Communicating Critical Events: CEO Transitions and Risk to Enterprise Value
October 2011
FTI Consulting | Strategic Communications Practice
1
Objective
§ To explore the value-at-risk (VAR) associated with leadership changes, segmented based on the circumstances leading to the CEO transition.
Primary Research § FTI Consulting conducted primary research among institutional investors. In total , FTI Consulting
solicited feedback from 358 portfolio managers and analysts across 37 countries. At 95% confidence margin of error is +/- 5.17%.
Secondary Research
§ FTI Consulting Global CEO Transition Study considered all CEO transitions among companies that had a market capitalization greater than $10B at any point during the time period of July 1, 2007 through June 30, 2010 – This resulted in 263 CEO transitions across 35 countries.
§ To determine the value-at-risk, the selected CEO transitions were analyzed based on net stock price performance relative to a comparable index commonly referred to as “alpha” (i.e., a positive alpha indicates the stock outperformed its benchmark index).
Global leadership transitions Research objective & methodology
2
Profile of the Sample Population Global CEO Transition Study
3
Significant turnover of large-cap company CEOs
*FTI Consulting’s Global CEO Transition Study considered all CEO transitions among companies that had a market capitalization greater than $10B at any point during the time period of July 1, 2007 through June 30, 2010 – This resulted in 263CEO transitions across 35 countries.
North America 102 CEO transitions (36% of all N.A. companies)
South America 3 CEO transitions (75% of all S.A. companies)
Europe 62 CEO transitions (23% of all European companies)
Asia Pacific 44 CEO transitions (34% of all AsiaPac companies)
B.R.I.C. 36 CEO transitions (26% of all B.R.I.C. companies)
Middle East / Africa 16 CEO transitions (48% of all Middle East/Africa companies)
31% of companies announced a CEO transition* 43%
were unplanned, or not part of a succession plan
of those
CEO Transitions
77% came from within the company
had no prior CEO experience 80% and
New CEO Details
4
Importance of CEO reputation and its influence on investment decisions Global CEO Transition Study
5
CEO reputation equals one-third of investment decision
0%
5%
10%
15%
20%
25%
30%
None
atall
10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
% of investment decision based on perception of CEO
Average: 31.5%
Question: What percentage of your investment decision making process is based on your perception of the Company’s CEO?
§ The perception of the CEO influences almost one-third of the investment decision
6
CEO reputation as important as reputation of company
0% 20% 40% 60% 80% 100%
Globalreach
Cultureoftheorganiza:on
Brandequityofproducts/services
Reputa:onofCEO
Historicalreputa:onofthecompany
Strategicdirec:on
Recordofmee:ngand/orexceedingexpecta:ons
Compe::veposi:oning
Trackrecordofopera:onalexecu:on
Ranked1st
Ranked2nd
Ranked3rd
Question: Which of the following factors has the greatest impact on shaping an organization's reputation within the investment community?
Key factors impacting an organization’s reputation
§ The reputation of the CEO is nearly as important as the reputation of the company, and more important than the reputation of the company’s products or services
7
CEO transitions offer more risk than opportunity
0% 10% 20% 30% 40% 50%
Extremelyunlikely‐
2
3
Neutral‐4
5
6
Extremelylikely‐7
Decision to sell stock
0% 10% 20% 30% 40% 50%
Extremelyunlikely‐1
2
3
Neutral‐4
5
6
Extremelylikely‐7
Decision to buy stock
39% 15%
§ There is more risk to the CEO appointment than opportunity § The propensity to sell shares because of the CEO is more than twice that to buy shares
Question(s): Under exceptional circumstances, how important is the CEO to your investment decisions making process? How likely would you be to buy a stock based solely on the CEO, when no other investment criteria are met? and How likely would you be to sell a stock based solely on the CEO, when all other investment criteria are met? 8
Investor assessment of a new CEO Global CEO Transition Study
9
Investors first look to prior track record and former business associates to assess an incoming CEO
2%
3%
4%
10%
18%
63%
0% 10% 20% 30% 40% 50% 60% 70%
Other
Experienceatasimilarlycompany
Experienceatthecompany
Personalreputa>on
Industryexperience
Trackrecordofexecu>on
Question(s): Prior to meeting a new CEO, which factor is most important to you in forming your initial opinion of him/her?To what extent do the following external sources influence your opinion of a newly appointed CEO? (Please rate the following on a scale of 1 to 7, where 1=No influence, 4=Moderate influence, and 7=Significant influence)
Key factors shaping initial opinions
27%
40%
50%
55%
69%
78%
27%
31%
24%
28%
18%
15%
47%
29%
26%
16%
13%
8%
0% 20% 40% 60% 80% 100%
Media
Sell‐sideanalysts
OtherCEOs
Industryanalysts
Formercolleagues
Customers/partners
Significantinfluence Moderateinfluence LiFleinfluence
Key external sources shaping opinions Avg.
