Succession Planning

Simple Incentives to Improve CEO Succession Planning and Results

Posted by Jeff McCutcheon on February 03, 2015  /   Posted in Compensation Committees


Board members have an obligation to protect the company from gaps in executive talent by ensuring leadership continuity, particularly during times of CEO succession. While we find numerous commentaries addressing best practices surrounding the planning for succession, we believe incentives should be considered that focus on the succession result.

Most boards recognize that they must rely on the CEO for much of the insight into potential internal and external successors and risks. Unfortunately, the CEO is perhaps the only individual who typically has no financial interest in the actual success of the succession effort.

Through our work with boards of directors, we have identified three types of obstacles to a CEO effectively planning for his or her own succession:

  • Socially, it may be difficult to discuss succession with a CEO who perceives that a ready and able successor diminishes the CEO’s relative power with the board;
  • Culturally, there may be a history within the organization whereby the CEO has controlled the pace and timing of succession based on the CEO’s own plans for retirement; and,
  • Economically, there may be incentive programs and employment terms that clearly exclude the CEO from accountability for the succession result.

While we do not believe these obstacles prohibit effective succession management, we do recommend boards and committees responsible for succession consider the impact these factors may have on their efforts to mitigate business risk related to CEO succession.

Board Advisory LLC reviewed 50 recently filed CEO employment agreements to identify current practices with respect to CEO succession. We were looking to identify contractual employment terms that support successful succession of the CEO role. What we found was that CEOs typically have little, if any, financial stake in the ongoing success of the company during the 12-18 month period immediately following their termination of employment. In almost all situations, executives were allowed to fully liquidate their ownership in the company upon leaving. Moreover, CEOs often negotiated accelerated vesting of time-based, and sometimes even performance-based, equity incentives in the event of terminations without cause or for good reason (i.e., a “good leaver”).

In evaluating contemporary pay practices in light of CEO succession, we have identified several interesting arrangements that can align interests between the outgoing CEO and the ongoing organization through the most critical portion of the succession process. The concepts may be far easier to implement when recruiting a new CEO than when renegotiating with a current CEO, but we believe they are worth discussing in both situations.

  1. Establish at the beginning of the relationship that the CEO is the leader of the organization and thus is obligated to ensure continuity in leadership under all circumstances. Whether as a result of voluntary or involuntary termination, the CEO is expected to have plans in place to protect the organization—and will be held accountable to some extent for the success or failure of these plans.
  2. Recognize the CEO’s obligation to the organization extends beyond the last day worked. We find that over 90% of CEOs already have post-employment covenants such as non-compete/non-solicit arrangements, but only one CEO in 50 had a stock ownership obligation that extended beyond the last day worked. Requiring CEOs to retain their target ownership for 12-24 months beyond the termination of employment helps maintain a real interest in leadership continuity and success.
  3. Do not accelerate equity vesting upon “good leaver” terminations. Construct 409A-qualified arrangements whereby shares continue to vest over time and are retained by the former CEO through the succession period, adding to the former CEO’s financial alignment with continued organization success.

We propose that compensation committees consider requiring CEOs to have “skin in the game” for a brief post-employment period to shift the focus from the process of succession planning to the actual succession result. After all, a principal responsibility of the board is to manage the succession risk, not the succession plan.

Jeff McCutcheon and Rich McGinley.    This article originally appeared in Corporate Board Member magazine, Q4 2014.

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Interim CEOs Make Sense For Unexpected CEO Departures & Succession

Posted by board-advisory on May 27, 2011  /   Posted in Compensation Committees

In response to Equilar Article “CEO Succession in Bunches – An In-Depth Look at S&P 1500 Companies with Multiple CEO Turnovers between 2007 and 2010

On the topic of using Interim CEOs for unexpected CEO succession: For a company to have an immediate and well-thought-out leadership answer in the case of sudden CEO departure, I believe it’s a strong sign of responsible thinking and preparation rather than an indictment of a firm’s succession planning, particularly when the current (departed) CEO had plenty of runway expected. Like other significant organizational risks, you want to be prepared for unexpected, even tragic scenarios. Not having an immediate solution to those circumstances is irresponsible. The succession solution doesn’t necessarily have to be a permanent CEO (which ties into my next comments), but there must be a solid solution.

Indeed, an existing Board member is a typical source for interim CEOs, but it can also make good sense to go with another person from the Executive Team. Sudden CEO departure can shock an organizational culture, which in turn has negative ripple effects. What the organization needs is an instant stabilizing influence, including and interim CEO that the troops know, trust, and want to follow. Often times, there is a such a highly credible person who has been there a long time, has many deep relationships, clearly cares about the company and its people, and has a proven track record of success. Bingo. That person can be the parental influence that helps the family know that everything is going to be all right.

