The Costs of CEO Failure

According to Challenger, Gray & Christmas, the number of CEO departures in the U.S. between 2005 and 2007 averaged almost twice that of the preceding three years. By mid-year 2008, this rate was again on the increase.

December 12 2008 by Nat Stoddard And Claire Wyckoff


Estimated Costs of CEO Failures at 18 Months in Job ($000s)

No.

Item

Large-Cap Companies ($4.5B and up)

Mid-Cap Companies ($1B to $4.5B)

Small-Cap Companies ($300M to 1B)

1.

Average Annual Cash Comp (2007)

1,650

860

640

2.

Cost of Hiring

825

430

32

3.

Total Cash Comp

2,475

1,290

960

4.

Cost of Maintaining

455

230

170

5.

Severence

4,950

1,720

640

6.

Mistakes, Failures, Wasted and Missed Business Opportunities

32,645

13,770

7,840

7.

Cost of Disruption

16,320

6,890

3,920

8.

Total Cost of Failure

57,670

24,330

13,850

9.

Value of Contribution

5,170

2,230

1,250

10.

Net Cost of Failure

52,500

22,100

12,600

Depending on the condition of the company when the CEO leaves then, the “cure could be worse than the disease” insofar as the stock price is concerned-an outside replacement for a company that isn’t doing fairly well could pose a “double-whammy” on the stock’s price and market capitalization.

While the stock price will adjust itself over time based on the performance of the company under its new leader, the impact on its volatility can remain a factor for quite some time following a change at the top. In 2003 Rutgers University and the University of Texas in conjunction with the Federal Reserve Bank published research reporting that a firm’s stock volatility increased with any form of leadership turnover. But a forced departure could trigger an increase in volatility of up to 25 percent, which could last for as long as two years following the event.7

In short, a company’s market capitalization and the stability of its stock are affected when a change is made at the top of a public corporation, and it can take years to fully recover from their effects.

Yet, another-and in some ways perhaps the greatest and certainly the most insidious-cost attributable to a failed leadership change comes from its impact on the organization. This is the price of all the opportunities missed because an organization or an operating unit is leaderless even if only for a short while. The loss of momentum and rise of uncertainty that go hand-in-hand with a change in leadership can, and do, in the estimation of many, cost companies more money, more market share, more loss of reputation and more customer goodwill than any other single event.

Internally, “morale suffers, especially among senior managers, who may wonder if theirs will be the next head on the chopping block. A spirit of innovation and willingness to take risks can disappear for a while, too, as employees wait to see what’s expected of them in the new regime.”8 These people-related impacts are not the “soft, people stuff” that they are sometimes labeled. On the contrary, this “people stuff” is as hard and as real as the currency used to measure organizational success and failure.

Just as the volatility of a company’s stock does not settle out immediately upon the appointment of a new leader, neither do the problems afflicting the organization. In fact, there is one really insidious effect that turnover at the top can instill: a loss of trust. Organizational trust, once lost, can take years to restore.