5.35
5.05
4.53
4.39
4.05
3.47
§ The prior track record follows the executive to his/her new company and is far and away the most important factor for investors’ assessment of the new CEO
10
§ Industry and sell side analysts
are also influential
§ The media have the least
influence on shaping public opinions
§ The most influential
stakeholders are those with whom the CEO did/does business with
Value-at-Risk in CEO transitions Global CEO Transition Study
11
Enterprise Value at Risk Increases as Time Passes Sp
ecia
l situ
atio
n
NEGATIVE α
MODERATE standard deviation
NEUTRAL α
HIGH standard deviation
Res
igna
tion
NEGATIVE α
LOW standard deviation
POSITIVE α
HIGH standard deviation
Succ
essi
on /
retir
emen
t
POSITIVE α
LOW standard deviation
POSITIVE α
HIGH standard deviation
Announcement Six mo. post start
Time (relative to announcement date)
Plan
ned
U
npla
nned
VAR: Value-at-risk NEGATIVE/NEUTRAL/POSITIVE α: average performance net of comparable indices for the circumstances and time period specified LOW/MODERATE/HIGH standard deviation: standard deviation of α for the circumstances and time period specified
The greater the element of surprise and the higher the potential risk of corporate strategy shifts, the more enterprise value at risk
Value-at-risk (VAR) landscape § Special situations, such as strategic
transformations, bankruptcies/restructurings and fraud/investigations, presented the most value at-risk (VAR) of all transition types, over both time periods considered
§ Both voluntary and forced resignations demonstrated significant VAR
§ Succession / retirement situations resulted in limited VAR upon announcement
§ VAR increases over time for all transition types: more value is created /destroyed post-announcement, and depends on the actions and success of the new CEO
Enterprise value at risk increases as time passes
12
VAR by situation
Succession / re,rement n=150
Forced resigna,on n=35
Voluntary resigna,on n=32
Strategic transforma,on n=14
Fraud / inves,ga,on n=15
Health n=10
Misc. crisis n=4
Transi'on announced
Six months post start
Transi'on announced
Six months post start
Transi'on announced
Six months post start
Transi'on announced
Six months post start
Transi'on announced
Six months post start
Transi'on announced
Six months post start
$0
Avg.
mar
ket c
apita
lizat
ion
chan
ge (B
) Av
g. m
arke
t cap
italiz
atio
n ch
ange
(B)
$0.9
$15.8
‐$11.6
‐$2.1
‐$30.0
‐$25.0
‐$20.0
‐$15.0
‐$10.0
‐$5.0
$0.0
$5.0
$10.0
$15.0
$20.0
Bankruptcy / restructuring n=3
Transi'on announced
Six months post start
Transi'on announced
Six months post start
§ Strategic transformation: VAR correlated to broader corporate change. Strategic transformations had highest negative alpha across all intervals, and 2nd highest potential VAR with unsuccessful transitions garnering an average $24B market cap erosion (-17% average alpha) six months post CEO start.
§ Company circumstances more impact on VAR than how CEO departs: Company-specific factors, such as fraud, regulatory investigations strategic transformations and restructuring/bankruptcy, have more impact on VAR than how the CEO departed (e.g., resignation vs. succession)
Investor perceptions of risk also related to degree of ‘surprise’ and corporate change
5%
37%
40%
75%
24%
39%
33%
14%
71%
25%
27%
11%
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Succession/re7rement
Voluntaryresigna7on
Suddendeparturethroughdeathor
illness
Forcedresigna7on/
termina7on
SignificantValueatRisk ModerateValueatRisk LiHleValueatRisk
Question: Under the following CEO transition circumstances, how much market capitalization do you believe is at risk? (Please rate the following on a scale of 1 to 7, where 1=No value at risk, 4=Moderate value at risk, and 7=All value at risk)
Value at-risk due to outgoing CEO circumstances Avg.
