Five Reasons Why CEO Succession Fails, and How to Get It Right

The road to CEO success is rocky. The average tenure of CEOs has plummeted, from 8.5 years in 2003 to 3.7 years as of 2020. The Corporate Executive Board finds that in the first year and a half in a new role, 50 percent to 70 percent of executive leaders recruited both internally and externally fail. This lack of success comes at a huge cost. Companies that have to remove a CEO forfeit almost $1.8 billion in shareholder value compared to companies with successful placements. Add to that internal disruption and lost opportunity and the cost mushrooms for companies of all types and sizes. It’s a board’s nightmare.

Despite these odds, there are some lessons to be learned about how to avoid a CEO transition failure and how to get it right in the first place. As consultants to boards and CEOs on leadership and succession, our front-row view of the missteps that create costly mistakes in CEO placement decisions offers a cautionary tale for all leaders considering their own successors and those of their colleagues.

Take the example of the first-time CEO of a growing technology company who, not long after her internal succession, brought BTS Boston in to help focus her team on their strategy. She was frustrated by the mistrust and finger-pointing on the executive team, and as we worked with her to rebuild the team and culture, the challenge of her position became clear. About 18 months previously, the board had by-passed internal candidates to recruit an external industry leader from a marquee brand to follow their long-time, retiring CEO. The high-profile search took a year, and though fully supported by the board, within the first 12 months the new CEO’s divisive leadership style had created an “in crowd” and an “out crowd,” leading to siloed arms of the organization that could not collaborate. When that chief executive abruptly departed, the board scrambled to circle back to internal candidates, and our client got the nod. She would enter her first year with strong headwinds, tasked with rebuilding the team, the culture, and the strategy.

This scenario highlights the blind spots companies have when taking on the high-stakes, high-risk task of CEO succession. One big misstep is often followed by years of recovery. Before going any further with succession planning, boards should pressure test their own processes against these five common mistakes.

1. Overlooking the Question of Character

The CEO of the tech company above went on to see tremendous success, building a top-performing company with a strong team, culture, and trust with the board and shareholders. Her board chair told us two years after her initial ascent to the position that promoting her into the CEO seat was the best decision they had made. But what was that “off-the-paper” difference that made her so successful? And what had they missed about the external candidate who failed?

Character. When evaluating candidates or internal successors, search committees too often rely on hard skills as the concrete metrics to decide on CEO placement. They miss out on the opportunity to ask critical questions about the candidate’s personal values and how they build relationships, instill trust and confidence, grow company value, build credibility with analysts, promote a strong corporate culture, and inspire a shared vision.

Board members must get to know candidates and internal successors personally through conversations over time to learn how the leader thinks, what they find important, how they listen and engage, and how they share their own life lessons and values.

2. Further Dependance on the Wrong Criteria

The profile of a successor is the foundation upon which the future of the company and strategy are based. One of the biggest derailers of success is relying on the wrong profile and the wrong set of criteria for your next CEO. Avoid the following common missteps when setting candidate criteria:

as noted above, overemphasizing industry expertise, while missing the wider range of leadership capabilities and skills that make a high-performing CEO,
trying to simply replace the current CEO rather than taking a fresh look at what will be needed to deliver on the future strategy or market opportunities, and
tasking an external search firm with the development of success criteria based on their models, rather than building the company’s own profile tailored to its business, culture, and strategic requirements.

In the case study of our tech client, the board’s belief that an external change agent would advance the existing strategy led to a cultural mismatch, and ultimately failed.

3. Failure to Develop Internal Candidates

Many boards and CEOs put active succession-planning on the back burner until they are at the precipice of a transition because, quite frankly, it’s hard to do. They perceive too much risk in signaling advancement to internal successor candidates, fearing they’ll create a horse-race that distracts from execution and potentially leads to the loss of key talent. The consequence is a readiness gap with possible successors weakening the organization’s ability to weather the storm of an unexpected departure. Additionally, putting off succession planning reduces the strength and breadth of the candidate pool that comes with a deep leadership bench and those in line lose out on the opportunity to gain exposure to critical audiences, issues, and experiences that would make them more ready and effective to step into the role.

