Listen to this article
Succession planning has provided dramatic material for playwrights even before Shakespeare penned King Lear. Now regulators are looking at succession planning in a corporate context, albeit less poetically.
Last month, the UK’s Financial Reporting Council (FRC) issued a discussion paper to look at defining best practice in succession planning for top directors.
“It is clear from our research the absence of strategic, thoughtful and practical succession planning can be a substantial risk to long-term success,” said the FRC, echoing the concerns of many investors, lenders, regulators and credit rating agencies.
In essence, lack of planning and a failure to develop executive strength undermines corporate culture, while well thought out succession is a weapon against “group think” and the complacency that led to the banking crisis.
The arrival of a new boss can harm shareholder returns, explains Per-Ola Karlsson, a partner of Strategy&, part of consultancy PwC.
Change at the top prompts executives to question priorities and strategies, and to worry about their jobs. Too often businesses lose momentum, Mr Karlsson says, even when appointments are carefully organised. But when planning is poor, the effect on returns can be devastating. Strategy&’s 2014 study of the world’s 2,500 largest quoted companies found that those that had fired their chief executives had lost an average of $1.8bn in shareholder value compared with businesses that had planned successfully ahead.
Worse, Mr Karlsson warns companies “get into a vicious circle”. Those performing badly tend to force out their chief executives and hire replacements from outside. Shareholder returns can drop further, the outsiders disappoint and are in turn forced out, he says.
Succession planning has been tested this year across the banking sector, both at Goldman Sachs, where chief executive Lloyd Blankfein has revealed that he has a form of “curable” cancer, and then at Standard Chartered and Deutsche Bank, both of which have replaced their chief executives.
Succession is also clearly on the minds of Morgan Stanley’s board. It recently put two rising stars — Edward Pick and Daniel Simkowitz — on a top operating committee. The duo are widely seen as potential replacements for James Gorman, the bank’s chief executive.
Barclays’ planning looks less adroit after its new chairman ousted Antony Jenkins, chief executive for three years, and then had to cast about for a replacement from JPMorgan in the shape of Jes Staley.
It is easier to point to examples of poor planning than good ones. When transitions work smoothly, they generate less attention. There is nothing like a boardroom bust-up, a top executive quitting for a rival, or a charismatic business leader being struck down by the unexpected to create drama.
Even before the recent scandal over US emission tests at Volkswagen, the motor manufacturer had been thrown into turmoil by the abrupt resignation in April of Ferdinand Piëch, VW’s chairman, who had more than 20 years at the top and was a member of the family owning a majority stake in the group. Mr Piëch, whose departure followed a row with Martin Winterkorn, the group’s ambitious chief executive, had no obvious successor.
Within five months Mr Winterkorn was also out of a job, following revelations that VW had systematically cheated on US emissions tests.
Replacing entrenched executives who have become synonymous with their businesses is particularly fraught. It has become the abiding concern for investors in global advertising empire WPP, which has been led by its 70-year-old founder Sir Martin Sorrell since 1986. WPP is a prime example of a company with a huge amount of key person risk, the National Association of Pension Funds said recently.
Standard Life Investors has been outspoken in stating that the first priority of Roberto Quarta, WPP’s new chairman, should be dealing with the group’s “succession elephant”.
Headhunters advise companies to make succession planning an integral part of the chief executive’s job. The first task for any new boss should be to line up potential replacements. Best practice suggests good leaders foster talent and ensure someone can step up in an emergency.
However some suggest leaders can instead use such a process to identify rivals and eliminate future competition in the manner of the emperors of ancient Rome or the Ottoman sultans.
“Conflicts of interest are obvious,” says Mr Karlsson. The board rather than chief executives should control the process of picking successors, warn many shareholders. The temptation for most incumbents will be to anoint successors who will protect their legacies.
That was the fear when Steve Jobs’ role went to Apple insider Tim Cook. To mitigate against companies taking the in-house route merely out of convenience, all line-ups should include an external candidate to act as a benchmark, says headhunter Heidrick & Struggles.
Get alerts on Fund management when a new story is published