Think twice before forcing change at the top of a company
Always be ready for the day when the person running the business, the figurehead and the person everyone looks up to, is told they are no longer welcome at the boardroom table
Every company, and every person running it, at times thinks the good times will go on forever, and yet every now and again comes an issue so serious, heads have to roll, often meaning a change of at the top.
And yet anyone with a stake in a company realises that while firing the CEO can be the right call, it can be enormously costly.
When a CEO turnover is forced – that is, not part of a planned succession or the result of merger and acquisition – the cost is especially high, and it is hugely important to get the CEO succession process right.
Starting with the cost, the latest research suggests that there is a dramatic drop in total shareholder return for large companies that had experienced forced turnovers in CEO.
PwC has examined CEO turnover rates, as well as incoming and outgoing CEOs, at the world’s 2,500 largest public companies, and estimates it results in a combined US$112 billion in value, which works out to US$1.8 billion per company, more than would have been lost if those successions had been planned.
With this in mind, it is certainly worth questioning carefully if it is really necessary to fire the CEO at all?
After all, the cost of a forced turnover may be so large it might be wise to be cautious to look at the fundamentals of a company as well as its leadership.
If the company is under-performing, it may be the fault of the entire executive team under-performing, not just the CEO. It may be cheaper and easier to consider broader issues at the company which should be addressed.
However, if it is just the CEO who has to go, it’s equally important that there should be a proper succession plan.
If you are reading this right now, wondering about your own CEO, perhaps now is the time to quietly start planning for what you do when they depart, even if currently everything looks rosy.
As we found in our research at UNSW, Australian companies have a lot of experience of this.
Recently, Australian ASX200 companies had the highest rate of CEO turnover in the world. It may be improving, but companies in Hong Kong aren’t far behind.
For many firms, a lack of clear or sustained succession planning isn’t due to a crisis but boils down to simple relationship failures – about the fear of treading on people’s toes and a lack of transparency between a CEO, senior executives and the board.
Where succession planning is not done, often in smaller entities, it is sometimes due to the message it sends to incumbent CEOs. Raising the issue of their tenure at a relationship level can be tricky and emotionally charged.
However, the CEO that has served a company well for the past five or 10 years may not be the right CEO for a company going forward.
A board should always be projecting for the future rather than dwelling on what has been successful to date. That is very difficult for an incumbent successful CEO, as inevitably they unconsciously view a successor as someone in their own image.
We also have to consider the ego of the CEO. CEOs tend to be pretty confident people; and if they have a successful track record of achievement to boot, unseating them can be an issue. Entrenchment is particularly dangerous in a time when businesses are facing rapid change and disruption.
In those circumstances there is a danger that “CEOs might exhibit ‘agency conflicts’ whereby they might put their own interests above those of shareholders”.
Certainly, our research at UNSW into CEO succession planning shows that this potential to harm a firm – albeit inadvertently – exists.
First, an overconfident CEO might place excessive weight on his or her thoughts about an appropriate successor. In so doing, the CEO might down-weight outsiders’ or other directors’ views about an appropriate successor.
Second, they might be more likely to pick a successor that follows a similar business approach and, potentially, is similarly overconfident. In some cases, this might harm performance.
So, if the CEO is to go, and you are planning for it right now, who should you choose – an insider or outsider?
Sometimes poor company results could render a succession plan irrelevant, and necessitate an outside hire. Perhaps then it’s time for heads to roll across the board, and hire some fresh faces who can look at the company anew.
Insiders are being promoted to CEO positions in increasing numbers within companies. In the past four years, 76 per cent of incoming CEOs were insiders for forced turnovers and 65 per cent were insiders for planned turnovers.
It’s easy to see the appeal of an insider for companies. But these might not always be the best people.
Not only are they a known quantity to the board and CEO, but the internal candidate is likely to have built up a network within the company, know more about the business, and are already familiar with the company.
Also, the board of directors will have more information about the candidate, built up over several years, to be able to gauge their abilities.
However, the potential problem with identifying an insider to take over is if the board of directors and CEO are entrenched. Without a competitive process, there is no genuine attempt to assess their skills. An internal candidate is only going to generate value for the business if there is genuinely good corporate oversight.
And this is really the key.
Boards should remain abreast of other executives at other companies and build a database of those who may be available. They should also develop a CEO success profile early on, while making sure that this is not interpreted wrongly by the current person in office.
And, for everyone in business, particularly the CEO, as the Scouts say “Be prepared!”
Get ready for the day when the person running to company, the figurehead, and the person everyone looks up to, is told they are no longer welcome at the boardroom table.
Mark Humphery-Jenner is an associate professor at UNSW Business School. Additional words, Julian Lorkin.