4. Believing Placement Is the End Zone

Making the right selection is the starting point—but setting the new CEO up to succeed is the difference-maker. It can be easy to forget that there is a steep learning curve involved with entering a new CEO seat, even for experienced executives. Particularly for an internal successor, time allocation, building board relationships, executive team management, navigating external visibility, and other new routines need to be established and can make for a bumpy first year. For any candidate, developing trust, building a successful executive team, stabilizing client relationships, setting and selling the strategy, and creating a CEO narrative requires a high level of focus that should be core to the onboarding process.

5. Ignoring the Importance of Transparency in the Process

So often the CEO succession process happens behind closed doors, far away from even those who will work most closely with the new CEO. Beyond the search committee, few have insight into how the CEO will be selected, what the criteria are, and how the decision will be made. This vacuum of information gives rise to rampant speculation, skepticism, and cynicism, and, in more extreme cases, suspicion and concern. The void is sometimes filled with a fear of hidden agendas, such as those involving insider relationships and favoritism, diversity goals, potential unannounced mergers or acquisitions, or the influence of activist investors. If those concerns take root, at best it will make it hard for the team to trust their new leader. At worst, this can create destructive infighting and even cause key players to leave when you can least afford their departures. Make sure to set your next CEO up for success by communicating the how and why of the selection process early and often.

In addition to reviewing company processes and the common missteps above, boards can take the following steps now:

Start early. If it’s not already on the agenda, bring C-suite succession to the front of the deck at your upcoming board meeting. Engage the full board and current CEO in a discussion about succession-planning for each member of the executive team and set expectations of a formal process.

Engage external expertise. Have these experts develop a profile for the CEO of the future state of the company and keep the profile current annually by reevaluating criteria based on material shifts to the company, strategy, or environment.

Develop the bench. Learn about company leaders before they become successors. Have them present at board meetings, learn about their business areas, and hear how they think and what they see as future opportunities for the business. Invest in preparedness with a formal development plan for each leader.

Take the risk out of transitions. Provide the new CEO with a strong third-party coach. The chair can act as a valuable mentor and can help onboard a CEO but is no substitute for an experienced, trusted advisor who creates a safe zone for even the most seasoned leaders.

CEO turnover is a perennial issue, one that will continue to plague companies who fail to plan and prepare for the future. The failures will become more and more costly as the pace and competitive environment of global business continue to accelerate at warp speed. Going forward, it will be even more important for boards to put this issue front and center, plan carefully, and consider actions to take now to develop potential internal candidates to deliver future success.

Sarah Woods is a partner at BTS Boston, formerly Bates Communications, a global management consultancy that improves performance through communicative leadership. Joe Andrews was formerly chief human resources officer for Progress Software Corp. and is currently a consultant, coach, and CEO succession expert with BTS.

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ESG and Human Capital Management Are the Keys to Resilience and Transformation

The COVID-19 pandemic materially altered how corporate boards should be thinking about enterprise sustainability through the lens of environmental, social, and governance (ESG) initiatives. The concept of stakeholder capitalism—and its link to enterprise sustainability—has taken firm root in corporate governance and workforce management. Consistent with the Business Roundtable’s 2019 articulation of the new corporate purpose, 2021 begs for a more expansive view of organizational success—one that puts all stakeholder (employee, customer, shareholder, and community) interests at the heart of the transformation agenda.

It is clear that ESG and stakeholder capitalism will and should have a growing presence in the boardroom and on the board agenda. For example, 67 percent of nearly 2,000 global director respondents in the Global Network of Director Institutes (GNDI) 2020-2021 Survey Report indicate that COVID-19 will increase board focus on ESG, sustainability, and stakeholder value issues. In addition, 39 percent identify meeting the challenges of stakeholder capitalism as one of their top three challenges in responding to the pandemic.

Mercer’s 2020-2021 Global Talent Trends Study reveals similar concerns within an organization. Sixty percent of US human resources (HR) leaders say that they have maintained or stepped up their pace in moving toward an ESG and multi-stakeholder approach to business over the last year. Over half (53 percent) of these HR leaders are now tying ESG objectives to their corporate purpose, and 26 percent are linking these objectives to executive scorecards. In addition, more than one-third of surveyed employees indicate that their choice of future employer would be influenced by the employer’s articulated corporate purpose.

