The cost to the board of ousting the CEO.

• Author: Ward, Andrew

The turnover rate on the board following a CEO exit can be as high as 40 percent.

As far back as Pyrrhus, king of Epirus from 319-272 BC, and his famous Pyrrhic victory over the Romans at Asculum in 279 BC, battles have often been won at great cost to the victor. We have taken a look at battles in the boardroom which have resulted in the ouster of the CEO, and have sought to discover whether these battles are Pyrrhic victories for the board: Does the ouster of the CEO come at the expense of a subsequent turnover of board members?

Circumstances surrounding the exits of CEOs, such as Michael Spindler's departure earlier this year from Apple Computer, have had their share of front-page stories. However, a recent Business Week article listed 10 directors who served on multiple boards of poorly performing organizations, many of whom had eventually ousted their CEO, and pointed to anecdotal evidence from these 10 directors that they suffered no adverse consequences from the apparent failure in the governance of their organizations. If, as many studies indicate, forced exits create higher levels of change within the organization itself, could the same carry over into the boardroom? Does the board also pay a price? Or, is it really true, as Business Week proposes, that the consequences of such negative events are borne entirely by the ousted CEO, offered as scapegoat to the shareholders?

Our study took a look at the changes in the composition of boards for the two years following a CEO succession. We examined factors which might impact rates of change in board composition, such as forced versus routine CEO exits, choice of insider and outsider successors, and the types of forced exits experienced. A group of similar companies with no change in CEO was examined and used as the baseline for expected recurring rates of change in board composition. Companies in the Business Week 1000 (the thousand largest publicly traded companies in the U.S.) between 1988 and 1992 were examined.

All boards experience some change in their composition over the natural passage of time due to the retirement of a director, a director's pursuit of other opportunities, conflicts of interest that arise, or unexpected illness or death. This natural, incremental change can bring an opportunity to reassess the strengths and weaknesses of the board and provide the benefits of needed experience and expertise to the assistance of the CEO, the company, and the shareholders. This natural attrition and replacement of directors happens at a relatively slow pace, with the average rate of change for the group of companies in our study not experiencing a CEO exit being 11% for the two-year period examined.

Interestingly, this rate is considerably less than has been found in studies of CEO tenure and turnover rates. This would indicate that, on average, directors stay on the board longer than CEOs typically hold office, dispelling the perception of boards being comprised of friends of the CEO and indicating that they are more likely legacies of the choices of prior CEOs, following more of a Supreme Court model of governance.

Routine Exits

As companies change over the years, all eventually experience a change in their CEO, typically a planned retirement exit at some predetermined age or other voluntary exit instigated by the incumbent. Such planned exits, with input from both the outgoing CEO and the...