Botched leadership handovers can severely impair company performance. To satisfy investors, boards need to take succession planning more seriously, argue Trevor Green and Louise Piffaut.
Read this article to understand:
- Why corporate succession planning matters to equity investors
- How poorly handled CEO transitions can destroy value
- How companies can improve succession planning
In the acclaimed HBO television series Succession, Brian Cox plays Logan Roy, irascible billionaire and CEO of Waystar Royco, a global news conglomerate. When Roy is taken ill, his children start manoeuvring to replace him – only to find the ailing patriarch is reluctant to give up the reins.
Based loosely on Rupert Murdoch’s media empire, the show depicts the bitter tussle for control of Waystar, played out against a backdrop of tabloid scandal and political intrigue. But for all its soapy twists, Succession hits on a broader truth about corporate governance. Too few companies have a robust plan for when the chief executive steps down.
To replace a CEO, company boards must consider several key questions. What kind of leader is needed to implement the strategic priorities of the business? Is continuity or fresh thinking required? How will markets react to a new hire?
Without a strategy for the transition, companies are often left scrambling for answers under the glare of media and shareholder scrutiny.
Planning to fail
Perhaps it is not surprising, then, that poor hiring decisions are common. This is bad news for investors, as a failed CEO appointment can have a material impact on performance. A recent Harvard Business Review study found botched succession planning wipes out close to $1 trillion in market value every year among companies on the S&P 1500.1
These costs stem from a variety of factors. Some companies underperform after hiring unsuitable external candidates; others after promoting insiders who prove unequal to the top job. The loss of intellectual capital among firms whose CEOs leave to take other opportunities was also found to have a negative effect on value across the index.
The departure of a long-serving and well-respected chief executive presents special difficulties. In 2022, two American corporate giants turned to respected former bosses in a tacit admission of their failure to find adequate replacements the first-time around. The Walt Disney Company restored Bob Iger as CEO, two years after he retired from the role; Starbucks brought back Howard Shultz as interim chief executive for a third stint in charge.
Drift and uncertainty
Perhaps these cases are forgivable, given the challenges in finding a leader with the requisite skillset to helm the world’s largest corporations. But smaller companies, too, often struggle with succession planning.
There are several recent examples of this in the UK. Take London-listed magazine publisher Future. In September 2022, the company was caught off guard when a news story suggested its highly regarded CEO, Zillah Byng-Thorne, was planning to step down.2 After the company’s share price fell more than 15 per cent in the first day of trading following the report, Future put out a statement confirming Byng-Thorne had “informally indicated her intention” to depart before 2024.3
Smaller companies often struggle with succession planning and there are several recent examples of this in the UK
Investors were understandably concerned Byng-Thorne, who had overseen a successful expansion of Future’s business after taking over in 2014, was moving on. But the bigger problem was the apparent lack of preparation on the part of the board. With no successor lined up, the company confirmed it had enlisted a search consultancy to scour the market for candidates, suggesting it faces a prolonged period of uncertainty while a replacement is found.
A similar sense of drift grips Asia-focused insurer Prudential, joint listed in London and Hong Kong. In February 2022, the company announced Mike Wells would step down as group chief executive after a seven-year stint. Although it acted relatively swiftly to anoint a successor in May – poaching Anil Wadhwani from rival firm Manulife – he will not formally take over until February 2023.4 The delay has left the company effectively rudderless during a tumultuous period in its target markets, as China’s disorderly exit from its zero-COVID policy and continuing political ructions in Hong Kong weigh on sentiment.
Ready for change
As these examples illustrate, failures in succession planning occur at large and small firms, across geographies and sectors. So how can companies do better? We see three key lessons.
First, boards must take succession more seriously. While there is evidence companies have become more focused on the issue – partly due to increased leadership churn during the convulsions of the pandemic5 – further progress is required. Over half of board members in a recent survey of over 500 US companies admitted they needed to improve CEO succession planning.6
Preparing for leadership change is a primary responsibility of a company’s chair
Preparing for leadership change is a primary responsibility of a company’s chair, whose remit involves looking beyond day-to-day operations to consider longer-term strategy. Thought must also be given to emergency scenarios, such as when a long-serving CEO is unexpectedly poached by a rival or compelled to step down due to ill health.