Meanwhile, two-thirds of organizations report that ESG will be a crucial focus for 2021 (71 percent said the same in Europe; 67 percent in the Asia-Pacific region; and 61 percent in North America). The United States clearly has room to grow on this agenda item.

Managing people risk effectively will be critical to future success and sustainability in an uncertain economic and social environment. Stakeholder empathy, particularly in relation to employees, emerged as a top leadership concern in 2020, and is likely to persist as an important component of sustainability, with two in five HR leaders at US companies saying that managing employees inclusively and with empathy will be a key to enterprise resilience going forward.

Indeed, the study finds that organizations that integrate ESG metrics into the CEO’s agenda are more likely to report high revenue growth. Also, investment funds that focus on organizations that prioritize ESG often generate returns superior to those of other funds.

Given the rising emphasis on people and ESG, with a particular focus on the diversity, equity, and inclusion (DE&I) aspects of social corporate objectives, boards must turn to the old adage that you cannot manage what you do not measure and ask their management teams to map out how their organizations will track, monitor, and drive forward their ESG and DE&I program goals. In fact, the GNDI survey reveals that 63 percent of directors see an increased need to incorporate data analytics into the board decision-making process. Boards may wish to ask management, for example, what DE&I analytics and metrics will be tracked and how and when these will be reported. Is the organization considering an internal labor market analysis to assess representation deficits across the company’s hierarchy and to identify specific pain points (e.g., hiring shortcomings, career “ceilings,” and points of retention risk)? The board or committees can also consider links between DE&I goals and incentive plans. Increasingly, investors evaluate companies based on their human capital management and DE&I metrics, such as those pertaining to representation, equity in pay and benefits, and attrition rates by demographic group.

However, only 23 percent of organizations say they will be investing in DE&I analytics and insights in 2021. This is disappointing, given that Mercer’s talent research attests to the impact of analytics in making DE&I progress and the disproportionate toll COVID-19 has taken, for example, on women in the workplace.

Nonetheless, a recent Mercer executive rewards pulse survey of around 1,000 North American organizations finds that nearly half (44 percent) are currently using or considering the use of ESG and DE&I metrics in their incentive plans to promote a focus on related objectives. That said, practices vary significantly, ranging from the majority of companies having no linkage between executive pay and human capital management and DE&I goals, to Hyatt Hotels, which made increasing minority representation across various levels of management in the United States and globally the sole metric in its most recent long-term incentive awards. For most companies, the right answer will fall somewhere in between.

On the bright side, last year saw a fivefold increase in the number of companies measuring pay inequity against 2019 levels, helping to boost the business community’s understanding of large gaps in health and wealth across numerous constituencies. In 2021, 45 percent of HR leaders in the United States (and 35 percent of HR leaders globally) plan to improve pay equity analytics to drive transparency and action.

The bottom line is that decision-quality data is at the heart of charting an enterprise’s course toward people sustainability and organizational performance. Companies that fail to invest appropriately will inevitably find themselves struggling to attract, retain, and engage the diverse talent needed to succeed in today’s marketplace.

Eric Larré is a partner in Mercer’s executive rewards business in Atlanta. He works with corporate boards to develop incentive programs that align with financial and strategic objectives and investor expectations.

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Improve Cyber-Risk Measurement Through Scenario-Scoping

Many boards are struggling with the question of what cybersecurity risk means to their organizational objectives and how to manage this risk. There is a strong desire to find some way to look at cyber risk from a quantitative point of view, owing to the late Peter Drucker’s principle of “what gets measured gets managed.” But what is cyber-risk quantification and how can measuring cyber risk help your organization?

Underpinning all measurement activities is something known as “measurement science” or metrology. This scientific approach to measurement has given rise to such basics as temperature reading and distance scales. For things that are a little more abstract, there are scientific principles that can be applied to help improve measurement and, by extension, decision-making.