Why, you ask, isn’t the previously-described person just anointed permanent CEO. Couple of reasons. First, this person is typically on the tail-end of their own career, very likely planning to retire in a couple of years. They’re honored to take the reins on an interim basis, but have no desire (or ability) to significantly alter their retirement projection. Second, the CEO of the future might require skills and experience the interim CEO doesn’t have. This interim CEO can adequately manage the current business challenges for a relatively short period of time, and as importantly will serve a crucial emotional role for the organization. But they don’t have the right stuff to take the company to the next level and/or to handle what’s coming down the pike.

In short, interim CEO succession planning makes sense. It’s like a life insurance policy—you’d rather not have to use it, but are glad you have it if you do.

As for the piece of the article that covers the unexpected short tenure of new CEOs, these finding are consistent with previous research we’ve cited that shows that senior-level transitions fail more often than they succeed. The primary reasons for this trend include (a) a solid blueprint for success wasn’t really nailed down before the search, so the search was misguided, (b) assessment of the degree of fit between candidates and the role requirements was less-than-rigorous, essentially allowing a mis-hire, and/or (c) inadequate onboarding or assimilation was provided, which otherwise could have accelerated traction and value addition. These mistakes can be minimized, but that’s probably another blog discussion.

Kevin Hummel, Ph.D. is a Managing Director of Board Advisory, LLC

CEO Succession: An Interview with Board Advisory & Bank Director Magazine

Posted by Paul McConnell on March 09, 2010  /   Posted in Compensation Committees

Originially Published in Board Member Magazine

BD: Jack Milligan, associate publisher, Bank Director magazine
McCutcheon: Jeff McCutcheon, managing director and founder, Board Advisory LLC
McConnell: Paul McConnell, managing director and founder, Board Advisory LLC

BD: Federal banking regulators are beginning to focus more attention on executive pay. How will this impact the compensation committee?

McCutcheon: I don’t believe it will substantially change actual pay levels. Historically the government has been extremely ineffective at regulating pay — particularly executive pay. One could even argue that prior attempts to slow executive pay growth have had the opposite effect. However, regulations have been very successful in changing the vehicles used for pay delivery, as well as the form of pay and the governance process around pay. One would expect to see a transition from salary, stock options and annual bonuses to longer term less liquid stock grants. In addition, all the current attention that’s being paid to unnecessary risk taking will likely result in greater focus on relative goals rather than only absolute performance targets, particularly in community banking where a peer institutions with similar business models exists. This has also affected how boards go about managing pay. In the past it has been a management-directed process, where management would look at its strategy and develop pay plans in support of that strategy. This analysis and decision making is very quickly shifting over to boards. Compensation committees are quickly becoming responsible for interpreting strategy and thinking about what pay tools are going to be most effective in executing those strategies.

McConnell: We’ve also seen rampant growth in independent pay advisors like our firm, that work only for the board. It’s our sense that the independent firm is quickly replacing the older model of the multi-line consulting firm, where executive compensation was one of many services that were provided. For large, public companies, the market share held by the traditional large consulting firms has dropped from 73% to 58% in 2010 alone. This is a dramatic shift that recognizes the actual board advisor and the board advisor’s relationship rather than the geographic footprint or sheer size of the specific firm.

Boards of directors are now more focused on advisor independence. One of the first questions we are asked by boards is “How independent are you?” The challenge for boards and advisors is to strike the right balance between working with management as opposed to for management. I think one of the things you’re going to see as a result of the increased federal oversight is much more board independence. In the current environment boards cannot afford not to engage their own advisors.

BD: Will increased scrutiny of executive pay mean that bank compensation committees will have to look at pay practices for the entire organization rather than just the CEO and his or her senior team?

McCutcheon: In well-run banks the compensation committee has always been involved in compensation strategy down through the organization. Under current regulation this practice will need to become a standard process of the committee. In a lot of ways it’s a good thing, because that’s where a lot of the problems occurred that led to the financial meltdown in 2008. The problems were not necessarily originating at the top of the house. The excessive risk taking was occurring further down in the organization. However, I think the board’s primary focus will remain with executive management pay. The board’s charter is largely to hire the CEO, who in turn hires the rest of the management. And I don’t think anyone wants the board involved in the day-to-day operations of banks, least of all, boards.

BD: Is the role of the compensation committee is changing? And if so, does that mean that firms like yours will also have to change?

