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The succession planning challenge
Succession planning is now seen as a key governance issue. But can you really plan succession, who should plan for it – and who should be covered with a succession plan? In this article I want to share views from academics and governance experts as to what the issues are around succession planning and some of the best ways to go about it.
Some time ago I heard of a private dinner in London where the heads of private equity firms and banks were discussing succession planning. Apparently the debate got extremely heated with half the room vociferous that every CEO should have identified their successor and be grooming them to take over – and the other half (mostly private equity) insisting it is a waste of time, unrealistic and rarely can you successfully choose someone a few years off when they need to step into the role.
The global accounting firm EY says of succession planning: “The key to getting succession planning right is maintaining an ongoing and dynamic process.” PwC’s Governance Insights Center lists succession planning as one of its 11 key governance issues. And the UK Corporate Governance Code says: “The board should satisfy itself that plans are in place for orderly succession for appointments to the board and to senior management, so as to maintain an appropriate balance of skills and experience within the company and on the board and to ensure progressive refreshing of the board.”
So there is no doubt that whatever those in private equity may have been thinking, those who lead the way in governance see succession planning as core to good governance and ensuring a long term, sustainable business.
What are the issues of poor (or no) succession planning?
Asking chief executives and directors to find and coach their successors is a bit like turkeys voting for Christmas. It makes them face everything from their mortality to the fact that their successor may need to be different or better than they are.
Stefan Stern, visiting professor in management practice at Cass Business School, London argues in an article for the FT that power can have an intoxicating effect on leaders. He says they may form an exaggerated sense both of their competence and their indispensability – and then fail to detect much merit in anyone else around them.
He refers to a survey of 200 UK finance directors highlighting that 55 per cent had no succession plan in place, should they leave their company. Some said they did not have time to plan, others that the talent appeared to be lacking, at least internally.
And this leads to the point that a director may be expected to find a successor who is better than they are. In the same article Lesley Uren, a talent management expert at PA Consulting, says it is a rare chief executive who has the self-confidence to put the question of his or her departure on the agenda. “You are perhaps being asked to think about people who may be better than you in the job,” she says. “The complexity involved in leadership roles is only likely to increase. So looking for a successor means finding someone who is you, and more.”
The financial cost of good and poor succession planning
Research by Wharton management professor Matthew Bidwell, shows “external hires get significantly lower performance evaluations for their first two years on the job than do internal workers who are promoted into similar jobs. They also have higher exit rates, and they are paid “substantially more.” About 18% to 20% more. On the plus side for these external hires, if they stay beyond two years, they get promoted faster than do those who are promoted internally.”
Research by Strategy & Business showed that companies that have to fire their CEO forgo an average of $1.8 billion in shareholder value compared with companies that plan, regardless of whether the replacement is an insider or outsider.They say there is a far greater payoff to getting CEO succession right than current succession practices and investments would imply. 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. The tables below show the financial impact of succession planning.
What is the impact of poor succession planning?
Stephen A. Miles of Heidrick & Struggles and Nathan Bennett, professor of management at Georgia Tech, look at Best Practices in Succession Planning in a Forbes article. Written in 2007, they reference two chief executives who had just left unexpectedly from Citigroup and Merrill Lynch.
They said: “Equally surprising is the fact that neither company has demonstrated that a strategic approach to succession planning was in place. Because the board of directors has responsibility for governance, the development and execution of a thoughtful succession-planning process must receive its full consideration. Unfortunately, such efforts are too often underdeveloped, unevenly executed and sometimes simply ignored. When boards permit a happenstance approach to succession planning, they have effectively abdicated one of their most crucial responsibilities.”
Understanding your senior management team
The summary of all this research points to the need to identify internal candidates early but also to keep plans and candidates ‘dynamic’ – watching the market and regularly evaluating what the next generation of talent needs to look like.
Despite the clear benefits of succession planning strategies that identify and nurture internal talent, a study by Stanford shows boards still know little about their senior management and describe it as a “critical stumbling block in the succession process”.
“While we found that many directors interact with senior executives periodically in a boardroom setting, they do not have extensive exposure to them outside of the boardroom nor do they have detailed knowledge about their skills, capabilities, or performance,” observes study co-author and Stanford Graduate School of Business faculty member David Larcker. “This can be a serious liability when the time comes to identify a successor to the CEO, and can unnecessarily extend the CEO search process.”
The research found just 55% of directors claimed to understand the strengths and weaknesses of key executives, 77% were not involved in performance evaluations for their top executives and only 7% assigned a director to mentor senior executives.
I think succession planning is one of the hardest challenges that faces any board. It is never a priority until it is a priority! And predicting the talent that a business will need for its next stage of development is not only difficult, but the person choosing their successor has no real stake in the success of this choice.
I want to look at what experts say is best practice for succession planning, in a future article. I would welcome your views on both the issues and your own thoughts about best practice.