As enterprise-risk management (ERM) organizations established themselves over the last two decades, they needed a way to help businesses manage loss exposure from risks that were difficult to quantify and that were largely unable to be underwritten by insurers. They also needed a way to prioritize risks based on the potential each risk had to cause harm to organizational objectives. The easiest solution was to directly apply priority labels to show how important the risk was (e.g., high, medium, or low). These labels have also been used by cybersecurity organizations as they lead or assist in managing enterprise cyber risk.

However, there are some problems with this approach. While a useful decision-making shortcut (a company does not want to take on high-risk activities, but it will tolerate low-risk ones), there are reams of academic research that discuss the failures of this approach to account for biases and basic measurement errors. Too many people subconsciously neglect to account for organizational risk when applying these labels and instead use their own risk tolerances to calibrate risk for the entirety of the organization. The use of these scales actually adds error to the risk evaluation process instead of reducing it. Further basic errors include the assumption that the distance between values is equal (i.e., the assumption that risks rise in severity at a consistent rate), which compresses risks at the top into a single category, effectively treating a $50 billion risk as equivalent to a $5 million risk, for example. This approach therefore has the effect of keeping an organization from taking reasonable risks at best and misallocating capital to unnecessarily mitigate risk at worst.

True cyber-risk quantification requires the use of values that measure frequency of loss and impact of loss in attaining organizational missions and goals. In this way, quantifying cyber risk comes down to articulating the scenarios that could cause an organization to fail to deliver the products and services for which it is chartered. Expressing cyber risk this way has been thwarted by a dearth of available data and methodologies at individual companies. However, many third parties have been established to provide such data and methodologies and today, cyber-risk quantification is not only possible but employed by companies all over the world.

Applying this data to your organization requires the development of cyber-risk scenarios. This approach begins with defining top-level cyber-risk categories (such as data disclosure, fraud, and business interruption) and breaks those down into progressively more detailed sets of scenarios. Ultimately, at the lower branches of such a decomposition exercise, an organization will arrive at a series of risk triggers familiar to cybersecurity professionals that can be mapped to a control framework, such as the National Institute of Standards and Technology Cybersecurity Framework. In this way, an organization can connect low-level cybersecurity attacks, such as those involving ransomware and code exploits, to the controls that prevent them and ultimately to organizational objectives (as expressed through a company’s products and services). The good news for enterprise risk teams is that financially oriented frameworks, including the Basel II regulations, also support this approach.

Here is an example of a risk decomposition that connects high-level strategic objectives to lower-lever cybersecurity issues.

Strategic Objective 1: Increase the number of customers that use more than one company product by 40 percent.

Cyber Risks to Objective 1:

Layer 1—External fraud
Layer 2—Systems security
Layer 3—Hacking
Layer 4—Credential stuffing, privilege escalation, lateral movement, etc.

Strategic Objective 2: Increase sales in the North American market by 15 percent.

Cyber Risks to Objective 2:

Layer 1—Business disruption
Layer 2—Systems security
Layer 3—Software
Layer 4—Ransomware

Once such a top-down and bottom-up approach has been made, the exercise of building quantified values to express loss as a result of risk becomes clearer. In addition to traditional revenue metrics such as those weighing the value of delayed or forgone customer transactions, organizations can also leverage public peer data to index losses and project legal and regulatory outcomes.

It is useful to start operationalizing these foundations of cyber-risk quantification as global credit agencies and cyber insurance underwriters are beginning to use similar processes in assessing organizations’ credit worthiness. Indeed, in much the same way that credit rating agencies began talking about environmental, social, and governance risk years ago, so too will cyber ratings become a constituent component in investors’ evaluations over the coming years. This is especially true as the world becomes more aware of the sizable financial impact of mega breaches and supply-chain interruptions on business. Organizations that don’t address cyber risk as a quantifiable, financial risk to their strategic plans will find themselves at a disadvantage in the marketplace. As a board, consider asking the security and enterprise risk leaders in your organization how they are considering the above approaches, including how to use scenario-planning and cyber-risk quantification to inform the company about cyber risks and how ERM leaders and the chief information security officer are bringing their teams together to tackle this problem.

