Sizing Up the CEO

Kim Wheless spent his entire 45-year career in banking without a formal performance review. But he’s changing that for his successor, implementing the process as chairman of the board of the $600 million asset Central Bank based in Houston.

His successor “thinks it’s great,” says Wheless, who was CEO from 2005 to 2012 before assuming the chair role. “I wish I’d had it.” Implementing a formal CEO evaluation process-especially with an existing CEO-might seem the instigator for dramatic board room fights. But it doesn’t have to be, if the approach and process are nailed down in advance. An open dialogue between the CEO and the bank board over direction and performance is “critical to the bank’s success,” says Susan O’Donnell, partner with Meridian Compensation Partners.

And yet, those who work with smaller banks on strategic governance issues say a formal review process is often missing from the board’s regular agenda. “More often, I do see the informal evaluation occur,” says James McAlpin Jr., leader of Bryan Cave’s Financial Services Client Service Group. “It can happen after a significant transaction where the board may give the CEO feedback on how they thought it went.” But there are benefits to implementing a more thorough process. A solid evaluation can “more clearly define and articulate the expectations,” says Geri Forehand, president and CEO of Forehand Strategy Group and a former banker. “The CEO understands what those expectations are and can gauge performance against them.”

Paying Dividends
The $3 billion asset Midland States Bancorp in Effingham, Illinois, is in the process of implementing a CEO review under the guidance of Jack Schultz, chairman of the board. The bank recently filed for an initial public offering and was growing rapidly and there was “a consensus that we needed to put more formal processes in place,” Schultz says. Midland and Central Bank may be in the minority of small- and mid-sized community banks. The charters at large, publicly traded banks usually require a formal evaluation of the CEO. Shareholders and regulators are beginning to expect this step to occur no matter the size of the bank, O’Donnell says. But feelings of inadequacy often get in the way. O’Donnell mentions a recent conversation with a bank director on a committee responsible for the CEO evaluation. The director told her he “didn’t really feel comfortable providing feedback.”

Schultz, who is CEO of industrial park developer Agracel, notes that he has never been evaluated in his non-bank role either. Regardless of the industry, opening up the door to evaluations can provide “a mechanism for a conversation to occur that might not occur, for issues to be put on the table that might just linger and fester in disproportionate weight to what they actually are,” McAlpin says. “Often there are misunderstandings related to the board’s part-time participation in the bank process.” Banks with long-standing directors can especially benefit, Forehand says. “It’s difficult when you are that entrenched to address the deficiencies.”

Understanding What An Evaulation Is…and Isn’t
In the best scenarios, a thorough evaluation is far more than a set of numbers. It extends well beyond the bank’s financial performance and ties back to goals outlined in the bank’s strategic plan. “If you’re only evaluating on the financial aspects, that’s what they’ll focus on,” O’Donnell says. The best performance reviews also encompass qualitative factors such as the vision, leadership and relationships with customers, regulators, the board and key executives.

Schultz said the evaluation at Midland focuses on the culture and mission of the bank and relationship with direct reports. Wheless said the Central Bank CEO is evaluated on return on equity vs. expectations, managing expenses and other factors. As board chair, Wheless solicits input from every board member who can rank the metrics and provide subjective feedback. He compiles the information and sits down with the CEO. That conversation also usually addresses compensation, he said. By seeking input from the entire board and then having a one-on-one conversation with the CEO, he’s following the methods O’Donnell typically recommends as best practices. By year’s end, Wheless hopes the task will fall to the compensation and corporate governance committees and become an annual process instead of biennial as it currently stands. After a board has determined the areas in which the CEO will be evaluated, the next question becomes how to measure-and that step is critical, Forehand says. “One of the mistakes I see out there is using the wrong kind of comparative data,” Forehand said. “It often falls into someone knowing someone on the board at another bank and comparing how they are doing things. You have to do fundamental research on peer banks, understanding their strategic emphasis and distribution systems.” Forehand also suggests banks consider any dangers that goals set, citing a CEO who might feel pressured to grow to meet a certain metric without typical precautions. He suggests ensuring that the evaluation has been “set up to ensure that risk parameters are incorporated.” This means that the evaluation should include “corrective components to guard against an aggressive growth posture.”

Putting the Process in Place
Regardless of where the board ends up in terms of how it will evaluate the CEO performance, it is a necessary step, no matter how uncomfortable the initial conversation may be. “What I’ve seen is a reluctance to raise the topic for fear that it might come across wrong, so the topic is never raised,” McAlpin says. But doing so can save the board, CEO-and ultimately the entire bank-a lot of headaches, O’Donnell said. She recently worked with a bank that had poor communication between the board and CEO-something that would have been openly discussed during a performance review. “It’s been brewing for five to seven years and is just now getting raised because they lacked the process for doing so,” she says. As banks move to a formal evaluation, O’Donnell suggests starting at the beginning: verifying that the CEO performance review is tasked to a committee in the charter. And then, getting it on a calendar and sticking with it.

It might just be something the CEO desires-as was the case at Midland. The CEO says, “‘I’ve never sat down and gone through a formal evaluation. It would be helpful to do,’” Schultz said. “We had said, ‘You’re doing a great job. Keep it up.’ He wanted more formal feedback on what and how he was doing.” Even if it is not CEO-driven, incorporating an evaluation does not have to be “threatening,” Schultz says. “You just have to convey that, as a bank, we want to be doing best practices.” McAlpin recommends bringing in an outsider to broach the subject as “much easier… than for a board member who has known everyone for decades.” And if the bank is a start-up, “do it from inception,” he says.

Feedback is important, but so is follow up. If an issue is raised in the discussion, the board has to take action on it, O’Donnell says. She cites a hypothetical case of a fast-growing bank where the CEO doesn’t have the time or skills to address leadership development, but is performing well otherwise. Working in conjunction with the board to identify it as a priority, the CEO can then task the head of human resources with the job. “Great things can come of that process,” O’Donnell says.