LAKELAND MINING CORP. Jonathon D. Kovacheff prepared this case under the supervision of David S.R. Leighton solely to provide material for class discussion. The authors do not intend to illustrate either effective or ineffective handling of a managerial situation. The authors may have disguised certain names and other identifying information to protect confidentiality. This case was funded by the NCMRD. Ivey Management Services prohibits any form of reproduction, storage or transmittal without its written permission. Reproduction of this material is not covered under authorization by any reproduction rights organization. To order copies or request permission to reproduce materials, contact Ivey Publishing, Ivey Management Services, c/o Richard Ivey School of Business, The University of Western Ontario, London, Ontario, Canada, N6A 3K7; phone (519) 661-3208; fax (519) 661-3882; e-mail cases@ivey.uwo.ca. Copyright 1994, Ivey Management Services Version: (A) 2010-02-25 In late 1992, Samuel Firestone, a member of the board of directors of Lakeland Mining Corp., had to make a delicate and difficult decision. He had witnessed extraordinary tension develop between Lakeland's CEO, Peter Sevko, and its chairman, Philip Scott. The personal conflict had forced Scott to contemplate submitting his resignation as chairman. Firestone believed Scott to be an able chairman, one who had run Lakeland's board effectively, and had thought that most if not all directors felt the same way. However, recent events suggested that Sevko's friends on the board had persuaded two influential directors that Scott's position as chairman was untenable. In total, roughly half the board now appeared to believe that the chairman could no longer carry out his job effectively. Although Firestone was not at all convinced that Scott's resignation was in the long-term best interests of the shareholders, he realized that this conflict was seriously diminishing the effective functioning of the board. Cordial discussion between the CEO and chairman had ceased, and the resultant tension was beginning to affect all board members. Firestone had to decide who he was going to support: Scott, a long-time associate and in his view, a first-rate chairman; or Sevko, the CEO who was instrumental in making Lakeland profitable and competitive. LAKELAND MINING CORP. - COMPANY BACKGROUND In 1983, Lakeland Mining Corp. was owned and controlled by Bofred Investment Ltd., a privately held investment company with extensive worldwide holdings in oil and gas, mining and several manufacturing industries. Its mining investments employed 3,000 people and assets totalled $600 million. Corporate headquarters were situated in Toronto, Ontario, but most of Lakeland's reserves were located in Canada's northern territories. Bofred Investment was 100 per cent owned and controlled by brothers Fred and Boris Bloom. Both were primarily investment specialists, with only a limited interest in or understanding of the mining industry. Consequently, they took a hands-off approach when it came to managing their mining interests and left the bulk of that work to Lakeland's long-time chairman/CEO, Milton Howser. A geologist by trade, Howser was very comfortable running the mining business while leaving the investment and corporate governance decisions to the Bloom brothers. In 1983, the Lakeland board consisted of eight individuals, all long-time friends and associates of the Blooms. The Blooms used their board largely as an advisory committee, one which was intended to provide Lakeland with expertise regarding investment opportunities in mining. Since there were no minority shareholders, the board did not involve itself with reviewing CEO and corporate performance, or discuss corporate strategy other than in the mining business. Directors were selected because of their expertise in mining, not as managers or experts in corporate governance. In late 1984, the board and the Blooms came to the decision that they could make a substantial profit by going public with Lakeland shares. The company was profitable and Howser had been doing a good "hands-on" job of running the company. However, Howser's title as chairman was in name only. He never presided over a board meeting and knew very little about corporate governance. Therefore, the board's first move before going public was to place a high profile individual from the private sector in the chairman's seat and to make Howser president and CEO. Thus, in early 1985, Philip Scott, 38, was appointed as the new chairman of the company. Scott was a graduate in business and in law with considerable practical experience in family business. He seemed the ideal candidate for the job. In March 1985, the bulk of Lakeland's preferred and common shares were sold to the public, with the idea that the company would become a widely held corporation. In fact, the Blooms were able to divest themselves of all their shares within two years. Many of the buyers were large institutions, including public and private sector pension funds and several large mutual