CEOs come and go – often sooner than planned. Unforeseen events such as illness, death, enticement by other companies, insurmountable differences of opinion, or corruption scandals can cause a CEO to leave the company more or less overnight. If no adequate precautions for succession were taken in advance, this can cause great uncertainty among investors and employees about the company's future strategic direction and success. The direct and indirect costs of a sudden departure of the CEO can, therefore, quickly reach astronomical levels. Companies like Yahoo! or Hewlett-Packard, for example, had to learn that the hard way.
A recent international study by the strategy consulting firm Strategy& estimates that: “large companies that underwent forced successions in recent years would have generated, on average, an estimated US$112 billion more in market value in the year before and the year after their turnover if their CEO succession had been the result of planning.” That’s not pocket change! The good news is, however, that more and more companies are taking a proactive approach. While in the early 2000s only about half of the CEO successions worldwide were planned, the number has risen to almost 80% in 2014. Is your company one of them?
Success Factors of Strategic Succession Planning
What should you keep in mind to ensure that the transition at the top of the company goes as smoothly as possible? Here are some tips:
- Supervisory Boards members need to fulfill their responsibilities
According to the German Corporate Governance Code (2001), long-term CEO succession planning is an essential part of good corporate governance and should be a core task of the Supervisory Board. It enables the Supervisory Board to influence the future strategic direction and success of the company. In practice, however, Supervisory Boards oftentimes fail to take on this important responsibility. Quite commonly, the successor is chosen by the incumbent CEO and merely rubber-stamped by the Supervisory Board.
Such an approach is problematic for two reasons: Firstly, the CEO faces an inherent conflict of interests when it comes to identifying and developing one or more potential successors over a longer period of time, as this inevitably increases the risk for him to be replaced prematurely. This may lead to CEOs trying to keep the pool of potential successors as weak as possible. A behavior which, by the way, is also frequently observed in politics. Secondly, succession decisions tend to be more objective when taken by a committee rather than an individual. This is especially true when the Supervisory Board is composed of members with different sets of knowledge, skills, genders, etc. ("diversity")—as it should be ideally—thus covering a wide range of perspectives.
- Selection criteria based on long-term corporate strategy
Another common mistake in CEO succession planning is to select candidates primarily based on past performance. But what worked yesterday, may not necessarily work today or tomorrow. Therefore, candidates should be assessed according to whether they have the necessary leadership skills and qualities to successfully implement the long-term vision and strategy of the company and navigate the company through unpredictable market and competitive conditions. The corporate strategy should always be the basis for this key personnel decision.
- Strategic succession planning as a systematic, ongoing process
Promoting and selecting suitable CEO successors doesn’t take weeks or months, but years. Therefore, the members of the Supervisory Board should deal with the issue continuously and routinely. This includes ensuring that they personally get to know potential successors in the organization, actively promote their talents, and monitor their performance periodically based on clearly defined, comprehensible criteria. In addition, their performance should be compared and benchmarked with outstanding external candidates. The board should always have a list with the names of key executives in the drawer who are capable of taking over the management of the company at any time. The same goes for all members of the Board of Directors, not just the CEO.
- Keeping things confidential
The list of top succession candidates should be kept a secret as long as possible, both internally and externally. This reduces the risk that key executives who are not on the list may leave the company. In addition, revealing this information too early would undermine the incumbents CEO’s authority. It is, therefore, advisable to keep the circle of those who know as small as possible and clearly communicate that leaking out any information regarding the CEO succession planning will have serious consequences.
- Incorporating succession planning into the corporate culture
Good succession planning doesn’t stop at the first or second management level, but goes all the way down to the bottom of the company. There should be a “succession culture” nurtured by appropriate HR programs (e.g., job rotation).
The appointment of a new CEO is always a certain risk for a company. With robust succession planning, however, this risk can be significantly reduced. As shown by the study cited early, shareholder return decreases by an average of 13.5%when the succession is unplanned, but by only 4% when it is planned. So better invest the necessary time and resources and establish an efficient succession planning process in your company. It is worth it!
Favaro, K., Karlsson, P.-O., &, Neilson, G.L. (Summer 2015). The $112 Billion CEO succession problem: Poor planning for changes in leadership costs companies dearly. Getting it right is worth more than you might think. Strategy & Leadership, Nr. 79.