CEO Succession Planning
How can board search committees objectively assess and rank seemingly equally competent CEO candidates, all with stellar track records, bullet-proof references and articulate, polished rationales for why they should be the next leader?
Charisma, superior intellect, integrity, personal dynamism and team-building skills. What board of directors would not want their company’s future leader to possess these qualities? That much is obvious. But what about the skills, experience, competencies and results an individual should possess to lead a particular company through a set of highly specific implementation challenges?
This level of contextual and realistic analysis is an area where even the most thoughtful boards can stumble. Board search committees must somehow objectively assess and rank seemingly equally competent CEO candidates, all with stellar track records, bullet-proof references and articulate, polished rationales for why they should be your next leader.
As a search committee member, how do you assemble a list of the right selection criteria? How do you filter this list down to only the most essential items, ones to which the search committee adheres throughout the entire search process? How do you weed out ambiguous, even contradictory criteria? How do you ensure that criteria that reflect past accomplishments and results are complementary to more intangible criteria such as leadership style and demeanor?
To demystify the CEO succession process and help match real skills to real needs, we have developed a more rational approach to help boards navigate through this process and make better leadership choices.
1. Abandon hope for a corporate savior. Much that is wrong with the CEO search and selection process today can be traced to a conceptual error and an emotional reaction. The conceptual error made by directors themselves - as well as by investors, analysts and other external power brokers who influence directors’ attitudes and behavior consists of overestimating and poorly defining the role of their future CEO in driving corporate performance. The emotional reaction involves an attempt by directors to relieve the uncertainty and stress they feel under conditions of daunting challenges and high uncertainty by bringing in a corporate savior. The belief in mystical powers and a limitless range of abilities—largely driven by directors’ own acute anxieties—can lure directors dangerously far from the hard and necessary work of pinpointing the concrete skills and experience that a new CEO should possess.
2. Translate company strategy into operational terms. Well-managed boards view the CEO succession process as a matter of defining the skills and experience that a new CEO must have to carry out the firm’s strategy, then finding (or developing) a person who actually possesses the needed skills and experience rather than just a dazzling reputation or a famous name. They are not caught off guard when the time comes to hire a new CEO because, as a matter of principle, they never stop thinking about CEO succession. Indeed, for such boards, succession planning is integrated into a broader—and critical board process of regularly thinking about and debating the firm’s evolving strategy and emerging competitive threats and determining the skills that all top executives need to execute the strategy and deliver superior results.
Good boards view succession planning as a way of systematically reflecting upon the specific levers that the CEO—and other top managers—can and should pull to effect organizational change. CEOs, while only one term in the organizational equation, obviously affect the way in which value-creating activities are performed, monitored and rewarded. Which value-creating activities a firm chooses to focus on and how they are implemented is, in turn, the cornerstone of competitive advantage. Yet because large companies perform literally hundreds of interrelated, value-creating activities, it can be difficult for even the most responsible boards - especially ones with several outside, “independent” directors to understand clearly the way in which these many activities create value and, more to the point, how a new CEO can affect the success with which they are carried out. Thus there is no getting around the need for boards to work hard at gaining the necessary understanding and to give up the belief that some corporate savior can pull each of these hundreds of levers with equal acumen.
To do this, board members must dig deep and ask tough questions. Boards must also develop better means than many now have for systematically obtaining relevant, specific information about how the company creates value. Recent comprehensive studies convincingly argue that a full 40 percent of directors do not have a sufficient understanding of their firms’ value-creation process. This is the critical roadblock for good corporate governance, as companies adjust from legally mandated board compliance to strategically focused board empowerment. The lack of understanding is hardly surprising given the way in which information generally flows from senior management to the board. In many firms, for example, thick binders of market data and analysts’ reports are compiled and distributed to directors by the CFO two weeks before the board convenes. How many directors have the time or inclination to comb through these binders? How do such masses of ill-digested information help them understand the value-creation process?
To remedy the gaps in board members’ knowledge of their firms, many leading board governance experts, including Jay Lorsch of the Harvard Business School, convincingly argue that boards should “map” the company’s strategy at a high level to enable themselves to visualize why and how performing certain activities helps achieve objectives and goals along several critical dimensions—financial, customer, operational and developmental. For example, implementing programs designed to reduce employee turnover may or may not be a wise allocation of scarce corporate funds in a given set of circumstances. But a strategy map will visually illustrate the correlation, or set of cause-and-effect linkages and pathways, among employee retention, deeper understanding of customer needs, enhanced customer loyalty, bigger margins and enhanced profitability.