funds. During this time, the board composition changed dramatically. The old advisory board was transformed into a formal board staffed with individuals who had experience serving on boards of publicly traded companies. Milt Howser continued as president and CEO. During Philip Scott's first three years as chairman, Lakeland grew substantially. The company was doing so well that by 1989, production of base metals had increased by 30 per cent while gold production had tripled. However, after the share issue, Scott gradually came to the conclusion that Howser was not comfortable making decisions as the leader of a publicly traded company. Howser, it seemed, felt much more at ease when he had to report to only two owners. He wasn't comfortable dealing with the needs of minority shareholders or with a board of directors. In December of 1988, after discussion with Scott and the rest of the board, Howser tendered his resignation. The board was now required to hire a CEO. After considering several candidates, the board decided that Peter Sevko, a current board member, would become the new CEO. PETER SEVKO-CEO OF LAKELAND MINING In January 1989, Peter Sevko began his job as president and CEO of Lakeland. A trained engineer and MBA, Sevko had considerable experience in the oil industry. He had a reputation as a first-rate deal maker who was aggressive, smart, and competent. The son of poor immigrants, Sevko had always considered himself to be a "self-made man," one whose success depended on working long hours and putting the company before family and friends. He was not beyond bullying and manipulation and was in many respects a very tough CEO. He had very little time for any individual who, in his words, was "born with a silver spoon in his mouth." He had been a strong and forceful board member, and his business credentials as CEO of a smaller independent were excellent. The board thought he was the ideal man to run Lakeland. Sevko wasted no time making changes at Lakeland. He began his tenure as CEO by cleaning house." He fired and replaced several executives he described as incompetent, and increased company assets by several acquisitions. With these acquisitions, Sevko had increased Lakeland's total assets to over $3 billion. Within two years of taking over as CEO, Sevko had proven himself an excellent deal maker and exemplary performer. Share value was sharply up, and the board was very pleased with Lakeland's overall performance. In fact, the company had done so well that its performance had been highlighted in several national periodicals (see Exhibit 1 for a five-year financial performance table). PHILIP SCOTT - CHAIRMAN OF THE BOARD Philip Scott was the son of a prominent Ontario businessman who had been active in federal politics. He had been educated at some of North America's finest institutions and, after graduating with a BA in business and a law degree, had joined the family business. During this time, he became closely associated with a leading political party. His appointment as chairman of Lakeland in 1985 had represented a considerable personal challenge. As a first-time chairman, Scott's initial years on the job had been filled with learning experiences. He did extensive reading in the area of corporate governance and studied the boardroom behaviour of several of the more senior Lakeland board members. By 1988, Scott believed he had become a more experienced and effective chairman. He took a more proactive role in managing the affairs of the corporation and the board. For instance, Scott was actively involved in selecting new board members and corporate executives. Also, he continuously and objectively monitored CEO and individual director performance and was always consulted by management whenever strategic plans were initiated. Although he felt the board was effective already, he decided to implement several initiatives to further improve board performance. He believed that a forum was needed in which board members and company executives could meet periodically to review the board's performance and to discuss the more complicated corporate governance and strategic issues affecting Lakeland. Scott did not see the regular quarterly board meetings as the appropriate forum for these discussions. Therefore, he organized an annual weekend retreat where directors were encouraged to communicate frankly with one another and to discuss possible solutions to important corporate problems. The two-day retreat was structured so that one day was spent discussing the company's corporate strategy and planning, and the other was spent discussing governance- related issues. Scott felt that the second day of the retreat became the real focal point of the weekend, as it was used to educate board members on a number of important board-related issues. The day began with the corporate legal counsel's review of relevant legal and legislative issues regarding such issues as environmental legislation and director liability. Next, directors were encouraged to put forward their concerns regarding the manner in