What about Succession Planning?

February 2, 2009 at 6:49 pm 2 comments

There is not a day or possibly even an hour that goes by any more when there is not some new outcry about executive compensation excesses. It is even being speculated that the era of compensation liberality is over on Wall Street. To examine and contemplate this topic is definitely necessary and important. However, to do so without considering the impact of succession planning (or lack thereof) overlooks a considerable part of the problem.

Jack Welch, the former Chairman and CEO of General Electric is about as well regarded a leader as it gets. In fact, in 1999 he was named “Manager of the Century” by Fortune magazine. Welch is famously known to have begun his succession planning years before his retirement. In 1991 Welch stated: ‘From now on, choosing my successor is the most important decision I’ll make. It occupies a considerable amount of thought almost every day.” Welch retired from his role at GE ten years later in 2001.

Let’s consider a very different but related scenario. In the late 1990’s after years of unbridled success The Home Depot was facing a variety of business challenges and after years of growth had reached a plateau. As a result and in part because the timing was right, in late 2000, the Board passed over the company’s executive team and hired Bob Nardelli to be the company’s new President and CEO. Nardelli had been one of three executives vying for the CEO role in the aforementioned succession race at GE. Despite the fact that he had no retail background and no consumer products experience, Nardelli was thought to be right for the job.

Approximately six years later, Nardelli was out of Home Depot and in spite of a few positive results, his tenure there was widely considered a failure. Nonetheless, despite his lack of success and much to the dismay of shareholders, Nardelli left Home Depot with a $210 million severance package.

Nardelli’s case, while extreme is not completely unusual. There are numerous cases in recent history of unsuccessful CEOs walking away with excess severance. Carly Fiorina at Hewlett Packard is an oft sited example. This tendency of both augmented severance and typically magnified compensation for externally recruited CEOs comes from such elements as signing bonuses, large initial equity grants and make-whole payments not to mention salaries to compensate the new CEO for at least some perceived risk inherent in taking on the leadership of a new organization. Additionally, when discussing excess compensation and severance one does not typically include the additional cost of the resignations of one or even several senior level executives from within the company who had aspired to the top job.

It has been shown that internally promoted CEO’s cost the company less financially. According to Equilar®, an independent provider of executive and director compensation data and research, at Large Cap companies, CEOs promoted from within a company received a median compensation package that was 14.2 percent smaller than the median pay package for tenured CEOs. The gap was 22.5 percent at Mid Cap companies and 19.6 percent at Small Cap companies. Additionally, internally promoted CEOs do not face many of the political issues of their externally appointed counterparts and typically have been shown to enjoy a longer tenure in their job. Additionally, promoting from within sends the message within the company that aspirations and achievements are rewarded and essentially “the sky’s the limit” for those that contribute to the company in significant ways.

Given all of the financial, motivational and psychological benefits wouldn’t it behoove Boards of Directors and sitting CEOs to pay more attention to this very central part of their obligations. There is, of course no guarantee of success in either scenario but as the old adage goes…the grass is NOT always greener!

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Is Director Independence Enough? Succession Planning – Chapter 2!

2 Comments

  • 1. Frank Feather  |  February 2, 2009 at 7:28 pm

    Patricia:

    I agree that all too often succession planning is left to the very last minute, or is simply an informal affair where top management or the Board suddenly realize that the CEO is about to retire and nobody has been put in place or groomed to succeed that officer. Then, the kinds of mistakes you cite as examples can occur.

    However, on that score, I do not necessarily agree that succession should come from the internal ranks. It depends on the complexity of the operation. It very often can be better to bring in an outsider, with a fresh perspective on how the corporation ought to proceed. A truly competent manager/leader should be a fast study who can quickly get themselves up to speed on the company’s idiosyncrasies.

    But whether the search is internal or external, suitable candidates should be identified well in advance, and those selections reviewed often. After all, any CEO can become incapacitated tomorrow, and plans need to be put in place in the event of such a misfortune.

    Cheers! Frank

  • 2. bob  |  February 3, 2009 at 8:31 pm

    With help from leadership development firms like RHR International, companies should assess executives and build plans for development to shore up their succession plans. In addition, every company should continuously identify and introduce top talent from the market in order to support unplanned changes. By establishing relationships with top executives in the market, the company will benefit from a faster hire, and gain valuable insight along the way (market intel, competitive intel, compensation, market perception, etc.)

    My two cents…


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