The strategy map allows the board to understand, and for the first time actually see, on one sheet of paper, how intangible assets such as people and customer knowledge get converted into tangible economic value (The Strategy-Focused Organization: How Balanced Scorecard Companies Thrive in the New Business Environment, Robert S. Kaplan and David P. Norton, Harvard Business School Press, 2000). And providing boards with this kind of high-level, objective information is the first, critical step to good succession planning. This is not creating strategy anew. Far from it. Rather it is translating the existing strategy into easy-to-digest operational terms that the board can get and keep its arms around as the strategy evolves.
3. Identify skills needed for key activities: activity/competency mapping. Armed with this information, the search committee can for the first time genuinely understand and actually see where the highest-impact, value-creating levers will be during the next several years. Most good directors already have an instinctive feel for some of these levers. But the strategy map provides the whole picture and reinforces board instinct with objective, data-driven and tested insight. This in turn will allow the board to focus its search on the key executive skills and past experiences—we call them competency drivers needed to effectively pull these sometimes very sticky levers. What the search committee discovers, ironically, is that industry expertise, past experience as a chief executive, or a career within or outside of the firm are not necessarily the key success factors.
Yahoo, for example, lured Terry Semel out of a cozy retirement in 2001 after a highly successful stint as co-head of Warner Bros. Virtually every Wall Street analyst was in shock about the gray-haired, soft-spoken succession choice. Even Semel himself admitted that he was not sure why he was chosen to lead a brash group of Internet entrepreneurs. Fast-forward two years to today, and Yahoo’s choice looks prophetic. Yahoo has made significant strides implementing a more focused strategy revolving around careful new product introductions that can fully leverage its massive installed base of users. Indeed this bears a striking resemblance to the initiatives Semel led and activities he performed at Warner Bros., selecting and developing high-potential motion pictures for widespread national distribution.
The board search committee bears the responsibility—but with input from the rest of the board—to zero in on the key activities, debate and agree upon the skills, knowledge, experience and passion needed to successfully implement critical activities and to ensure the entire search process revolves around candidates who have these qualities. The search committee must make tough choices about candidates. Deciding what skills are not important is just as critical as determining those that are. When we work with board members, we insist upon this kind of discipline and trade-off mentality to sharpen focus and to reduce the temptation to succumb to the notion of “charismatic” CEOs who may possibly have little substance or irrelevant experience.
4. Assess internal candidates. From 1980 to 2000, the percentage of outside candidates selected for new CEO positions soared from 7 percent to 50 percent. Giving up the hope of finding a corporate savior should help search committees focus more on internal candidates. The search committee should take a close look at the kinds of projects and initiatives that rising stars within the company have undertaken. How similar were these activities to the ones that will be critical to the organization going forward? What kind of training can the board provide to rising stars to ensure that competency levels and successful track records are enhanced? What are realistic - not “stretch” targets - for these initiatives?
Conducting an in-house search can also shed light on how and why to rotate rising stars across divisions, business units and geographies during a “grooming” process that ensures that the pipeline of developing talent stays full. Virtually every member on UPS’s influential executive committee has risen through internal ranks, at one time even sorting packages and driving trucks, before ascending to the top. UPS now regularly incorporates balanced scorecards and strategy maps into executive meetings while assessing strategic and leadership imperatives. Even if search committees ultimately decide to bring in outsiders, there is no excuse for not continuously assessing, developing and monitoring internal candidates in line with mission-critical activities and the objectives associated with that theme. Board members often ask us to help them create “groom maps” for rising stars, which are frequently reviewed, not only by the search committee but also by the entire board. Establishing early lines of productive communication between rising stars and the board pays big dividends down the road and helps keep board members up to speed in the short term.
Resources should be deployed and board-level coaching made available to give the rising star every chance for success. Jack Welch convincingly argued at General Electric that there simply was no better use of scarce corporate resources, and for that matter his own time, than developing future company leaders. Search committees are responsible for the careful tracking, updating and debating of how and why rising stars hit or missed these targets, using the groom map as the central tool. Bottlenecks should proactively be uncorked and new skills developed so that rising stars emerge into future leaders.
5. Search for external candidates. Almost no firm can rely exclusively on internal talent. Fresh ideas and new perspectives are sometimes needed in even the most talent-rich organizations. Executive search firms (ESFs) provide clear value in helping companies bring in new talent from the outside. But when engaging an ESF the board’s search committee must understand how the ESF can add value and how the directors can and should help. ESFs have several competencies that boards do not. ESFs can open executive doors; conduct thorough, fact-based research on candidates; ensure privacy; provide legitimacy; set expectations; and rapidly help develop a working relationship between the board and candidates.