which board meetings were run. They were asked to present suggestions as to how to improve the effectiveness or efficiency of the meetings. Scott also felt it was very important to determine whether each member was getting a chance to express himself or herself during board meetings. Therefore, he elicited advice about the improvement of board communication. If time permitted, Scott would summarize any new scholarly work on corporate governance. Often, a discussion followed his summary of the work. Every second year, board committee chairmen would reconsider their mandates. All board members were invited to discuss ways in which the two existing committees could be improved and whether to constitute new committees (see Exhibit 2 for committee membership). Members were also encouraged to discuss issues such as director selection and recruitment. As a direct result of these discussions, selection of new directors was to become more formal and systematic. OTHER KEY LAKELAND BOARD MEMBERS - 1990 By 1990, several Lakeland directors were playing more prominent roles during and between board meetings. Because of a combination of broad business experience and knowledge, or their close association with the CEO or chairman, these individuals carried considerably more weight than did other directors. The directors who had considerable influence on the board due to their experience and expertise were Steven Smith, Tom McCoy, Frank Jones, Samuel Firestone, and Lee Coxon (see Exhibit 2). Steve Smith, 52 years of age and a lawyer, had been president of Smith Minerals Co. Ltd., and had become a director when his company had been acquired by Lakeland. He was a highly "political" and charming individual who had befriended Sevko soon after his own appointment to the Lakeland board in early 1989. Tom McCoy, 61, was a very experienced management consultant who added a considerable know-how to the Lakeland board. He was a knowledgeable director who had been appointed to Lakeland's board in 1986 because of his previous involvement with several mining ventures. McCoy enjoyed Smith's company. The two became good friends and, together, developed a close relationship with the CEO, frequently golfing or going on vacation together. Jones, Firestone, and Coxon were all senior business leaders with considerable board experience. Of these three, Frank Jones, age 55, had the longest tenure on the board, having been appointed in 1985. In 1987, Sam Firestone, age 60, had been recruited by Scott to serve on the board. At age 64, Lee Coxon was the oldest director on Lakeland's board and had served as a member since 1986. These directors, and especially Firestone, did not build particularly close personal relationships with senior company executives or the CEO. They assumed that evaluation of corporate and, therefore, executive performance would be more valid if not complicated by close personal friendships. Therefore, they kept a safe personal distance from management, preferring to deal with them at arm's length. Nevertheless, all three maintained good but professional working relationships with both Sevko and Scott. PHILIP SCOTT AND PETER SEVKO-1991 Following the public issue of shares, Scott and Sevko developed a productive and congenial working relationship. As Scott told Firestone in late 1988: While Peter and I have never been the best of friends, we often meet to discuss corporate objectives and problems, and have been able to communicate effectively. There seems to be a mutual respect for each other. We understand our respective roles in the corporate structure: the CEO initiates corporate policy and runs the day-to-day operations of the company, while I evaluate overall corporate strategy and maintain the integrity of the board. All things considered, we seem to work well together. However, around Thanksgiving of 1991 all this seemed to change. Sevko was riding high after a very positive Globe and Mail article had been written about him and the company. The article suggested that Sevko was the prime reason for a dramatic rise in Lakeland stock value. In fact, when Sevko took over in 1989, the stock was selling at $15.50 a share. As of late 1991, the stock was trading at $33. Around this time, Scott approached Samuel Firestone after a board meeting and asked to speak with him in private. Scott seemed nonplussed. He told Firestone: Sevko's opinion of me seems to have changed dramatically over the last few months. He's made several unilateral decisions that have really altered our relationship. He has stopped phoning or communicating with me in any way and, at the same time he stopped submitting his expenses for my approval. He's always submitted his expenses to me, as we both thought that was the best way to maintain a semblance of accountability. He must be really ticked off about the concern I showed over an extravagant expense bill he submitted. Who wouldn't have been upset with one dinner that's going to cost the company nearly $700! I should've known something was up when Frank Jones pulled me aside last month and told me