Better the devil you know or playing safe? CEO hunt becomes in-house affair

The Australian
April 01, 2013

PROFIT warnings, a sexual harassment scandal and board spill, ambitious major shareholders and open warfare with the NSW government: it’s hard to imagine a more difficult environment for a chief executive search.

Echo Entertainment chairman John O’Neill said he was acutely aware in the second half of last year that he was almost on a hiding to nothing.

“My own view at the time was that we (Echo) couldn’t afford to make a mistake with the CEO appointment,” Mr O’Neill said.

“We had to get someone who was ideal, with the right experience, and who could hit the ground running. They had to be operational from day one. We couldn’t put someone in with training wheels on.”

As it turned out, Mr O’Neill had only to lift his gaze at Echo’s monthly board meetings to locate his dream candidate.

Others said Echo non-executive director and former US casino executive John Redmond was effectively on the substitute’s bench from the time of his September 2011 board appointment, waiting for the directors to ultimately move against then chief executive Larry Mullin a year later.

But Mr O’Neill strongly disputed this. Echo, he said, had lost a lot of money on its transformation agenda for The Star casino in Sydney and the management team was distracted. “The Star is a destination, not an RSL on steroids,” Mr O’Neill said. “We needed someone like John Redmond who could energise people and get the momentum back.”

Echo is but one example of a wider trend of directors going no further than their own boardroom to appoint a chief executive.

Examples apart from Echo include Fairfax Media (Greg Hywood), Seven West Media (Don Voelte), grocer Metcash (Ian Morrice), Whitehaven Coal (Paul Flynn) and, going back further in time, Foster’s (Ian Johnson).

But the transition from the boardroom to executive ranks is not confined to the chief executive position.

At resources giant Rio Tinto, for example, non-executive director Chris Lynch — a former chief executive of toll-road operator Transurban and before that BHP Billiton chief financial officer — became chief financial officer. Dean Paatsch, principal of proxy advisers Ownership Matters, said chief executive recruitment from the ranks of the board was the exception rather than the rule.

“It normally occurs at stressed companies where the board is looking for a safe pair of hands or someone who’s a known quantity,” Mr Paatsch said.

“In that kind of situation, it’s human nature to go for trusted insiders instead of the risks involved in an external search.”

Mr Paatsch said it was not uncommon for the board to choose a “nightwatchman” until a volatile situation became sufficiently stable to manage the risk of an external appointment.

For example, the unravelling of Foster’s Group’s multi-beverage strategy led the board to appoint non-executive director Mr Johnson as chief executive in 2008, ahead of a demerger of the wine business two years later.

Last month’s transition of Mr Lynch, 59, from the Rio board to chief financial officer can be seen in a similar light.

Mr Lynch’s appointment, just like the January elevation of iron ore boss Sam Walsh, 63, to chief executive, showed the Rio board’s preference for safe, experienced hands in key executive positions until the company determined its future direction.

The move also renewed Rio’s focus on capital discipline after $US44 billion ($42.2bn) of ill-chosen acquisitions during former chief executive Tom Albanese’s tenure.

Mr Lynch, from all accounts, was a devotee of tight process and strong capital management during his term as Transurban chief executive, an approach that was nurtured across a 20-year career at aluminium giant Alcoa.

Remuneration and governance consultant John Egan of Egan Associates said Mr Lynch’s new role made a lot of sense.

“Chris Lynch is not a future Rio CEO but he was CFO at BHP Billiton, and he and Sam will be joined at the hip as they sort the place out,” Mr Egan said. “They will also have to find their own successors.

“But, having said that, boards are no longer ageist; they don’t take the view that, being in your early 60s, you are close to death.

“Before, they might have hunted for someone in their early 40s, but now there’s a realisation that someone in their 60s can have at least a couple of years of very demanding executive life.”

Nick Waterworth, managing partner of executive search firm Watermark Search International, said chief executive recruitment from within the board was neither a good nor bad thing in principle.

But knee-jerk appointments were best avoided, particularly when there was no benchmarking against external candidates.

“I advise companies not to avoid doing it in principle, but if they appoint a director as CEO they should do a benchmarking exercise to ensure it’s the right decision,” Mr Waterworth said.

“I think shareholders would expect that. In rare cases where there’s a significant or urgent problem, like customer leakage or an outflow of employees, it might be reasonable to bypass benchmarking and make a short-term appointment for six-18 months.”

Mr Egan agreed, saying it made sense to tap a director for the chief executive’s role if the company was facing a critical issue: perhaps one that didn’t require formal disclosure to the stock exchange.

The board insider, he said, could be the chairman of a special committee looking into the issue, making that person ideally placed to assume the chief executive role for a short time.

“If a company’s going through a troubled period, it’s better to have a director who’s across the issues, and who has managed similar challenges before,” Mr Egan said.

At Echo, Mr O’Neill said he was unsure whether the appointment of Mr Redmond came down to timing, coincidence, luck, or “all of the above”.

Mr Redmond joined the board as an experienced casino operator only months after the demerger of Echo from Tabcorp and its June 2011 listing as a pure play casino company.

Mr O’Neill said he was familiar with Mr Redmond’s circumstances — he was relatively young at 53, and had made a commitment to his family after the untimely death of his wife. “About two-three weeks after we briefed (search firm) Egon Zehnder, John telephoned me and said he’d re-married and his kids were on the way to self-sufficiency,” the Echo chairman said. “They’d had a family meeting and told John he was too young to have given up executive life.

“So John said to me: ‘I don’t want to embarrass you but I want to be a candidate.’ It only took me a couple of seconds to decide that he should be part of the process.”

Egon Zehnder had identified a half-dozen candidates and started due diligence on Mr Redmond.

The feedback was that, if the US casino industry had known that Mr Redmond was back in the market, he’d be “snapped up”.

Mr O’Neill said that, funnily enough, all the referee checks came back with the comment that Mr Redmond was not in the market for a job. “So we’d started life as a listed, pure casino company when the scandal hit,” he said. “The underlying damage to the business was a massive distraction. Every day there were so many media and regulatory inquiries that even the most focused person in the world would have been distracted. I knew this (CEO) appointment would make or break me. I had to get the right person in the job.”

Mr O’Neill said the prospect of any chief executive having to undergo long probity checks was not really a factor, even though Mr Redmond had already cleared probity to join the Echo board.

He said he was confident that the other candidates shortlisted by Egon Zehnder would have got through probity “pretty quickly”.

Mr Redmond, furthermore, had not been associated with Echo, or Tabcorp, for long.