Potential and Experience: Diversifying the CEO Pipeline

Such an assumption seems intuitive at first, and we often see it shape CEO selection processes, but what if the logic is flawed? Our research into CEO performance and the CEO Life Cycle² finds no premium for prior CEO experience. Studying the performance of 855 S&P 500 chief executives over a 20-year period, we see higher market-adjusted total shareholder returns (TSR)³ for those serving in their first role. First-time CEOs on average lead three years longer and with less volatility in performance. And when we look at a subset of CEOs who led S&P 500 companies in both their first CEO role and in subsequent CEO roles, 70 percent performed better the first time. The median year-over-year performance difference between a CEO’s first and second role was a staggering 7 percent per annum. While nearly every experienced CEO (97 percent) outperformed the market in their first role, only a minority of CEOs (38 percent) managed to hit the same benchmark in subsequent roles.

Our research finds that first-time CEOs’ longer-term orientation and more balanced focus between profitability and revenue growth is reflected in their performance — even in challenged companies, first-timers attempt to lead through a mix of growth and profitability. We see a sharper increase in revenue growth in the early years with operational efficiency slightly lagging. Most important, as first-time CEOs progress in their tenure, they manage to increase growth and operational effectiveness in tandem, while we see such convergence less often for experienced CEOs.

Understanding the real drivers of performance can help boards focus their decision-making and select the CEO who is most likely to succeed in light of the opportunities and challenges the company faces. As a product of their prior experience — or lack thereof — CEOs deploy different mental models in how they lead, resulting in different areas of focus and performance patterns.

Diversifying the CEO pipeline

These findings have important implications for diversity of the CEO pipeline. Today’s CEO ranks are still a male-dominated domain: only about 10 percent of Fortune 500 CEOs are women and a similar percentage are from underrepresented ethnic or racial groups. Reliance on prior experience as an indicator of future success perpetuates the status quo and represents yet another barrier to underrepresented groups. Over-reliance on misleading indicators of success unnecessarily shrink an already small talent pool even further, thereby excluding many viable candidates that may not have been a CEO previously but have the capacity and ability.

To remove the biases that disadvantage underrepresented groups, boards should use a structured assessment approach that focuses on how well executives align with the specific capabilities and leadership style required for success in the role, as well as individuals’ ability to develop, adapt to changing contexts and make well-reasoned judgments. “If someone is CEO material, they will figure it out. Nobody is ever ‘ready,’” one CEO told us.

For the longer term, boards, CEOs and CHROs must reframe how they manage their CEO search and succession planning today so there is greater representation across all backgrounds in three, five and even 10 years. This requires consistent, deliberate efforts in six areas:

• Setting intentional objectives
• Building diverse leadership pipelines earlier
• Maintaining the diversity of the candidate pool right up through selection
• Balancing critical career experience with assessment for potential
• Mitigating bias through education and vigilance
• Providing post-selection support for success

Companies will improve the odds of having the right CEO for the future when they develop a pool of talent with diverse backgrounds, skills and perspectives. This requires a dynamic process to discover and develop candidates with high potential and a willingness to look beyond experience.

This article originally appeared in The Leverage Network's Spring Edition Newsletter.