Inside vs. Outside: Reeling in the New CEO

In many areas of business, companies face a basic choice—build or buy? And in a sense, that’s the case when it comes to finding a new CEO. That is, do we draw on internal talent, or do we look outside?

The CEO1000 Tracker shows that companies clearly tend to look inside for CEOs, with more than three quarters of today’s CEOs having been promoted from within. The smallest companies (5,000 employees or less) and largest companies (100,000-plus employees) are somewhat more likely to have internally sourced CEOs. There is also some variation by industry, with more media, retail and technology CEOs being recruited from outside the company.

Internally sourced CEOs are most likely to have been COO, president or executive vice president prior to taking on the top job. On average, they were with their companies for 22 years before becoming CEO. Nearly three out of 10 started their careers at their company, a group that averages 25 years with the organization before becoming CEO. And 5% are the ultimate insiders, having founded the companies they currently lead.

The road to the top differs somewhat when looking at CEOs brought in from the outside. Here, the CEO role is by far the most common source of talent, with 44% having come from that position. Presumably, boards like the experience and track record they see in those who are already CEOs.

Overall, the emphasis on hiring CEOs from within probably stems from the fact that boards see it as the lower-risk route. “There are many studies that show better performance over time for companies who promote insiders to the CEO role,” says Dr. Paul Winum, head of RHR International’s Board and CEO Services practice.

“Except in situations requiring a turnaround or change in strategy, inside successors are usually the preferred option and are able to leverage their knowledge of the company, its culture and the talent to build on past performance. Plus, the compensation required to bring in an outside leader is on average more than twice as expensive, as there is usually a need to buy out stock options.

Investing in the development of internal CEO pipeline candidates usually yields a much better ROI.” In addition, he says, “an inside succession often indicates a planful development process over years with an intentional grooming process.”

At the same time, however, internal experience is no guarantee of success: In the CEO 1000, the CEOs at the lowest performing segment of companies actually had the highest number of years with their companies, on average—a reminder of the importance of leadership development and careful succession planning when relying on the internal pipeline.