For any CEO, while running a company is a big opportunity, it is an even bigger challenge. Unlike with other roles, there is no accepted metric for measuring their performance to work towards the company’s improvement. Yet, as the head of a company, they find themselves competing every day, just like an athlete racing towards the finish line.
The only recognised way to measure a CEO’s success seems to be through growth in revenues and profits, which is used to measure the success of the company as a whole, and for public companies, the success of their CEO is determined by the increase in the firm's per-share value.
The CEO also has a limited amount of time in which to prove him or herself, and the results for the work they do will be visible in the long term: some say that a victory that comes too early is just a matter of luck.
With this in mind, the author proposes that there are really only three things we need to evaluate a CEO’s greatness: the compound annual return received by shareholders during his or her term in office, the economic return of similar companies during the same period, and the return over the same period for peer companies and for the broader market (this last factor is actually more important than it might seem, and is usually measured by the S&P 500).
So-called “great” CEOs tend to be the ones who are seen as the most competent, results driven, and successful. In reality, to be successful, a CEO needs to have an in-depth knowledge of his market, run the operational processes with meticulous efficiency, and deploy the cash generated by those operations. It is by this means that a CEO can instantly distance himself from the classic management style which focuses solely on the management of operations, and concentrate also on growth.
There are several ways to increase revenues and profits, and the distribution of capital is one thing, but growth is quite another.
To distribute capital, a CEO can invest in or acquire and absorb other companies, distributing dividends to shareholders, paying off debts or repurchasing stock. To increase capital, on the other hand, the most effective action is to draw on internal cash flow, in order to reinvest it, then issue debt and raise capital.
Capital allocation comes under the umbrella of investment; CEOs are both capital allocators and investors. This role might be the most important responsibility any CEO has, and despite its importance, there are no courses on capital allocation at any of the top business schools.
Two companies with equal results will take a different approach to the distribution of capital. This means that in the long term, the return for shareholders will also be different.
Instinct is also an important factor in determining a good CEO, and different instincts, of course, produce different results. Being unconventional and having the ability to find unconventional solutions to problems that seem unsolvable sets a CEO apart from all the rest. Time and experience teach them only so much, but what matters in the long run, is that the return for shareholders will depend exclusively on the choices made by the CEO over the course of time.