McCutcheon: The role of the committee advisor is changing very quickly, just as the role of the compensation committee is changing. Compensation committees are now held far more accountable for managing the executive leadership risk – whether we are talking about succession, new CEO selection criteria, or the choice of performance measures used to link strategy execution and value creation with executive performance and wealth accumulation. Each decision requires fairly active management of business risks involving executive leadership.
At our firm, and I imagine this also applies to our peers, we are far more involved in working with committees to develop their executive leadership strategy. Our client committees are spending far more time defining performance, managing succession risk and understanding investor expectations. We no longer see committees spending the majority of their time interpreting market median compensation practices or implementing the most tax or accounting-efficient incentive arrangement. Instead, committees are investing their time in the actions that move the needle – both in terms of improving management’s underlying performance results and in terms of clarifying the message to investors, influencing market valuations.

BD: In today’s environment, where profitability is under pressure and stock prices are low for most organizations, what’s the best way to compensate the executive management team?

McConnell: One thing they shouldn’t do is emulate the large banks, where in my opinion the basic compensation process is flawed. They don’t have any long-term incentives. Let me explain. What they currently have is a series of one-year plans that have a portion paid out in restrictive stock or options — and that’s the root of the problem. Most of the fixes the federal regulators have talked about would essentially space out the payment to create a “long term orientation,” but a well-designed executive pay plan involves balancing long-term and short-term objectives. There’s no balance in these plans. By focusing so much on the annual bonus pool they’ve created a what-have-you-done-for-me-today mentality that encourages the kind of excessive risk taking we have seen. In a well designed plan, top management – and top management in a large money center bank might extend down to a couple hundred people — would be paid primarily through large equity grants that are earned over time through sustained performance on a couple of contrasting measures that are not easy to achieve simultaneously. It could be growth and profitability, growth and safety or profitability and safety. Achieving sustained performance on those two dimensions in a manner consistent with the strategy, and doing so over a period of time, would be the primary basis for stock rewards. That’s how you create a long-term compensation orientation. Then your annual plan can be much more tactical in nature: It can be a reward for a good year. It can be a reward for achieving certain key objectives. In a small organization it might be a reward for achieving a key component of that long-term strategy such as installing new operating systems or completing a merger. But the executive focus should be first with the long-term piece and then secondarily with the annual bonuses.

BD: Will there be a role for stock options in the dawning era of increased government scrutiny, or are we going to seem them becoming increasingly unpopular with a shift towards restricted stock grants?

McCutcheon: I think there’s an absolute role for options but we will have to rethink how options are used. Historically, options have been extremely liquid and they provide the holder with both the opportunity and incentive to time the market. When an executive times the market, they liquidate their holdings when the stock is at a peak — and their gain is essentially financed by all other investors in the form of dilution. If options are going to continue to be used in the future as executive rewards, I think to a very great extent that ability to time the market will be limited, not so much as to the date of exercise, but specifically to the date of sale. It’s my sense that future use of stock options will be restricted through a specific holding requirement, where net shares would have to be held for something like 10 years from exercise. This allows the company to reap the benefit of the compensation leverage of the option without pitting the executive against other investors.

McConnell: The real problem with options as a long-term incentive vehicle is the heads-I-win-tails-I-don’t-lose kind of mentality that can lead to excessive risk in building a company because option holders don’t lose anything if the company fails. There is no cash value in the options when granted and holders don’t lose anything if they fail. That leads to a swing-for-the-fences mentality. Used alone, and particularly in large quantities, options can lead to excessive risk taking. I think where options will have a role in compensation plans going forward is as a balancing mechanism. If you have a sound annual bonus plan and a good long-term performance plan that’s focused on sound metrics, an option can still be used to sweeten the deal on the up side, making the overall program more lucrative and responsive to gains in stock prices.

BD: Is the skill set for a successful bank CEO any different today given the difficult environment that we’re in?

McConnell: Well, first they need a tougher hide. The underlying skill set required to run a bank is essentially unchanged. However, if we look a decade into the future bank CEOs are going to be operating in a far more complex regulatory environment and the required skill set may be -influenced by that. There is also the question of scale. A large and complex banking organization requires a fundamentally different skill set than a smaller community bank. As banks plan for their next CEO they should be mindful that some of these institutions are more than five times larger than they were 10 years ago.

BD: What’s the biggest mistake that boards make in terms of managing the CEO succession process?

McConnell: In a nutshell, it’s delegating the responsibility for doing it to the CEO.

