CEO Succession: Making the Right Choices

CEO succession: making the right choices A study of CEO transitions across four prominent European markets About Spencer Stuart Spencer Stuart is one of the world’s leading executive search consult- ing firms. Privately held since 1956, Spencer Stuart applies its exten- sive knowledge of industries, functions and talent to advise select clients — ranging from major multinationals to emerging companies to nonprofit organisations — and address their leadership require- ments. Through 51 offices in 27 countries and a broad range of practice groups, Spencer Stuart consultants focus on senior-level executive search, board director appointments, succession planning and in-depth senior executive management assessments. For more information on Spencer Stuart, please visit www.spencerstuart.com. CEO Succession: Making the right choices a study of ceo transitions across four prominent european markets Boards have long recognised the value that a robust succession planning process brings to the continuity and long-term health of the business. But for succession planning to be truly effective, companies need a more sophisticated understanding about the age-old question of whether to go for an insider or bring someone in from outside the organisation. Commentators, and indeed boards themselves, are inclined to generalise about the value of outsiders or the benefits of internal succession. Thinking seems to go in cycles and whichever preference is being advanced at the time, a few examples are usually provided to illustrate the prevailing point of view. We felt that more evidence-based research was needed. In order to give boards proper guidance, we also sought to identify some key principles (based on this evidence) that should underpin any thoughtful and objective leadership succession process. We conducted a detailed study of the CEO transitions occurring within the current list of companies of four major European indices. Specifically, we evaluated the Financial Times “FTSE” index of the largest 150 companies in the UK., it, the CAC (40 companies) of France, the AEX and the AMX (50 companies) in the Netherlands, and the DAX and MDAX (80 companies) in Germany. The five year period from 2004 through 2008 was the timeframe, long enough to perceive trends and diverse enough to cover both the robust economy of 2004 to 2007 and the beginning of financial crisis of 2008. Over the five-year period of our study, 63 per cent of the CEO appointments were insiders and 29 per cent were outsiders. The rest were mostly former executives or (supervisory) board members. The results of our aggregated European research contain a number of surprises. Most significantly, they show that a blanket declaration that either insiders or outsiders as a group are the best way forward is no longer sufficient — a more thorough evaluation of the situation and a more tailored approach to the succession process has become necessary. Our analysis shows that, in general, there is no overwhelming performance advan- tage between insiders and outsiders — CEOs in the highest and lowest quartiles came from each category. That is not to say, however, that it did not matter whether a company chose a CEO from the inside or outside. The health, stability and com- petitive position of the company at the time of transition were the critical factors in determining whether an insider or an outsider was the best choice. 1 CEO succession: making the right choices The overall performance of insider vs. outside CEOs In our study’s European context, the performance of insider CEOs is roughly equivalent to that of outsider CEOs, never deviating by more than 6 percentage points. When taken as a whole, outsiders were slightly more likely to be in the lower quartile of performers, while the percentage of outstanding performance for insider and outsider CEOs was 26 per cent and 23 per cent, respectively (Figure 1). In addition, insider CEOs and outsider CEOs are equally likely to put in a solid performance (middle quartile): 50% vs. 47%. Figure 1: Performance of Insider CEOs vs. Outsider CEOs Insider 24% 50% 26% Outsider 30% 47% 23% Total 25.5% 49% 25.5% Poor Solid Outstanding The condition of the company The condition of the company at the time of leadership transition appears to be a principal indicator of whether or not it is best to look inside the organisation or outside of it for the next CEO. Across the four European markets studied, insiders drastically outperform when their companies are in a healthy state at the time of appointment, whereas outsiders perform better when the company is in a challenged situation (whether financial, reputational, legal, or otherwise), or facing significant market place changes. This may sound intuitive, but the point is not well understood and has sur- prised many boards with whom we have shared the data. 2 Our study found that insiders were appointed far more frequently than outsiders to stable or rapidly growing companies. In these in- stances, a staggering 51 per cent achieved outstanding performance, 28 per cent performed solidly, and only 21 per cent of CEOs could be classified as performing poorly. By contrast, the performance of outsiders coming in to lead healthy companies is skewed in the opposite direction towards poor: 37 per cent performed in the bottom quartile, while only 17 per cent achieved outstanding results. Although some outsiders do succeed when taking the helm of healthy companies, a fair amount fail. Figure 2: CEO performance at healthy companies (stable and rapidly growing) Insider 21% 28% 51% Outsider 37% 46% 17% Total 25% 32% 43% Poor Solid Outstanding The risks attached to appointing an outsider to a stable and growing company appear, therefore, to be significant as the chart above shows (Figure 2). 3 CEO succession: making the right choices Figure 3: CEO performance at “challenged” companies Insider 30% 47% 23% Outsider 22% 48% 30% Total 26.5% 47% 26.5% Poor Solid Outstanding Outsiders were much more likely to be appointed to the top spot at challenged companies (43 per cent of the time than they were at healthy companies (only 25 per cent of the time). It follows that not only is a troubled company more likely to appoint an outsider than a healthy one, but outsiders have outperformed their insider coun- terparts when taking over the reins in these challenging situations (Figure 3). Why do insiders perform better at healthy companies? A number of factors are at play. For internal succession to be effective there must be a strong pipeline of talent in the organisation. Healthy companies are more likely to attract first-rate talent, providing the board with a broader choice of quality candidates with the potential to become CEO. More resources are often available for the development of senior management and greater effort is sometimes given to fast tracking high-potential executives. Likewise, the board will have more time to focus on the development of likely CEO successors if they are not in crisis mode. One of the most valuable aspects of a contender’s development is gaining experience as a non-executive director on the board of another company; boards should be encouraging this whenever possible. The strong culture of a healthy company may be an impediment for an outsider who will need to spend time carefully getting the measure of the organization before having the chance to make an impact. Besides, if there is no burning platform for change, outsiders may encounter organisational resistance to change and a lack of enthusiasm for the incoming CEO’s agenda. 4 The leadership challenges facing troubled or challenged companies are quite different. The data clearly shows that outsiders are more likely to excel and outperform insiders in these situations and that their risk of failure is also lower. Whereas insiders are more likely to be locked in to a problem culture, outsiders have more freedom to impose change on the organisation; indeed they are expected to do so. What’s more, internal candidates have developed relationships throughout the organisation over many years. This can make it extremely difficult for the insider CEO to make unpopular decisions and drive the required changes in culture and people. Board members, Former executives, and the special case of the “Insider-Outsider” Non-executive directors who took over as CEOs have proven, for the most part, to be a safe pair of hands. There has been a noticeable increase in such appointments in some European countries and although their performance was less likely to be spectacular, they were also less likely than insiders or outsiders to perform poorly. CEOs who have already served as directors are sensitive to the board dynamics and bring considerable knowledge of the company to the post. Unfettered by the normal concerns of an insider, they are better placed to make the difficult decisions. We have started noticing the growing frequency of board members being promoted to the CEO position in certain European markets. Specifically, the trend has been on the rise among public companies in France. We have also noted, albeit anecdotally, the occurrence of this specific type of leadership transition in Spain, where family-owned companies are finding the arrangement particularly effective since it gives everyone a chance to get to know and trust the successor and ease them into the business. Former executives can also bring the combined benefits of an insider and an outsider. They have deeper knowledge of the company than an outsider and will have gained experience elsewhere at the top level that will prove equally valuable. However, there may be limiting perceptions from within the business about a former executive’s ability that may hinder his or her effectiveness. 5 CEO succession: making the right choices Though relatively uncommon, there is a fifth and final category defined through our study that also warrants some discussion — the “insider-outsider”.

Load more