that he had picked up a few signals about the changing attitude of our CEO. While frank shared those with me, in my excitement about the progress of Lakeland and the performance of our president, frankly I disregarded this advice and defended Sevko. My first sign should have been the announcement that Sevko had been appointed as a director of Fraser Development Ltd. without the knowledge of anybody on the board. Although there's no company policy against our CEO sitting on other boards, it's important for me to know how and where Sevko is spending his time. He should at least have told someone about it. That was a harbinger of things to come. Scott continued: The latest issue to arise concerns my own expenses. Sevko had his secretary, Kathy, call me about one of my expenses. To date he had given no impression that he reviewed and approved my expenses. I explained to Kathy that there was a process in place whereby my expenses are paid and then reviewed in detail by the audit committee at the end of the year. Her reply was that Peter reviews them. Rather than persisting with her, as she is obviously taking direction from Peter, I let this matter stand down and hope that the audit committee will clarify the issue of expense approval. I am also wondering whether Peter is unhappy with the recognition he is receiving from the board. After his first year, we rewarded him with a $60,000 cash bonus. That summer his salary was increased by more than 15 per cent, and for that reason there was no cash bonus at the end of the year, which by coincidence seems to correspond to his recent change of attitude. He has been awarded substantial stock options, and while Peter has exercised his first three grants of options, for what must be a before-tax gain of at least $2.1 million, financial reward through stock options is evidently not the same as specific recognition by the board for outstanding performance. Firestone listened carefully, and he and Scott chatted about some other corporate business before concluding their meeting. In early 1992, after several months of having only cursory contact with Sevko, Scott decided that he had had enough of the "cold-shoulder" treatment. He confronted the CEO in his office and asked, "So what exactly is your problem?" According to Scott, Sevko just unloaded. He vociferously told the chairman: I don't think I can work with you any longer. The company and I have outgrown you. You're just a lightweight who likes being chairman for ego gratification. You love the fluff and perks; the fancy meals and clothes and trips. You know nothing about running a corporation and even less about the mining business. The only reason you even have this job is because you come from a powerful family with all the right connections. You were born with a silver spoon in your mouth and you have no idea how much effort it takes to run this company. You're starting to get in my way and I'm becoming more interested in applying for your job every day. Sevko's outburst represented an intense personal attack, with no reference being made to professional incompatibility or strategic conflicts. Scott was stunned. After speaking individually with several directors, he went to the other executive committee members (i.e., Frank Jones and Tom McCoy) and to Samuel Firestone to explain what had happened, and to get some advice as to how to respond. He asked them whether they had trouble with him as chairman. He was unequivocally endorsed by all three directors. Scott then stated that if the board believed that he was truly a "lightweight," then, "I'll leave as chairman." After hearing Scott's account of the confrontation, Firestone realized something constructive had to be done. He approached McCoy and Jones and explained that, in his view, allowing this kind of situation to fester would be terrible for the company. Firestone and McCoy endorsed Jones' suggestion that a special committee be appointed to review corporate governance at Lakeland, and a presentation of committee findings be made at the annual summer retreat. Other board members were not to be told that such a committee was being formed. Firestone advanced the group's proposal to Scott. The chairman considered their suggestion and, not without some serious reservations, finally agreed that a special committee should be formed. Thus, an "informal" special committee reviewing corporate governance was struck with Samuel Firestone, Frank Jones, and Lee Coxon as members. SPECIAL EVENTS LEADING TO SCOTT'S PROPOSED RESIGNATION March 1992-The special committee reviewing corporate governance asked both the chairman and CEO to write memos outlining individual views on their current difficulties. Sevko refused to comply, saying only that he needed a "bigger company guy" than Scott. He was not willing to expand on this. Scott, on the other hand, complied and explained his views in a detailed memo. May 1992 After consulting with Sevko, the committee told Scott that the CEO did not want to have anything to do with him. Scott was told to "stay out of the CEO's way" because