A New Year Predicated on CEO Transitions

Like families, all companies are different. Those helmed by entrepreneurial founders, legacy executives, or rogue CEOs—some of whom may have controlling stakes in their companies—are the outliers. For most large-company public company boards, leadership transitions take place in an orderly fashion. At least that is how they appear in their regulatory filings. Scratch the surface and stakeholders would find that successful leadership transitions are a painstaking process years in the making.

The single most important responsibility of any board is to ensure that management is up to the task of leading both in the moment and in the foreseeable future. Planning for CEO succession requires board diligence to assure strength and depth on the bench and a robust talent pipeline.

As we embark on our first newsletter of 2024, a confluence of factors contribute to Farient’s expectation that 2024 will be marked by leadership transition among America’s largest companies.

The most striking evidence? A survey of nearly 200 U.S. public company board members conducted by Corporate Board Member and Farient Advisors found 64 percent of respondents expect to lose a member of their C-suite in the next two years, and 57 percent reported having already experienced some level of voluntary turnover.

This rising talent risk is also reflected in the pace of turnover, which has accelerated. Challenger, Gray and Christmas reported in December that throughout 2023 more than 1,710 chief executives left their roles at nonprofit, public, and private organizations. That constituted a 51 percent increase from the 1,135 CEO changes it tracked during the same period in 2022. The current rate of departure exceeded any year since the executive coaching and recruitment firm began tracking exits in 2002.

The length of CEO tenures is also shortening. A recent analysis conducted by Farient found subtle shifts in both the median and average tenures of S&P 500 CEOs (see charts). Another analysis, conducted by Equilar, found that between 2013 and 2022, median tenure among S&P 500 CEOs decreased 20 percent to 4.8 years. Although the average tenure also decreased, Equilar found that decline comparatively modest—from 7.6 years in 2013 to 7.2 years in 2022. The 5.3 percent drop in average CEO tenure among the S&P 500 and the 20 percent difference in the median for S&P CEOs is worthy of note.

CEO changes currently underway at major S&P 500 companies include Alliant Energy Corp., AutoZone, Centerpoint Energy, Costco, Illinois Tool Works, and Morgan Stanley. Geopolitical uncertainties, economic fluctuations, and societal upheavals compete for a CEO’s attention alongside the formidable forces of digital transformation, energy transition, talent retention and recruitment, and myriad other factors.

The job for some becomes downright exhausting given the uncertain and complex business environment. JetBlue’s Robin Hayes cited health reasons when he announced on Jan. 8 that he would step down after nine years as CEO, effective Feb. 12. Hayes will continue to serve on JetBlue’s board and as a strategic advisor to his successor, president and COO Joanna Geraghty. “For nearly 35 years—both at British Airways and here at JetBlue—I’ve loved working in this industry,” Hayes said in a press release. “However, the extraordinary challenges and pressure of this job have taken their toll, and on the advice of my doctor and after talking to my wife, it’s time I put more focus on my health and well-being.”

That old phrase “what got you here will not take you there” should be a board’s key consideration in their planning for CEO transitions. Where the business will be in three to five years should help determine what the next CEO’s job profile, experience, skill sets, and personality traits should be.

Consider the words of Levi Strauss & Co. CEO Chip Bergh who steps down on April 12 after the apparel maker’s annual shareholders meeting. Bergh, who led a turnaround and the 170-year-old-plus company’s first public offering among other accomplishments, says he counts a successful CEO transition as his most important legacy to the company he has helmed for the last 12 years. Bergh will be succeeded by Michelle Gass who was recruited to Levi in 2022 from Kohl’s where she was CEO and Levi’s largest retail customer.

At the other end of the spectrum poorly orchestrated leadership transitions can sap a company’s reputation and share price. Examples of rocky CEO transitions abound but among the most studied involve The Walt Disney Co. and Microsoft Corp.

The 1990s battle at Disney between CEO Michael Eisner and his second-in-command Michael Ovitz that culminated in 1997 with his dismissal. Following years of tumult and a “Save Disney” campaign led by Roy Disney, Eisner was forced to step down in 2005. He was succeeded by Robert A. Iger who led the iconic entertainment company until 2021 when he became executive chair and turned the CEO reins over to Bob Chopek, whose start coincided with the global pandemic. Just months later, Chopek was terminated and Iger returned as CEO, his contract recently extended to 2026, amid challenges by several activist investors including Third Point’s Daniel S. Loeb and Trian Investments’ Nelson Peltz.

Microsoft’s failure in 2013 to name a successor to Steve Ballmer who had succeeded founder Bill Gates in 2006 raised immediate criticism that the board was ill prepared for the software company’s leadership transition. On August 23, 2013, when Ballmer’s unexpected resignation was announced, the board said it would begin a search to replace him. Months ensued between Ballmer’s resignation and the announcement that Satya Nadella would succeed him reportedly because of a disagreement between Gates and Ballmer, both board members, over who should become Microsoft’s third CEO. Nadella, now in his 12th year as Microsoft CEO, is credited with the digital transformation of the company that includes investments in cloud and artificial intelligence. Just last week, Microsoft overtook Apple to become the world’s largest company by market capital.

Nonetheless, the stock prices of both Disney and Microsoft fluctuated during leadership changes. The correlation between badly managed CEO transitions and market value was the subject of a May/June 2021 story in the Harvard Business Review. “The amount of market value wiped out by badly managed CEO and C-suite transitions in the S&P 1500 is close to $1 trillion a year.” Better succession planning, the authors projected, “could help the large-cap U.S. equity market add a full point to the 4% to 5% annual gains that Wall Street projects for it. In other words, company valuations and investor returns would be 20% to 25% higher.”

 

Farient’s View

How should boards prepare for what is likely to be a continuation of uncertainty and challenge particularly for today’s large-cap CEOs?

First, CEO succession should be any board’s top governance priority with the lion’s share of the work distributed between the nominating/governance and compensation committees. It is critical that an interim successor be known—the name in an envelope of an individual ready to step in at a moment’s notice if an unexpected incident or worse were to suddenly remove the current CEO. An orderly succession process requires great planning and greater collaboration among the board, the sitting CEO, CHRO, and the candidates themselves. Setting up a horse race between internal candidates can be risky but in the interest of preparing managers for greater organizational, functional, and financial oversight roles should be welcome.

Other considerations for the board:

• Begin CEO succession as soon as a CEO steps into the role
• Support collaboration with the CEO, internal candidates, and the CHRO
• Recognize that the development of high-potential internal candidates for the top job takes years to expose them to more expansive and challenging opportunities, disciplines, customers, and markets
• In addition to internal candidates, consider external candidates who may be recruited and cultivated into leadership roles
• Assess how to evaluate senior-level retention. Farient developed a talent vulnerability framework to help clients recognize potential talent vulnerability
• Consider how to tie investments to retention and development, i.e., how much to spend and where to place bets