5.07
4.16
4.10
2.82
§ Abrupt changes impact short-term enterprise value the most
14
Investor perceptions of risk also related to degree of ‘surprise’ and corporate change
50%
85%
85%
92%
32%
7%
11%
5%
19%
8%
4%
3%
0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%
Strategictransforma:on
Bankruptcy/restructuring
Crisis
Fraud/inves:ga:on
SignificantValueatRisk ModerateValueatRisk LiKleValueatRisk
Avg.
5.80
5.60
5.50
4.70
Value at-risk due to Company circumstances
§ Significant enterprise threats and transformations impact long-term enterprise value the most
Question: Under the following CEO transition circumstances, how much market capitalization do you believe is at risk? (Please rate the following on a scale of 1 to 7, where 1=No value at risk, 4=Moderate value at risk, and 7=All value at risk) 15
VAR is proportionate to situational urgency, but all instances present risk
41%
50%
57%
61%
81%
84%
36%
34%
29%
32%
11%
10%
23%
16%
14%
7%
8%
5%
0% 20% 40% 60% 80% 100%
Pursuingnewavenues
forgrowth
Replacingabeloved
leader,industryicon
Addressingchangesin
thecompeBBve
environment
Leadingabusiness
transformaBon
Turningaroundpoor
operaBngperformance
Managingthrougha
crisis(e.g.,bankruptcy,
restructuring)
Significantimpact Moderateimpact LiLleimpact
Question: During the first six months following a leadership change, how much impact do the following factors have on enterprise value? (Please rate the following on a scale of 1 to 7, where 1=No impact, 4=Moderate impact, and 7=Significant impact)
Key factors Avg.
5.62
5.44
4.85
4.64
4.54
4.26
§ The more challenging the situation, the greater the threat to the enterprise, the more value is hinging on the outcome
16
Management initiatives can reverse initial negative actions, in most cases
Succession / re,rement n=150
Bankruptcy / restructuring n=3
Fraud / inves,ga,on n=15
Misc. crisis n=4
Transi'on announced
Six months post start
Six months post
Avg.
pric
e pe
rfor
man
ce (n
et o
f ind
ex)
Voluntary resigna,on n=32
Transi'on announced
Six months post start
Avg.
pric
e pe
rfor
man
ce (n
et o
f ind
ex)
Transi'on announced
Six months post start
Transi'on announced
Six months post start
Health n=10
Transi'on announced
Six months post start
Strategic transforma,on n=14
Transi'on announced
Six months post start
Transi'on announced
Six months post start
Forced resigna,on n=35
Transi'on announced
Six months post start
17
Roadmap for a new CEO Global CEO Transition Study
18
6%
7%
10%
12%
21%
29%
34%
46%
66%
68%
37%
31%
31%
19%
28%
48%
37%
33%
27%
23%
58%
63%
59%
69%
52%
22%
29%
21%
7%
9%
0% 20% 40% 60% 80% 100%
Improvedfinancialperformance
Improvedmarketperformanceandvalua;on
Mee;ngstatedfinancialobjec;ves
Mee;ngstatedvision,strategy
Shapingcompanyculture
Alloca;ngcapitalandresources
Overseeingexecu;onofstrategy
Managingtalent
Establishingappropriateexpecta;onsforkey
stakeholders
SeIngvision,strategy
ShortTerm(<6Mo.) MediumTerm(6to12Mo.) LongTerm(>12Mo.)
There is a honeymoon period for new CEOs in the first six months to set vision, strategy and expectations
Question: Under what timeline do you expect to see traction / execution in the following functions?
Key functions and actions of a new CEO
§ Expectations for performance are relatively long term (mostly after the first year)
§ Investors expect the new CEO to assess the situation, create the vision/strategy and set expectations
19
New CEO’s effectiveness is measured by strategy execution and financial stewardship
8%
3%
9%
80%
0% 50% 100%
Other
Stockperformanceand/orvalua9on
performance
Financialperformance
Execu9onofthestrategy
Most important measures of effectiveness
Question(s): Within the first six months following a leadership change, which of the following is most important when measuring the effectiveness of a new CEO? Within the first six months following a leadership change, which financial performance metric is most important to measuring the effectiveness of a new CEO?
27%
10%
11%
24%
28%
0% 20% 40% 60% 80% 100%
Other*
EPSgrowth
Revenuegrowth
Freecashflowofthebusiness
ROICofthebusiness
Most important financial metrics
*Most commonly submitted responses include: “6 Mo. Is too short to measure with financial metrics” and “situational dependent.”
*Most commonly submitted responses include: “6 Mo. Is too short to form an opinion” and “outlining the strategic direction of the Company.”
