SUCCESSION PLANS AND INNOVATION

SUCCESSION PLANS AND INNOVATION 

By: Fernando Cárdenas E.

For a long time business schools have taught the importance of succession plans in companies. Being clear about who are the possible candidates to replace the president or CEO is associated with having good management practices. Well it seems that is not the case. In a recent study, Professor Zhou from Bowling Green University analyzes the relationship between succession plans and innovation and company performance. Below, I summarize their findings and possible implications.

The succession of the president of a company is an inevitable process that is usually perceived as being risky. The replacement of the top executive of a company generates great uncertainty in relation to the continuity of the business strategy, with changes in the personnel structure and in general with changes in business policies.   

ADVANTAGES AND DISADVANTAGES OF SUCCESSION PLANS 

The main purpose of succession plans is to guarantee the continuity of the business and its strategy, reducing uncertainty and mitigating the risks corresponding to a transition in leadership of the company. In order to facilitate this transition, companies tend to select collaborators who are very close to the president they want to replace. In fact, many of these transition processes are gradual and the replacement begins to assume various responsibilities of the CEO before being formally appointed to the position.   

However, these planned succession processes can generate risk-averse cultures that substantially affect disruptive changes, innovation, and the competitive capacity of companies. In these cases, organizations reward the “status quo” too much and can stagnate, reducing their ability to adapt to changes in the environment and technological trends. Innovation requires company managers to be willing to take risks. Succession plans can create cultures in which potential successors are reluctant to take risks and disruptive actions so as not to jeopardize their chances of succeeding the CEO. Additionally, succession processes usually prioritize continuity and stability over radical changes in the company's orientation.  

THE STUDY AND ITS FINDINGS

In this research, the author uses both patent data and their market value as measures of company innovation and collects information about the succession plans of 17,545 companies. After taking into account other factors that may affect innovation, such as the relationship between market value and book value (Tobin's Q), return on assets, company size, investments in property, plant and equipment , the length of time the existing CEO has been in office, the shareholding composition and the concentration of the industry in which the companies participate, the results show that the effects of succession plans on innovation are negative. These findings are consistent with the idea that employers' successors may become more cautious due to their concerns about advancing in positions and pleasing their bosses. 

THE EFFECT OF SIZE 

Succession plans, according to the study, appear to have greater negative impacts on innovation and business performance in smaller companies than in larger companies. This may be because smaller companies have fewer resources and the effect on the business of using those resources and management time on succession plans is greater.  

THE VALUE FOR SHAREHOLDERS

Additionally, the author shows that, according to the data, succession plans also have a negative effect on the market value of organizations. This occurs because creating a risk-averse culture in potential successors affects innovation, product creation, and the implementation of strategies that create value for shareholders. While CEO succession is a central issue of corporate governance, it is important to take into account the negative effects it can have on innovation and the creation of shareholder value and take the necessary measures to reduce that impact.  

MAIN CONCLUSIONS

Although succession plans appear to provide peace of mind in the transition between CEOs, the study shows that they can influence maintaining the “status quo”, affecting innovation, business performance and value for shareholders. 

This suggests that having a certain level of improvisation in succession could be better for organizations. Stopping having those cults where succession depends mainly on alignment with previous administrations to explore different and, if you like, more revolutionary options, could have positive effects on innovation and the creation of value for shareholders. Promoting risk-taking cultures and putting in place appropriate incentives can help mitigate these effects. Boards of directors with people who think differently, who constructively question management, and who value somewhat revolutionary executives, can also have important effects on innovation and value creation. The reality is that today our companies reward too much the submission and unconditional alignment of all the people in the organization with their managers. Succession plans could have fewer negative effects if the cultures of these companies valued different thoughts more and created incentives that, instead of rewarding submission, rewarded innovation and valued different initiatives that lead to the creation of shareholder value.