Sevko wanted no more than superficial interaction to take place between the two of them. June 1992 The board went on its annual retreat. The special committee met with both men and told them that they had to work out their differences. Unfortunately, Sevko was not willing to meet with Scott to discuss their problems. In fact, although he started to submit his expenses to the chairman again, he carried on as though the special committee had never been struck. Sevko was condescending to Scott at board meetings, interrupting often and not listening to his opinions. He never spoke directly to him and refused to relate information concerning meetings with important corporate clients. In all ways, the CEO responded as if the chairman were irrelevant. August 1992 By late summer 1992, Scott had chaired several annual shareholder meetings and was quite cognizant of the proper protocol. At each of these meetings, Scott addressed the shareholders first, by speaking globally about the company and its objectives. He would then introduce the CEO. Then, after the CEO had finished talking more specifically about the company, the chairman would return to answer any questions from the floor. However, this year things were different. After completing his presentation, Sevko told the audience that the CEO would be answering all questions concerning Lakeland's performance this year. Scott and several board members were appalled. Only then had he realized that unlike all preceding annual meetings, he had not been provided with a microphone from which he could answer any questions addressed to him. He perceived this as a deliberate attack on his authority. Without discussion or board approval, the CEO was taking over the responsibilities of the chairman. September 1992-Lee Coxon submitted his resignation from the board. Although Coxon did not formally state his reasons, Firestone knew that he was resigning because he was totally discouraged about the direction Lakeland and its board had been going. He did not want to be part of such a destructive process and felt powerless to stop it. Firestone was beginning to feel the same way. The board was faced with the task of finding a replacement for an extremely competent outside director. The problem was, however, Lakeland did not have a formal recruiting or selection process in place. Lakeland did not have a nominating committee and director selection had always been the responsibility of the executive committee. Philip Scott, Frank Jones and Tom McCoy sat on this committee. Sevko did not want the presently constituted executive committee to have a say in the selection of new directors. More importantly, he did not want Scott to have any say in the selection of Coxon's replacement because he had been very unhappy when Scott had recruited Firestone in 1987. Sevko thought Firestone was becoming far too "proactive" as a director. In the CEO's view, Firestone was starting to get involved in too many issues that were none of his business, including paying far too much attention to his relationship with Scott. On the other hand, in Scott's view, Firestone was a very competent and ethical director who was carrying out his responsibilities to enhance shareholder value. The issue, therefore, became who was going to have control over the nominating process. The chairman was fearful that if the CEO became too involved, he would be able to "stack" the board with his friends. Scott did not think that directors should be exclusively or even largely selected by the CEO because any director so chosen would have difficulty making truly independent judgments about the CEO's decisions. In fact, the two individuals that Sevko suggested for the vacant position were, in Scott's opinion, highly undesirable and of dubious reputation. Neither had any board experience or knew anything about the mining industry. Sevko, he believed, wanted them on the board so that he wouldn't have to worry about board support, something which he felt should be automatic. Scott didn't want them on the board because he thought that neither could add lustre to the company's reputation or evaluate objectively Sevko's performance as CEO. Therefore, at the fall executive committee meeting attended by Scott, McCoy and Jones, the chairman asserted that it was time for Lakeland to put a proper selection procedure into place. He suggested that the most reasonable way to do so was to form a nominating committee with the mandate to recruit and nominate individuals for selection to the board. He went on to state that neither the CEO nor the chairman should be allowed to sit on the new committee so as to minimize pressure to select friends or supporters of either individual. The next day, after hearing of Scott's proposal, Sevko hit the roof. He let both Jones and McCoy know in no uncertain terms that he would not accept the formation of a nominating committee unless he was a member. When Jones and McCoy did not push him on the matter, the whole idea of a nominating committee was dropped. Consequently, the executive committee and