However, an ESF will never be able to understand a company’s business better than a responsible board member can. Search firms are only as good as the information that the search committee provides them. For example, no matter how stellar its reputation, an ESF cannot possibly generate the kind of specification sheet that we have described above, particularly in the three-to-five week period during which the research phase of a typical retained CEO search is expected to be completed.
The board must first do its homework and then educate the ESF with regard to the dominant strategic theme, objectives, measures, targets, projected initiatives and expected results of the organization. It should also provide the ESF with a detailed assessment of what the search committee agrees are the key competency drivers of future executive success, given the many activities and initiatives that will be deployed. This is critical, as the future leader will create value in two ways. First, by actually performing key activities, such as nurturing important customer relationships and developing new marketing strategies. And second, by controlling the levers - processes, controls and other internal systems - that influence the way others perform key activities, like allocating resources to new training programs, setting appropriate milestones and targets, monitoring performance, transferring knowledge, and linking compensation to the right strategic drivers of success.
The search firm’s task is then to identify candidates, spawn interest among them and test them on their ability to meet the resulting requirements. If guided correctly, the ESF should stay busy by generating answers to the following questions:
6. Test and choose from short-list candidates. Boards should test short-list candidates using highly interactive case studies, perhaps even involving actual company situations (although with key details disguised to protect confidential information). For example, a handful of candidates could individually be invited to debate with the top management team the pros and cons of building a new manufacturing facility in a given location. The outgoing CEO or board chairman could moderate this process, perhaps with a trained facilitator present.
The idea is to provide a true test of: the overall chemistry between the candidate and the directors and between the candidate and other key executives; whether the candidate can build upon and refine other team members’ ideas; and, frankly, how good his or her ideas seem to be. Critical insights into “how” the CEO would likely implement key activities - a major component of the firm’s overall strategy - will be thrown into stark relief through this interactive process. Moreover, the specific skills and past experiences of the candidate would be illuminated during the process as the facilitator probes issues such as (to use the hypothetical situation just mentioned) how the candidate would want to ensure that the company could recruit and train the right kind of people in the prospective location, how it would control costs, how it would enhance efficiencies at the new plant, etc.
After conducting such interviews, the search committee would rank each candidate on criteria previously agreed upon, and then choose its preferred candidate or candidates on the basis of these rankings. Changing the ranking criteria in midstream is dangerous. It signals that the board is losing focus, comparing candidates against each other instead of against the strategic requirements, or even worse, succumbing to the belief in a corporate savior/charismatic CEO.
7. Calibrate goals, milestones and compensation to strategic drivers of success. During the compensation negotiation process, the ESF and board should stick to the company’s objectives, measures and targets when tying compensation to performance. Pay for performance is fine, but pay close attention to ensure that the latter is measured in ways that adhere to and advance company strategy. Linking CEO compensation to the most important strategic drivers of success - no more than three of them - rather than merely to short-term stock price fluctuations is a top concern of virtually every shareholder, especially large institutional shareholders that wield increasing power in boardrooms.
Proactively instituting pay-for-performance compensation packages—tied to strategic drivers of success - projects an image, and indeed the reality, of excellent board governance.
Benefits of Strong Succession Planning
Board: Confidence in robust leadership pipeline: the number one sign of good governance. Demystification of the succession process, allaying of apprehension, increase in confidence about the prospect of successfully completing the complex task of CEO search.
Departing CEO: Opportunity to ensure/enhance CEO’s own legacy by pinpointing and testing the specific skills, competencies and experience that will enable the future leader to take the company to the next level.
Top management team: A clear understanding of what skills and competencies are and will be most valued by the board, thus providing a high-level developmental roadmap.
Shareholders: Confidence and reassurance that the best possible future executives are being identified, recruited, developed and compensated based upon their ability to help the company achieve key strategic drivers of success, not share price targets in isolation.
Search firms: Better placement results because the board plays a more active role in developing meaningful search criteria. Better chance for long-term success. Higher retention of clients.
Jeffrey Cohn is a consultant who helps CEOs and boards leverage their CEO succession planning. Rakesh Khurana is an assistant professor at Harvard Business School and author of Searching for a Corporate Savior. This article was originally featured in Directorship, the monthly publication of The Directorship Search Group, and is reprinted with permission. Contact the authors by e-mail: firstname.lastname@example.org , email@example.com .
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