McCutcheon: CEO succession is the most important single task that boards have, but it’s one that has been really delegated away in many instances. If we look at just the large banks, Equilar (an executive compensation and board research firm) found 28% of the CEOs at the beginning of 2009 weren’t there at the end of 2009. Certainly 28% of those people didn’t have planned retirements with carefully chosen successors in place. Perhaps Bank of America might come to mind. CEO succession is a known and very real risk that directly impacts investors. Simply put, boards cannot assume any CEO will want to undermine his or her own personal negotiating power by developing a stable of competent successors to take the reins the first time he or she stumbles. Succession is something that boards have to own and manage as part of their risk management obligations.

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Executive Transitions: Treacherous Waters That Don’t Have to Be

Posted by board-advisory on June 16, 2009  /   Posted in Compensation Committees

Executive transitions into new roles and succession planning continue to be one of the greatest challenges organizations face. Regardless of the reason for the transition or the source of the executive, executive transitions fail at an alarming rate, and always at a high cost to organizations. To fully discharge their duty to attract, motivate and retain management, Boards of Directors need to pay more attention to how critical changes in leadership are effected.

The dollar impact of failed transitions is relatively easy to calculate. The primary areas for such dollar impact estimates includes the cost to hire (e.g., search/placement fees, relocation, etc.), total compensation for said executive for the duration of employment, “maintenance” expenses such as administrative support and overhead, severance costs, and impact of mistakes and/or missed opportunities. The total of these costs typically total 10 to 15 times salary for a senior executive and can easily cost a company several million dollars. String together a few of these, and even a sizable organization can be crippled.

Recent executive transition research I led through Alexcel Group and the Institute for Executive Development, using an online survey of more than 150 practitioners in more than 140 different companies, showed that for external hires, 30% don’t meet expectations in the first two (2) years. While slightly better, 21% of internal placements don’t meet expectations in the first two (2) years. These “failure rates” may seem unacceptably high, yet other research in recent years shows failure rates of executive transitions can be upwards of 60% or even more.

When asked to characterize the level of support their organization provides to transitioning executives, 19% of respondents said they provided high support for external hires while 81% said they provided no to moderate support. For internal moves, 15% said high support was provided and 85% said no to moderate support was provided. One surprising result came for the question: What level of involvement does your Board play with executives who are changing roles? Only 1% of respondents said it was high, and 36% said none whatsoever. This contrasts with institutional investors’ interest in executive succession, where a poll of public pension funds indicated they held boards responsible for planning and executing executive succession.

When asked about the reasons for failed transitions, the most frequent response (68%) was due to lack of interpersonal skills, and the second most frequent response (46%) was lack of personal skills. The least-frequently chosen reason for failure at 15% was insufficient technical skills. So while candidates seem to have the functional proficiencies, they most often fail due to the softer leadership competencies. These findings suggest that there are significant gaps in hiring processes, where attention is paid to technical skills at the expense of softer skills that can just as easily derail an executive that otherwise “looks good on paper.”

So what are practitioners doing to assist with executives in transition, and how well is it working? For both external and internal hires, the most common practice (49%) is Mentoring and “Buddy Systems”, but the effectiveness of that practice was judged best for external hires where that was rated the most effective process. For internal moves, Executive Coaching was seen as most effective. While frequently used, the least effective process for both types of candidates was Orientations.

In our opinion, the key take-aways from this and other research include the following:

  • organizations don’t provide executive transition support that is commensurate with the importance of that event;
  • the best onboarding practices in the world will be of little value if companies don’t get the hiring right in the first place;
  • even with accurate hiring, executives can fail if they aren’t given needed support;
  • the type of support being provided often isn’t what will best facilitate executive success.

So what is a company to do?

  • First, make it a priority and invest resources accordingly, starting with Board oversight of the whole process, from methods used to hire and onboard candidates in general, to what is being done to ensure a new executive’s success in particular.
  • Second and related, make sure the hiring process is comprehensive and accurately gets at ALL competencies, not just technical proficiency and experience.
  • Third and also related, ditch the traditional Orientation material for onboarding, and instead use more hands-on approaches such as Mentoring, Executive Coaching, and/or other assimilation practices that are personalized and get better traction.

Executive transitions fail frequently at high corporate cost, andthey simply don’t need to. We’re convinced that if Boards adhere to the above three recommendations, their companies will immediately realize a distinct competitive advantage.

– Kevin R. Hummel, Ph.D.

Kevin Hummel works with a number of Board Advisory clients, across a variety of industries, on executive coaching and leadership development issues. You can view Dr. Hummel’s bio here. If you have any question or comments on this article, or want to speak with Kevin about any executive coaching, performance, or succession issue, he can be reached at, or at (954) 783-2585.

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© 2009 Board Advisory.
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