: Shhh! You'll Wake the Board

When a once-great company like Xerox Corp. is brought to the brink, an obvious question arises: Where was the board? At Xerox, the directors appear to have been asleep at the wheel.

The most critical job of any corporate board is finding a CEO successor and ensuring an orderly transition. Here, the failure of Xerox' board couldn't be more glaring. Just three years after G. Richard Thoman was recruited from IBM, the Xerox CEO was unceremoniously fired. "There's no question the board shares responsibility for the fact that the transition was not a good one," says Nicholas J. Nicholas Jr., the only director who would comment.

BAD RECIPE. During Thoman's troubled tenure, the board seemed to harbor an unspoken allegiance to a former CEO, standing by while retired CEO Paul A. Allaire, who remained as chairman, overshadowed his successor. Experts are divided on whether outgoing CEOs should stay on. But it's clear in Allaire's case that his influence continued to permeate management as well as the board. John M. Nash, founder of the National Association of Corporate Directors, says that's a recipe for failure: "You have just replaced me as CEO, and now I'm looking over your shoulder. What kind of pressure are you under?"

The board's failure on succession was compounded by a host of governance problems. Experts point first to the board's composition. In addition to lacking directors with technology credentials, Xerox has too many insiders, critics say. Including Vernon E. Jordan Jr., whose law firm was retained by Xerox in 1999, insiders account for 5 of 15 seats. Jordan, who now works at Lazard Freres & Co., remains of counsel at his old firm. Xerox maintains that Jordan is independent and that its board mirrors the average board, which includes 3 insiders out of 11 directors (27%). But some peer companies score much better: Only 17% of IBM directors and 15% of Eastman Kodak Co. directors are insiders. Director ties to Xerox may have prevented them from heading off the management fiasco.

Clearly, many were too busy. Seven directors--including Allaire--sit on five or more boards each. Xerox President and Chief Operating Officer Anne M. Mulcahy, who joined the board after Thoman's ouster, sits on four boards. Jordan, with 11 board seats, is the busiest. Xerox says the added responsibilities did not hurt attendance. Indeed, Jordan showed up for 83% of last year's meetings. But attendance isn't the issue. Experts recommend that directors limit themselves to five boards and that CEOs limit themselves to two. "They cannot be a good director of all the other companies and do their jobs," says Paul D. Lapides, a governance expert at Kennesaw State University. "That's just too much." The issue is especially critical at Xerox, experts say, because the problems there demand the full attention of officers.

Equally troubling is the fact that many of Xerox' independent directors have minuscule equity stakes. Five of the 10 own fewer than 15,000 shares outright. Xerox says directors have an indirect interest in thousands more through deferred-compensation programs. But even taking those into account, three directors have stakes well below the $100,000 governance experts consider the bare minimum.

Few boards would tolerate the kinds of shortcomings Xerox is unwilling to acknowledge. Indeed, many put strict limits on the number of additional directorships and require board members to hold substantial stakes. Why? To focus attention on the business at hand. For Xerox, it seems, that has never been more urgently needed--or in shorter supply.

By Louis Lavelle

Lavelle covers management from New York.

Before it's here, it's on the Bloomberg Terminal.