the CEO, without informing Scott of their intentions, began the search for a new director. The chairman was still a member of the executive committee, but Jones, McCoy, and the CEO had decided to exclude him from the process. Late September 1992 The chairman was told that Sevko was very upset with him. Sevko had discovered that, in the spring, Scott had gone independently to other board members in order to discuss the difficulties the two were having. The CEO reportedly took this action as a personal insult and was going to make Scott "pay for it." At the same time, McCoy and Smith had been selected to sit on another board. Smith was very close to Sevko and showed the same disregard for the chairman. Smith knew that to get Scott replaced, he would have to convince executive committee members, McCoy and Jones, that Scott was not worthy of their backing. Therefore, while attending these other board meetings, Smith told McCoy that if the chairman wasn't fired, Sevko was going to resign. McCoy was in a quandary. He had always supported the chairman and believed he was doing a first-rate job. But Smith was persuasive and was his friend. And Sevko was very important to the company. McCoy was very reluctantly convinced that his support of the CEO was more important. McCoy agreed that, forced to make this choice, the chairman would have to go. October 1992-Smith knew that convincing McCoy was not enough. He had to persuade Jones, the other executive committee member, that Scott should be asked to leave. Jones was not as easily convinced as McCoy, as he had always supported Scott's work as chairman and was a close friend of neither Smith nor Sevko. In order to convince Jones, Smith explained that the chairman and Sevko were barely speaking, and this was neither conducive for a well functioning board nor in the long-term best interest of the company. After much deliberation, Jones agreed and decided to support Smith's position. November 1992-Scott had been considering his role and position in the company for several months. He realized that his hold on the chairmanship was tenuous at best. The CEO had been successful at usurping the chairman's role on several occasions. Scott had also learned that Steve Smith was working behind the scenes in support of Sevko's position. He decided to call a board meeting for November 23, 1992 so that he could speak to each director individually to discern where they stood on the issue of his chairmanship. He approached Samuel Firestone to enlist his support. He told Firestone that he was especially interested in speaking with Frank Jones, as he did not as yet know Jones' position. After a dinner attended by all directors, held the night before the formal meeting, Firestone, Scott, and Jones informally met to discuss the important governance crisis at Lakeland. Scott and Firestone were shocked to discover how adamantly Jones supported Sevko. No matter how hard Scott tried, he could not get Jones to waver in his backing of the CEO. After speaking to several other members, Scott saw how effective Smith had been in garnering support for Sevko. Scott also discovered that the CEO had told Jones that he would resign if Scott stayed on as chairman. After counting heads, Scott discovered that only four Page 9 9A94M009 directors supported him, while four were decidedly against him, and two had apparently not yet determined their attitudes. Scott realized that his position as chairman was in serious jeopardy. He had never realized that Sevko and Smith had been lobbying against him with such vehemence. He knew that if the situation continued any longer, Lakeland would suffer. The next day, Scott decided to outline a proposition to Firestone. He proposed to submit his resignation as chairman in exchange for the formation of a proper nominating committee. Scott also suggested that the nominating committee control the selection and appraisal of directors, chairman, and CEO, and that the CEO should not be a member of the committee. Samuel Firestone had to make a difficult decision. As a member of the board of directors of Lakeland, he had witnessed the tension develop between Peter Sevko and Philip Scott. Firestone believed in Scott's ability to run the board effectively and did not believe it was in the company's best interest or the long- term interests of the shareholders to accept the chairman's resignation. He also realized that Scott's mandate as chairman was dubious and his hold on the position tenuous. Some directors now believed that the chairman could no longer carry out his job effectively. He understood only too well that the personal conflict between the two most important company officers was deeply affecting the effective functioning of the board. However, his main concern involved Scott's proposal to exchange his resignation for a nominating committee. Without Firestone's support, the proposal was doomed to fail. But Firestone did not know whether supporting such a swap was a sound management decision. He had to think through his options and decide what he was going to do.