§ CEO will be held to his/her strategy
§ Stewardship of the Company’s capital and assets is the most important financial measure of success
20
Investors take a multi-dimensional view of a new CEO
Question: During your initial interaction with a new CEO in their first 100 days, what do you look for to further establish your opinion of him/her?
54%
76%
88%
88%
88%
92%
96%
30%
19%
9%
9%
8%
6%
2%
16%
5%
3%
3%
4%
2%
2%
0% 10% 20% 30% 40% 50% 60% 70% 80% 90%100%
Charisma/personality
Leadershipstyle
Astrategicplan
OperaBonalfocus
Vision
Knowledgeof/experiencewithindustrydynamics
Graspofthecompany'schallengesandopportuniBes
Significantimportance Neutral LimitedImportance
Key factors during initial interactions with new CEO
§ Investors primarily look to see how the incoming CEO plans to take command of the company
§ A substantive grasp of the Company’s situation and plans for the future are very important
§ Vision and leadership style are also important in initial interactions
21
Research overview & methodology
22
The FTI Consulting Global CEO Transition Study considered all CEO transitions among companies that had a market capitalization greater than $10B at any point during the time period of July 1, 2007 through June 30, 2010 – This resulted in 263 CEO transitions across 35 countries.
The CEO transitions were grouped and further analyzed by the following categories based on the circumstances leading to the transition: § Succession / retirement – orderly, planned CEO transitions that resulted from retirement scenarios;
§ Resignation – including:
§ Voluntary resignation – situations in which the departing CEO left to pursue other opportunities; and,
§ Forced resignation – situations where there was evidence of a termination or forced removal from office.
§ Special situations – including:
§ Strategic transformation – significant change in strategy or market position;
§ Bankruptcy / restructuring – bankruptcies or significant restructuring ;
§ Fraud / investigation – corporate scandal/wrongdoing or federal investigation;
§ Health – death or other serious illness that results in a CEO departure; and,
§ Miscellaneous crisis – other event-driven/unforeseen circumstance (e.g., natural disasters.)
Global leadership transitions Research objective
The objective of our research was to explore the value-at-risk (VAR) associated with leadership changes, segmented based on the circumstances leading to the CEO transition.
23
To determine the value-at-risk, the selected CEO transitions were analyzed based on net stock price performance relative to a comparable index commonly referred to as “alpha” (i.e., a positive alpha indicates the stock outperformed its benchmark index).
§ Stock performance was benchmarked against relevant comparable indices based on the country of domicile and local exchange (e.g., S&P 500, FTSE 100 Index, Nikkei 225 Index, Germany DAX Index, Paris CAC 40 Index).
Net stock price performance (alpha) was measured on two intervals:
§ Transition Announced (initial announcement of CEO departure) – measures the initial market reaction (one week prior to day of announcement) of the CEO change; one week was used to account for potential news leakage, global market time zones, etc.; and,
§ Six-Months Post Start (succeeding CEO starts) – measures the stock performance six months following the start date of the incoming CEO.
Each transition was further classified based on a number of characteristics to fully encapsulate the details of the situation including background of the incoming CEO and circumstances that lead to the transition.
Methodology Secondary research
24
0.3% 3%3%
33%61%
SouthAmerica
BRIC
MiddleEast/Africa
Europe
NorthAmerica
§ To further explore the value-at-risk associated with a CEO transition, FTI Consulting conducted primary research among institutional investors.
§ Using an online survey format, FTI Consulting solicited feedback from the investment community to better understand the extent to which CEO reputation in general, and leadership changes in particular impact investment decisions and therefore enterprise value.
§ The research was conducted globally, covering a cross-section of countries represented by the sample set.
§ In total, FTI Consulting solicited feedback from 358 portfolio managers and analysts across 37 countries. At 95% confidence margin of error is +/- 5.17%.
Methodology Primary research – global investor survey
Survey demographics – by region
53%
18%
7%
22%
0% 50% 100%
<1B
Between1Band5B
Between5Band10B
>10B
Survey demographics – by AuM
25
Contact:
Elizabeth Saunders
Americas Chairman, Strategic Communications
FTI Consulting
T: +1.312.553.6737
Bryan Armstrong
Managing Director
FTI Consulting | Strategic Communications
T: +1 (312) 553-6707
David Roady
Senior Managing Director
FTI Consulting | Strategic Communications
T: +1 (212) 850-5632
26
Mark McCall
Americas Head of Strategic Communications
FTI Consulting
T: +1.212.850.5641