While CEO turnovers at big public companies are inevitable and rarely easy, a forced CEO turnover costs a large company $1.8 billion more in shareholder value than a planned turnover, a report said.

In terms of shareholder value, simply having a CEO turnover reduces median total shareholder return to -3.5 per cent in the year after the turnover takes place, based on the last three years of data (shareholder return is measured relative to the indices that companies trade on), according to the newly released 15th annual study of CEOs, Governance, and Success by Strategy&, a part of the PwC network.

When a CEO turnover is forced – i.e., not part of a planned succession or the result of M&A – the cost is especially high. Median relative total shareholder return drops to -13 per cent at these companies in the year leading up to the turnover and only recovers somewhat to -0.6 per cent in the year after.

This compares to figures of -0.5 per cent and -3.5 per cent in the year leading up to and the year following companies’ planned successions. Moreover, the report estimates that companies that have undergone forced turnovers in recent years have annually foregone $112 billion – $1.8 billion per company – more than would have been lost if those successions had been planned.

“While firing the CEO can be the right call, it’s enormously costly. When you quantify the cost of turnovers, particularly forced ones, you get a strong sense of the importance and payoff involved in getting CEO succession right,” said report co-author Per-Ola Karlsson, senior partner at Strategy&, formerly Booz & Company.

If the share of forced turnovers drops to 10 per cent of all turnovers, from the average of 19 per cent seen between 2011 and 2013, the world’s largest public companies could add, in aggregate, an additional $60 billion in value, according to the report.

Companies are moving in the right direction

Companies have indeed been getting better at CEO succession. The percentage of CEO successions that are planned climbed to 82 per cent in the 2012-2014 period from 63 per cent in the 2000-2002 period, according to the report.

In the Middle East 75 per cent of turnovers were planned these last three years.

“Middle East companies are showing the same positive development we have seen across the world with substantially more CEO turnovers being planned and this past year was a record low with 83 per cent of all turnovers being planned,” Karlsson continued. “We do see that Boards are making succession planning a clearly greater priority than in the past”.

Further, 78 per cent of companies undergoing planned successions in 2014 promoted someone from within the company to fill the CEO post. “This is a healthy rate for insider successions – and insiders give companies some advantages. Our research shows that outsider CEOs have been forced out of office – a costly event – 44 per cent more often than insiders,” Karlsson said.

“This is one dimension where we see Middle East companies differ, appointing as many as 50 per cent of CEOs from outside of the company on average these last five years. If an industry is being disrupted and new capabilities are required to compete, hiring an outsider can make sense.

“However, insiders typically have slightly longer tenures and have delivered higher total shareholder returns – annualized and regionally adjusted – over their entire tenures in 10 of the 15 years we have tracked,” he added.

Still room to improve CEO succession

Although companies have made significant strides in their CEO succession planning over the last 15 years, there’s always room for improvement.

“When companies do succession planning right, they make CEO governance an ongoing agenda item at board meetings, and work to get in front of issues before they become disruptive,” said Karlsson.

“Hundreds of billions of dollars in potential future value will depend on how well the world’s largest companies can improve their succession practices in coming years,” he added. – TradeArabia News Service