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Board-mandated CEO changeovers
What leads to a CEO being removed from their position? How and why should this transition be done smoothly?
Chuck Isgar
December 27, 2023
It’s Above Board’s final interview for 2023. We’re back one last time with Jim Armstrong, Managing Director of Composite Ventures and Forbes Midas List investor, to discuss changeovers of CEO at startups.
AB: Thanks for joining us one final time, Jim. There’s been lots of talk lately about CEO’s getting removed by their board. How does that happen?
JA: To start: usually when this happens, there’s going to be something missing— you’re missing on product market fit, you're missing on go-to-market plan, etc. Usually this event is not going to catch anyone by surprise.
With well-functioning boards, board members are going to sit down with the CEO and ask, what's going on, where do you need help? It’s like being in a [personal] relationship: you kind of know when everything is super good and you kind of get a feeling when things aren't so good.
What happens next? There's lots of ways it can been handled.
In one situation I was part of, there was someone who was not fit to be CEO anymore, but at hearing this news, they might have burned down the building. I pulled a surprise board meeting where we removed this person at the board meeting. It was really awkward. The CEO came to me afterwards and said, ‘why didn't you just talk to me? I would have gotten out of the way.’ I felt bad and wasn’t sure if he was being honest or not.
Usually, though, it’s not handled that way. While the decision does come to a vote, it's usually already pre-decided before the vote.
AB: Why does the board have an incentive to ensure it is a smooth transition?
JA: A board wants to make sure that the outgoing CEO is cooperative. Why? Because no high quality replacement CEO will take the job if they can’t talk to the founder/outgoing CEO. If the new/prospective CEO asks to talk with the outgoing founder/CEO and the board says ‘we fired them and they won't talk to anybody,’ then the company better have a heck of a profit and loss to attract somebody.
It's a lot of work to go run a search and recruit somebody new. The board may try to bring someone from underneath at the company (ie: one of the CEO’s direct reports). So, the board has an incentive for things to be nice.
In addition, whether in the CEO role or not, you must keep in mind that the outgoing CEO will continue to own their shares. So, a board may say to a founder: ‘why do you want to be CEO and why do you think you're qualified to continue being CEO?’ The reality is that at early stage companies, sometimes the reason you're qualified to be CEO is because no one else will take the job— who wants a job that pays low and is extremely hard? But at the end of the day, the founder/current CEO should have an incentive to ensure that the CEO— whether them or a replacement— is best set up to run the company.
Lastly, how is that new CEO going to be recruited? Your number one ally is the founder and existing CEO. So the first thing that's going to happen is they're going to try to persuade the founder and CEO to accept this change and embrace it.
AB: How can a founder/CEO best understand the behavioral style of their investors before they bring them on board?
JA: As you're going through due diligence [for investment], you may notice that the prospective investor is really conflict averse and passive aggressive. As an example, they may have had a term in the term sheet that you had a chance to discuss three times, but then they let their lawyer carry all the water and try to change it last minute. Warning sign: this is how they're going to fire you.
On the other side, you may have an investor you’re negotiating terms with who says ‘hey, I just want to cover this up front. I'm not comfortable with this [clause, provision, etc.] right now. I'll run up to my partners and discuss it, but I'm probably going to want X Provision to turn into Y Provision. I just wanted to be up front and tell you as of right now that I'm not comfortable with it. I know it's kind of awkward and I want to win the right to invest in you, but I'm going out of my way to tell you if you do pick me, I don't want you to turn other investors off until we get to agreement on that term.’ This investor took risk in a conversation to tell you something out of integrity. That is the person who's [hopefully] never going to fire you in a board meeting when you don't see it coming.