As head of cyber-risk methodology for VisibleRisk, Jack Freund has overall responsibility for the systemic development and application of frameworks, algorithms, and quantitative and qualitative methods to measure cyber risk.

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Board Leaders Rethink Strategy, Risk, and Stakeholder Focus

The year ahead will be about refining—if not fundamentally rethinking—strategic planning and risk management. While not surprising, this overarching takeaway from discussions and polling at the KPMG Board Leadership Conference in January is no doubt eye-opening in its scope and implications for board oversight and leadership. As our conference conversations highlighted, robust scenario planning—thinking deeply and continually about a company’s future—will be essential as a result of the unprecedented disruption and uncertainty caused by the COVID-19 pandemic and resulting accelerating megatrends.

Further results from conference polling highlight critical issues for lead directors to consider in the context of strategy and risk as they help ensure that the board’s agenda and meeting time are focused on the issues that are most critical to the business. Below are some of the takeaways from our polling.

The shift toward stakeholders and long-term value creation is clear and dramatic. Nearly 90 percent of directors say that, in light of the events of the past year, their companies are reassessing how they address the interests of key stakeholders (in addition to investors); more than two-thirds say that a focus on environmental, social, and governance (ESG) issues is important to long-term performance and value creation; and nearly 90 percent of respondents believe that companies can meet the needs of stakeholders in a socially responsible manner while generating superior financial results. At the same time, 81 percent respond that their companies’ incentive structures encourage management, to some degree, to maximize short-term returns at the expense of long-term returns. Some of the key questions for the CEO and lead director to consider include: How do our incentive structures and culture drive ESG performance? How effectively are we assessing and disclosing the company’s ESG performance?

The focus on climate risk by companies and boards appears to be falling short of investor expectations. Only one-third of directors express confidence that their management teams understand the implications of climate change for their businesses, and only 29 percent say that “addressing climate change” will be of strategic importance to their companies in 2021. This is in contrast to investors’ expectations for companies. In his 2021 letter to CEOs, BlackRock chair and CEO Laurence D. Fink wrote, “No issue ranks higher than climate change on our clients’ lists of priorities.” Fink asked companies to disclose plans explaining “how their business model will be compatible with a net-zero economy,” and how these plans are incorporated into long-term strategy and reviewed by boards of directors. Lead directors should help ensure that management teams are factoring climate issues into their risk analyses and strategies.

Cybersecurity and data privacy and governance are the top global governance risks for companies in 2021. This comes as little surprise given shifts to remote work, online customer engagement, and the growing sophistication of cyber attackers, including nation-states. In light of the recent SolarWinds cyberattack, directors express increasing concern about cyber risks posed by third-party vendors. Lead directors should work with committee chairs to reassess the board’s oversight of cyber risk, including clarifying committee roles.

The pressure—and spotlight—on CEO and corporate leadership is intensifying. Nearly two-thirds of directors say that corporate America is best positioned to help tackle societal problems through leadership by example and innovation, and the vast majority of directors believe that CEOs have a responsibility to take a stand on diversity, equity, and inclusion (DE&I) and other societal issues. But there’s an important caveat: only 8 percent of respondents say that corporate America has had a “strong follow-through” thus far on DE&I and societal commitments. Boards play an important role in turning this around. Is the company using its resources, influence, and capabilities to not only talk the talk, but to walk the walk? Does the board receive regular reporting on DE&I metrics and milestones? Eighty percent of directors report that, given the events of the past year, their boards have intensified their focus on leadership and succession plans for the CEO and senior leaders.

The Biden administration’s policy initiatives will be a key area of focus in the near term. In addition to an economic stimulus package, near-term policy initiatives that directors say should be the focus of board attention include tax reform (which may be part of the stimulus package); the US Securities and Exchange Commission’s regulatory agenda (in particular, new disclosure rules regarding ESG issues, sustainability, and corporate governance); and trade policy and climate-related regulation. Beyond the regulatory and compliance issues that may lie ahead, is the company assessing the potential opportunities presented by the emerging policy agenda?

Given the challenges to come, the role of the lead director and other boardroom leaders in helping to ensure effective board engagement in strategy and risk oversight, a strong CEO-board relationship, and a culture of crisis prevention and readiness has never been more important. The year ahead will clearly put boardroom leadership to the test.