Good succession planning will involve an honest appraisal of the current CEO’s strengths and weaknesses and the skills required during the next phase of the company’s development. Say the incumbent has pursued growth via M&A deals; in that case, the ideal successor might be a candidate who can build on their predecessor’s work by pivoting to a more conservative approach.
Take Spanish telecom company Cellnex, which is going through just this kind of transition. The firm previously achieved growth through acquisitions, but more recently has focused on lowering debt and consolidating its presence in markets where it is already active. CEO Tobias Martinez Gimeno announced his resignation on January 11, citing the strategy change in his resignation letter and acknowledging the need to hand over to someone who will pursue a more organic approach.7
Succession planning is just as crucial when the current chief executive is a long-serving industry stalwart. Longevity can breed complacency and, as the market’s response to Future’s leadership uncertainty indicates, star CEOs bring “key person risk”. It is neither healthy nor sustainable for a firm to become reliant on a single individual.
This brings us to the second lesson for succession planning: companies must cultivate leadership talent internally.
If rising stars are identified early, they can be given coaching opportunities and rotations that broaden their skills and experience well before a vacancy arises. Companies might also consider bringing succession candidates onto the board, so their work can be assessed first-hand by other directors.
Research suggests CEOs need seven core competencies
A recent study suggests CEOs need seven core competencies: results orientation, strategic orientation, collaboration and influence, team leadership, organisational capabilities, change leadership and market understanding.8 The relative importance of each will vary depending on the context, but can be honed among the leaders of the future.
This is not to say an insider is always the appropriate choice. If a company is failing and needs a fresh strategy, an external hire may be preferable. But research shows that where a business is performing well, a smooth and swift transition to a capable internal executive is usually the best option, especially given the increased costs in looking externally.9
Recent examples of good succession planning showcase this sort of seamless handover. Take oil and gas giant Shell, where Wael Sawan was appointed on January 1 to replace CEO Ben van Beurden, due to retire later this year. By the time the news of van Beurden’s departure broke in September 2022, the board’s succession committee had already narrowed down the shortlist of internal candidates to four, suggesting it was well prepared. Two weeks later, it confirmed Sawan’s appointment.10
Sawan rose up the ranks at Shell, latterly running its integrated natural gas and renewables division, and his appointment was well received by markets. Van Beurden will stay on as an adviser to the board until mid-2023, offering continuity during a key period in Shell’s history as the company positions itself for a lower-carbon future.
The third lesson is that to minimise disruption, companies should consult a range of stakeholders at an early stage in the succession process, including shareholders. This is not to argue investors should be given the final say, only that is sensible to get a sense of what they are looking for in the next CEO.
A good example is the London Stock Exchange Group, which undertook talks with shareholders, including Aviva Investors, when former CEO Xavier Rolet left in 2017. Given the complexity of the business, LSEG had several factors to consider in appointing a new chief, including technical expertise and regulatory knowhow. It was logical the firm engaged with investors on these issues.
The board eventually hired ex-Goldman Sachs executive David Schwimmer. While not all shareholders were happy with Rolet’s departure,11 the company has performed strongly on Schwimmer’s watch, successfully upgrading its data and analytics capabilities through an eye-catching partnership with tech giant Microsoft.12
A diverse range of internal views can help build a rounded picture of the strengths and weaknesses of candidates
As well as input from investors, a diverse range of internal views can help build a rounded picture of the strengths and weaknesses of candidates. Soft skills, such as cultural understanding and emotional intelligence, are important in a modern CEO, so it makes sense for boards to solicit input from candidates’ previous reports.
It can also be helpful to involve the incumbent in succession planning, although companies should be wary of delegating the process to powerful CEOs. After all, even the best corporate leaders are rarely adept at choosing their own replacements. Just look at Disney’s Iger and Starbucks’ Shultz, permitted to handpick their successors before being persuaded back to replace them. Or, indeed, the ageing media baron in Succession, who consolidates his own power even as he anoints potential heirs.
By contrast, effective succession planning tends to happen at the board level, and involves patient strategy, consultation and the nurturing of leadership talent. Such tasks may not be the stuff of great drama, but they will likely create value for companies and their investors over the long run.