The ephemeral CEO

May 19 2005 by Brian Amble Print This Article

Being a CEO is an increasingly risky business as a new global study reveals a growing haste – particularly in Europe - to remove chief executives who fail to deliver strong results in the first few years of their tenure.

CEO dismissals and forced departures reached record levels last year, according to an annual survey of CEO turnover at the world's 2,500 largest publicly traded corporations.

The study, by Booz Allen Hamilton, also found that boards of directors in North America tend to be much slower to remove underperforming CEOs than their counterparts in Europe.

Globally, performance-related successions increased 44 per cent from 2003, and represented 31.4 per cent of all CEO departures in 2004, the study found.

Corporations have reached a tipping point, in which power in the corporation is permanently shifting away from CEOs.
Overall, 14.2 per cent of chief executives at the world's 2,500 largest public companies left office in 2004, a rise on the 9.8 per cent in 2003.

The industries that saw the highest rates of CEO turnover were industrials (19.5 per cent), utilities (19.0 per cent), healthcare (16.2 per cent) and telecommunications (16.0 per cent).

The safest sector in which to be a CEO was the energy industry, with an overall succession rate in 2004 of 10.3 per cent. Materials and IT also had succession rates of less than 12.5 per cent.

Looking at the period between 1995 to 2004, the study found that the rate of CEO dismissals increased by 300 per cent. However in 2004, 42 per cent of CEO successions at European companies were performance-related, compared with 31 per cent in the U.S.

The disparity between Europe and the North America was even more marked when it came to the length of time it took organisations to replace poorly-performing CEOs.

In Europe, CEOs removed for poor performance were in office for only 2.5 years, while boards in North America took and average of 5.2 years to replace a failing boss.

The extent to which Europe and Asia (excluding Japan) have become the most demanding environments for CEOs is illustrated by the fact that these regions have the highest overall turnover, the most firings, the shortest tenures, and the most rapidly increasing rates of turnover.

Europe's turnover rate of 16.8 per cent is 425 per cent higher than 1995, while the Asia turnover rate of 17.5 per cent (excluding Japan) is 256 per cent higher than 1995 levels.

"Business has entered the era of the short-term chief executive," said Charles Lucier, Senior Vice President Emeritus of Booz Allen Hamilton. "The age of the ephemeral CEO is here."

In fact, CEO turnover now matches the normal attrition rate for all employees. According to quarterly surveys by the research publisher BNA Inc., the typical employee turnover rate in the U.S. is about 12 per cent per year. At 11.7 per cent, the total rate of U.S. CEO departures in 2004 is equivalent to the overall rate of U.S. employee turnover.

"From the perspective of turnover, the CEO is just another employee," Lucier said.

The study puts the blame for these growing levels of turnover down to shareholder activism, arguing that this has led to an even greater likelihood that executives will focus on delivering short-term results at the expense of strategies that create long-term shareholder value.

"CEOs need an agenda that puts the company on the right strategic path, but that also produces short-term wins that don't hurt the company in the long run," said Booz Allen Senior Vice President Reggie Van Lee.

To back up this claim, the study points to the fact that underperformance – rather than ethics, illegality, or power struggles – is now the primary reason CEOs get fired. Forced turnovers are strongly correlated with poor shareholder returns, it found.

During the year before they left, dismissed CEOs had generated median regionally adjusted returns that were 7.7 percentage points lower than those who left office under normal conditions.

Successful companies are more likely to fire a new CEO. Contrary to conventional wisdom, companies that performed well during the two years prior to their CEO's appointment have been one-third more likely to force that new CEO from office.

Companies that struggled before their new CEOs came in were more likely to keep them longer.

Another consequence of rising rates of succession is that CEOs hired from the outside inherit companies in much worse shape than those inherited by insiders.

For the CEO "class" of 2004, outsider CEOs joined companies whose shareholder returns averaged 5.2 percentage points lower during the preceding year than companies that promoted insiders.

According to the report, the findings provide overwhelming evidence that corporations have reached a tipping point in which power in the corporation is permanently shifting away from CEOs.

"The power has shifted," said Eleanor Bloxham, president of the Corporate Governance Alliance, which advises companies and investors on board–management relationships.

"Directors are telling me that, once they get used to it, they think this new level of scrutiny of the CEO is good. They like their strategic involvement, and they intend to keep it."

But others take a somewhat different view. "I disagree with this notion that CEOs are losing their influence," said Mark Goodridge, CEO of ER Consultants.

"They still have a high degree of clout while they are in office. A better way to view it is that shareholders are increasingly impatient and unreasonable for results."