John H. Rodi is leader of the KPMG Board Leadership Center.

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Global Governance Lessons From Europe’s Enron

Editor’s note: This excerpt is pulled from the January/February 2021 issue of Directorship magazine. Read the full article here.

Last June, members of the Wirecard supervisory board dialing into a hastily convened emergency call could hardly believe what they were hearing. The fast-growing German financial services provider that they were charged with overseeing only recently had been rumored to be in takeover talks with Deutsche Bank. Now, Wirecard board members were being told that €1.9 billion ($2.2 billion) in cash was missing and the company was €3.2 billion ($3.7 billion) in debt. Could Wirecard’s vast international business empire really have been based on lies and obfuscation?

Indeed, it appears so.

On June 25, 2020, Wirecard filed for insolvency. Then, on Aug. 25, a court-appointed administrator issued a press release stating that it had been able “to stabilize the ongoing business and create a basis for [Wirecard’s] continuation.” As part of the stabilization efforts, all members of Wirecard’s management board—at least those who had not already resigned or fled Germany—and some 730 employees were let go.

As of mid-December, senior Wirecard executives including ex-CEO Markus Braun and former chief financial officer Burkhard Ley have been criminally charged and are awaiting trial in Germany. Another executive was released from jail as a cooperating witness for the prosecution. Former chief operating officer Jan Marsalek, who also served on the management board, is a fugitive from the country.

Wirecard leadership is accused of having conspired with others to inflate revenues and its balance sheet by faking business with third-party partners, said Anne Leiding, a spokesperson for the Munich State Prosecutor’s Office, during a press conference in which she announced the charges. The creation of a false impression of financial strength enabled Wirecard executives to borrow €3.2 billion from banks and investors.

“In reality, it was clear, at the latest by the end of 2015, that Wirecard’s real business was losing money,” Leiding told reporters in Munich. Wirecard executives are also suspected of harming investors by overpaying for acquisitions and for creating and perpetuating a culture “characterized by an esprit de corps and oaths of loyalty” to Braun as their leader.

Braun resigned after Wirecard auditor EY said it could not verify the €1.9 billion supposedly held in escrow on behalf of the third-party partners.

Altogether, the formal charges made against Wirecard’s leadership team include organized commercial criminal fraud, breach of trust, false accounting, and market manipulation. All of the former Wirecard executives now awaiting trial have declared their innocence.

Ominous Questions

Wirecard, like Enron until its own spectacular demise in 2001, had been on a wild and aggressive trajectory of growth. When the dot-com bust threatened Wirecard’s existence in 2002, Braun was recruited as CEO. With the benefit of hindsight and courageous reporting—notably by the Financial Times (FT)—it is clear that the company’s lifespan was fueled by hubris and a win-at-all-costs corporate culture. Braun provided Wirecard with a cash infusion, and under his leadership proceeded to allegedly perpetrate an intentional accounting fraud over a period of years that escaped the notice of key stakeholders including regulators, auditors, and Wirecard’s own supervisory board.

Now, in the aftermath of Wirecard’s insolvency, and as lawsuits add up, regulators and stock exchanges are reevaluating their checks and balances, looking to repair fault lines, and taking aim mostly at the corporate audit function—both internal and external. Many corporate governance observers expect to see regulatory reform in the European Union and in Germany on a scale akin to the Sarbanes-Oxley Act, the US federal law that was passed in 2002 after corporate accounting scandals—including at Enron Corp., Tyco International, and WorldCom—came to light. Sarbanes-Oxley essentially gave board audit committees greater authority and thus increased both the responsibilities and oversight of the committee.

Given the sheer scope, daring, and size of Wirecard’s fraud, comparisons to Enron are both inevitable and predictable. The business community and the public began asking two ominous questions: Where was the board? And where were the regulators? After all, the Wirecard fraud was not discovered by these governance stakeholders but instead by a cadre of short sellers and FT journalists, ultimately aided by lower-level whistleblowers who were paying much closer attention than those lawfully entrusted and compensated to do so.

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